Bank of America says small caps stock ‘still cheap’ despite rally

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Russell 2000 forward P/E increased to 13.5x in November from 12.3x in October, reaching its highest level since February.

Despite the strength in small caps, it remains the only historically inexpensive size segment, trading at a 12% discount to its long-term average, compared to premiums of 5% and 21% for mid/large caps and a 27% premium for mega caps, according to Bank of America equity strategists.

Even the Russell 2000, including non-earners and outliers, is still trading below average, the strategists said.

“An accelerating profit cycle would favor small cap Value over Growth – with even wider return spreads than in large caps.”

The relative forward P/E of the Russell 2000 vs. Russell 1000 rose to 0.72x from 0.71x, still nearly 30% below its long-term average.

For long-term investors, where valuation is more predictive over the next decade, P/Es imply 11% annualized price returns over the next decade for the Russell 2000 vs. 3% per annum for the Russell 1000.