Goldman Sachs: The rally in US stocks will extend to small-cap stocks

Goldman Sachs strategists have stated that, in the context of a resilient economic outlook, previously underperforming small-cap stocks are set to catch up, further expanding the rally of the U.S. stock market, which has been hitting new highs.

Led by David Kostin, the strategist team recently pointed out that the current rally in U.S. stocks has been driven by a handful of stocks, resulting in a narrow market breadth, which leaves room for sectors like small-cap stocks to experience a "catch-up" rally. They believe that the upcoming interest rate cuts by the Federal Reserve and a rebound in corporate earnings will increase the likelihood of the rally spreading from a few leading stocks to a broader market.

Goldman Sachs reiterated its year-end target for the S&P 500 index at 6,600 points. This bullish view has also been echoed by Wall Street peers, with Morgan Stanley's Michael Wilson similarly expecting further gains in U.S. stocks and noting that the U.S. economy is transitioning to an "early-cycle" phase, which will support a "sustainable and broad" recovery in corporate earnings.

Despite the optimistic market sentiment, last week's weaker-than-expected non-farm payroll report has raised concerns among some investors. There are views suggesting that stock market valuations have "priced in perfect expectations," and the weak economic data adds uncertainty to the outlook, with concerns that central banks have waited too long on interest rate cuts.

Narrow Rally, Rotation Opportunities Emerge

Goldman Sachs believes that a significant characteristic of the current U.S. stock market is the overly concentrated rally, which actually indicates that there is room for a rotation.

According to David Kostin in a report, the median stock price of S&P 500 constituents is still 11% below its 52-week high due to the rally being dominated by a few stocks. He wrote:

"The narrow market breadth suggests that there is still room for 'catch-up' trades in those lagging market sectors."

Regarding specific rotation directions, Goldman Sachs has clearly pointed out the short-term potential of small-cap stocks. Kostin stated that the recent strong performance of the Russell 2000 small-cap index is further evidence of market rotation. He believes that small-cap stocks still have room to outperform large-cap stocks in the short term.

However, this advantage may not last long. Kostin also noted that he expects the strong performance of small-cap stocks will not continue over the next 12 months. This indicates that while market breadth is expected to improve in the short term, investors should remain cautious about long-term positioning.

Wall Street Bullish Views Align

Last week, U.S. stocks reached new historical highs, driven by investor confidence in economic growth resilience and the prospects of Federal Reserve interest rate cuts. Additionally, the ongoing artificial intelligence boom continues to inject momentum into tech-heavy stocks.

Kostin maintains his forecast for the S&P 500 index, expecting the benchmark index to reach 6,600 points by year-end, representing about a 2% upside from current levels, and to rise another 6% before mid-2026. Notably, as U.S. trade policies have caused market volatility, Kostin and his team have oscillated between bullish and bearish views this year Goldman Sachs' optimistic view on the U.S. stock market has gained recognition from other institutions on Wall Street. Morgan Stanley's Michael Wilson also expects U.S. stocks to rise further, although short-term volatility may increase. He reiterated that the U.S. economy is transitioning to a so-called "early cycle" phase, which will support a "sustained and broad" recovery in corporate earnings.

However, not everyone is so optimistic. Lori Calvasina, a strategist at RBC Capital Markets, believes that last week's weak employment data is causing market unease. She argues that in a market "priced for perfection," this data adds uncertainty.

Risk Warning and Disclaimer

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