Will smallcap stocks ever break out?

If you own the FAANG stocks you have been happy. But if you prefer to not own megacap equities it has likely been a bumpy ride?

Will the tide ever turn?

Paradigm Capital analyst Aazan Habib says it looks like smallcap stocks, which many have reported are trading at historic lows, may finally be ready for their moment in the sun. But a little more pain may precede that moment, he predicts.

In a research report entitled “Every Dog Has Its Day: Small Caps Breaking Out, But Seasonal Correction May Be Needed First”, the analyst said there are green shoots emerging.

“Small, mid and equal-weight benchmarks are transitioning into stage 2 uptrends; overbought conditions, elevated put/call ratio and summer liquidity set the stage for a seasonal correction as US elections remain focal point,” he wrote. “The lack of participation or relative performance from securities down the cap scale has been a major talking point for the bear case, but this is now becoming a data point in favour of bulls as the Russell 2000 and equal-weight ACWI transition into stage 2 uptrends on their weekly charts (using the Stan Weinstein stage model). The TSX Small Cap and ASX Small Ordinaries indices are also demonstrating the same bullish structures on their weekly/monthly charts.”

Habib says a correction may very well be coming but it is probably not the beginning of a new bear market.

“After the extreme breadth expansion following the CPI print, overbought conditions are starting to correct. From a seasonal perspective, the calendar tailwinds that have been in place for the past month now turn into headwinds going into the fall. The combination of overbought conditions, an elevated put/call ratio and summer liquidity sets the stage for a potential corrective phase,” the analyst added.