Fast reading
- The Russell 2000 Index logged a record-high for the first time in three years on Monday.
- Many investors expect that a Republican-led government will support US smaller companies with pro-growth, domestic-focused policies and tax cuts.
- In Europe, Italian lender Banco BPM rejected Unicredit’s surprise takeover bid.
The Russell 2000, a benchmark for US small-cap stocks, hit a fresh record on Monday as investors showed renewed confidence in domestic-focused companies. The rally was driven by hopes of a more favourable economic outlook, with expectations of easing inflation and potential policy shifts that could benefit smaller, growth-oriented businesses in the US.
The asset class has found itself in the spotlight this year as the election shone a spotlight on domestic issues and has been buoyed by the start of the US Federal Reserve’s (the Fed) easing cycle. US smaller companies typically rely heavily on the domestic economy, and measures to boost infrastructure spending, energy production and job creation could provide significant tailwinds, while trade policies focused on reshoring manufacturing might provide further support.
Mark Sherlock, Head of US Equities, Lead Portfolio Manager, Federated Hermes Limited, notes how investors have been seeking opportunities in smaller cap names following the surge in valuations of leading mega-cap stocks earlier this year.
“The US election result is seen by some as a potential catalyst for a change in market leadership, with many Republican party policy priorities – deregulation, inward investment, and the rekindling of ‘animal spirits’ – all good news for US SMID companies. The attractive valuations of many of these businesses further adds to their appeal,” Sherlock says.
“Consequently, we expect 2025 to be another strong year for the US SMID class as a broader group of companies benefits from this enlivened economic backdrop, with ongoing support provided by falling inflation and interest rates,” he adds.
The recent rally marks a resurgence in the small-cap sector, with the Russell 2000 Index returning 4.5% last week and gaining over 10% in November alone1.
Figure 1: A snapshot of stock market returns
“We are very constructive on the outlook for US equities in 2025, and in particular, the small and mid-cap space. The US economy is in reasonable shape, and valuations in the US small and mid cap space are attractive, both relative to their history but also relative to their large-cap peers, where they are trading at around a 25% discount. Given the easing monetary environment, this should provide strong tailwinds for the sector,” says Charlotte Daughtrey, Equity Investment Specialist, Federated Hermes Limited.
“Trump’s decisive election win and his pro-domestic agenda should also be supportive for these stocks. They are the economic backbone of the economy, and their revenue splits are around 70-80% domestically-focused, whereas for their large-cap peers, it is around 50/50. Our base case, assuming there are no geopolitical issues, should be for some inflation and interest rates – but that, again, should be supportive of high-quality, small and mid-cap stocks,” Daughtrey adds.
Offer, denied
In an unexpected move earlier this week, Italian bank UniCredit announced a voluntary public exchange offer for fellow Italian lender Banco BPM valued at €10.1bn, in an all-share deal. The offer, which would have merged two of the country’s largest lenders, was rejected by BPM on Monday, as board members said the offer failed to reflect the bank’s profitability.
“The move underscores UniCredit’s strategic agility and commitment to strengthening its market position in Italy, but Banco BPM board’s rejection was to be expected,” says Filippo Maria Alloatti, Head of Financials for Credit at Federated Hermes Limited.
“The ball is now in UniCredit’s camp to come back and sweeten the offer,” Alloatti adds. “This seems inevitable given that UniCredit has the latitude to offer more generous terms, especially considering the expected profit before tax for Banco BPM in 2026. This takeover will have limited impact on UniCredit’s capital buffers due to the all-share structure, though there are potential concerns over concentration risk and spreads. Although, I do expect the takeover to positively impact the credit spreads of Banco BPM, despite the modest share premium.”
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