Fed Rate Cuts Could Help Small Stock Investors

Jerome Powell delivered the dovish message that the market was anticipating on Friday morning. He stated that “the time has come for policy to adjust. The direction of travel is clear, and the timing and pace of rate cuts will depend on incoming data, the evolving outlook, and the balance of risks.”

It was welcome news but not surprising. There was some concern that the news had already been fully discounted, and with the indices and so many stocks extended, it would produce a sell-the-news response. There was some selling in the Nasdaq 100 (QQQ), and the Magnificent Seven names lagged, but breadth was very strong with over 8000 gainers to 1300 decliners. Over 1250 stocks hit new 12-month highs.

The most positive aspect of the action was rotation in the Russell 2000 (IWM) and smaller stocks. The IWM gained 3.2% and is back to the levels it hit in mid-July.

The conventional wisdom is that smaller stocks tend to outperform in an easing cycle because they are more likely to care about debt and need financing. Big-cap technology names that hold huge amounts of cash are slightly handicapped by lower rates.

The rotation into smaller stocks and the broader market is very positive. This is what is needed for a sustainable uptrend to build. The market has been riding narrow strength in big-cap technology for a long time, and that was not healthy. We now have signs of a real bull market rather than a fake narrow one.

There are two more important events coming up that will have a market impact. The first is Nvidia (NVDA) earnings next week, which will impact the AI narrative, and the second is the August jobs report, which will impact whether the Fed will cut rates by a quarter or half point in September.

It looks good for the bulls, but we still have extended technical conditions and negative seasonality that could be obstacles.

Have a great weekend. I’ll see you on Monday.