8 Small-Cap Stocks That Promise Big Returns
It may be a small world, after all—but not on Wall Street, where small-cap stocks continue to lag the broader market. The Russell 2000
and S&P Small Cap 600 indexes are down 8.3% and 9.5% in 2025, while the S&P 500 is roughly flat.
Still, both small-cap indexes have gained nearly 20% from the 52-week lows they hit just after Liberation Day. Hopes are growing that the Trump administration will focus more on domestic economic stimulus, such as extending tax cuts and deregulation, and less on tariffs and trade. That should be good news for smaller U.S. companies.
It also doesn’t hurt that small-caps continue to look very cheap compared with their megacap brethren. The S&P 600 trades for less than 16 times 2025 earnings forecasts, compared with a price/earnings ratio of more than 22 for the S&P 500. That’s a bigger-than-usual discount.
Tim Skiendzielewski, a portfolio manager at Rockefeller Asset Management, says small-cap valuations remain unreasonably depressed, especially if investors are underestimating the potential for earnings growth to accelerate. Analysts are now forecasting a 20% jump in earnings per share for the S&P Small Cap 600 in 2026, and that could be just the start of several years of strong growth. More merger activity —combined with hopes for increased infrastructure spending from Washington—should also boost small-caps, says Skiendzielewski, who thinks industrials, tech, and financial stocks should be the biggest winners from these trends.
More easing from the Federal Reserve, which the market is pricing in for later this year, would also give small-caps a lift. That’s because many of the stocks rely on floating-rate debt to fund growth. Lower short-term rates would give these companies a boost. “Small-caps are very sensitive to interest rates,” says Peter Roy, a portfolio manager at Argent Capital, which runs the actively managed Argent Focused Small Cap exchange-traded fund. “Fed cuts could help.”
Look no further than the housing market, which could get a lift from lower interest rates, especially if construction activity increases, says Roy. “There is a chronic undersupply of homes,” he says. “Housing starts are not keeping up with demand and people with low mortgage rates are staying in existing homes longer.” He owns Green Brick Partners, a land developer building new homes in suburban areas, Champion Homes, a manufactured-home builder, and UFP Industries, a supplier of wood and composite decking.
Others are looking away from economically sensitive areas to those that can grow no matter the environment. Randy Gwirtzman, a portfolio manager at Baron Capital, points to small-cap defense and cybersecurity stocks as attractive in light of plans for increased military spending in the U.S. He owns missile defense companies Mercury Systems and Karman Holdings, which could benefit from Trump’s Golden Dome plans, as well as unmanned drone maker Kratos Defense & Security Solutions and cybersecurity companies CyberArk and SentinelOne, in the Baron Discovery fund. “Investors are underallocated to small-caps and should be investing in secular growth,” Gwirtzman said.
But looking for profitable companies is key, particularly as bond yields spike. Analysts at 22V Research noted in a recent report that going “long quality [and] short unprofitable small-caps is a pure representation of the ‘rates are too high’ trade.” Argent’s Roy acknowledged that a significant chunk of companies in the Russell 2000 are unprofitable. He only invests in ones that are making money. “That culls our investible universe pretty quickly,” he said.