Post-pause rate cuts have been a great time for small caps, history shows
If history is any guide, small stocks could get an outsized boost from a Federal Reserve rate cut Wednesday and any that may follow the rest of the year. The U.S. central bank is almost universally expected to lower its federal funds rate by 25 basis points — or a quarter percentage point — at the end of its two-day, September meeting. The CME FedWatch Tool shows that the market has priced in a 96% probability of a quarter-percentage-point cut and just a 4% chance that the Fed cuts by a half-percentage point. While most asset classes stand to benefit from easier monetary policy, which can spur economic growth and higher profits, stocks with smaller capitalizations stand to benefit the most, Canaccord Genuity wrote in a note earlier this month. That’s because lower interest rates make borrowing costs less burdensome, and smaller companies tend to have more debt and rely on bank funding than their larger, cash-rich counterparts. But rate cuts that follow a long pause in the easing cycle have also resulted in smallcap returns that are much stronger than average, Canaccord Genuity analyst Michael Graham wrote. The Federal Reserve has kept policy on hold ever since last December, leading to a 10-month interval between rate reductions. IWM 1Y mountain iShares Russell 2000 ETF over the past year “One somewhat unique characteristic of this easing cycle has been the elongated nature, with a long pause since the last rate cut in [December] 2024. Returns following rate cuts that have come after a pause of at least 126 trading days are encouraging. This has happened 4 times previously since 1980, with the exception of June 1989; returns have been decisively better than for all rate cuts on average,” Graham said in the report. “Further, small-cap returns in these instances have been much better than for large-cap stocks. The average return for the [Russell 2000] 12 months following these post-pause rate cuts is 35% vs 23% for the SPX .” The Russell 2000 ( RTY) tracks the smallest 2,000 stocks in the Russell 3000 index. Graham’s optimism echoes that of other investors, including Tom Lee, head of research at Fundstrat Global Advisors. Last month, Lee said CNBC’s “Squawk on the Street” that a dovish Fed means good times for small-cap stock performance . “I think it means we have a dovish Fed again,” Lee said. “That’s kind of a green light for small caps.” Investors can obtain exposure to small caps as a group through exchange-traded funds such as the iShares Russell 2000 ETF (IWM) . ( Learn the best 2026 strategies from inside the NYSE with Josh Brown and others at CNBC PRO Live. Tickets and info here . )
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