According to analysts at Bank of America, small-cap stocks stocks are still historically cheap despite the rally during the fourth quarter.
In a note from the investment bank, it was said P/E ratios expanded across size segments to their highest levels since early 2022 following December's rally. "The Russell 2000 forward P/E climbed to 14.7x from 13.5x, the Russell MidCap P/E climbed to 17.2x from 16.0x and the Russell 1000 P/E climbed to 19.7x from 18.8x," the analysts wrote. "But small caps remain the only size segment that is historically cheap, trading 3% below their long-term avg. P/E vs. 27% above avg. for large caps and 13% above for mid-caps."
Analysts explained that while the relative P/E of the Russell 2000 vs. Russell 1000 also expanded last month to 0.75 from 0.72, it is "essentially flat from where it started the year" due to similar P/E expansion in both small and large caps, meaning it remains 25% below its historical average.
"For long-term investors (where P/E is more predictive over a 10yr horizon than near term), valuations today imply a particularly attractive backdrop for the Russell 2000: 10% annualized returns over the next decade vs. 3% for the Russell 1000," the analysts added.
BofA also noted that small-cap value is still historically cheap compared to growth, while small-cap financials rank as the number one sector, with energy dropping to second place.