Small-Cap Stocks Usually Surge in Presidential Years—but Not This One So Far

Small-capitalization stocks typically shine in presidential years, according to a Royce Investment Partners study of the last 10 cycles of the quadrennial national election. But that pattern does not seem to be holding in 2024, at least thus far.

With valuations between $300 million and $2 billion, the small-cap Russell 2000 Index has historically outpaced the large-cap Russell 1000 by almost three percentage points, with averages of 11.9% and 9.2%, respectively, starting with the 1984 contest.

That outperformance becomes even more pronounced after the vote: When looking at a one-year period following Election Day, the small-cap index averaged 20.1%, versus 16.8% for the large-cap benchmark. What about for the year leading up to Election Day? Large-caps are slightly ahead, averaging total returns of 6.3%, compared with 5.8% for small-caps. Consistently, after Election Day, small-caps get their upward bump.

That initial pre-election large-cap edge is persisting in 2024, albeit with just two months left before the balloting. So far this year through Tuesday’s close, the Russell 1000 was up 15.8%, while the Russell 2000 was ahead just 6.8%. In other words, small-caps have a lot of ground to make up to conform to the norm.

The turbulence in the U.S. political arena may explain the difference. This year “has already proven to be notable for its unpredictability, nearly unprecedented, and very much unprecedented events,” wrote Francis Gannon, co-CIO of Royce.

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He pointed to the attempted assassination of former President Donald Trump, the GOP nominee; the exit of President Joe Biden from the race and his replacement as the Democrats’ standard-bearer by Vice President Kamala Harris; “and extreme reversals in the polls.” Harris has erased Biden’s six-point deficit in national polls and is now slightly ahead of Trump.

Historically speaking, why do small-caps tend to outperform in presidential years? Another study done early this year, by Cambiar Investors, an asset manager, found that small-caps, especially value-oriented ones, are “often more nimble and locally focused [and] may benefit from specific policy changes or economic shifts that elections can herald. Their undervaluation, coupled with the potential for significant upside, makes them a compelling choice for investors looking to capitalize on election-year dynamics.”

Small-caps have been overshadowed in recent years by tech-dominated large-caps, especially with the popularity on Wall Street of artificial intelligence.

“The AI mania that has gripped markets for the past two years hasn’t done much for small stocks. Instead, all the attention has redounded to mega-caps like Nvidia, Microsoft, Alphabet and Apple,” wrote John Coumarianos, CEO of Mindful Advisory, in a fund analysis published last month in CityWire.

But the large-cap upward momentum began to slow this year amid fears of a recession, or at least an economic slowdown. Of course, small-caps are affected by such sentiments as well, but an accompanying dynamic is working in their favor.

The Federal Reserve, seeking to forestall an economic slide, is prepared to cut interest rates—and smaller stocks are often more dependent on debt than their sizable brethren. Thus, per a BlackRock analysis from April, “Should rates indeed decline, smaller companies stand to benefit disproportionately.”