🎙️ David Vs Goliath

📈 Is the Magnificent 7 a bubble?

Valuations are rich, but earnings per share revisions have largely supported the price appreciation, according to analysis in our latest edition of We Study Markets Pro.

Want more insights on valuations and price appreciation of Nvidia, Meta, Alphabet, Amazon, and more? Check out our deep dive on the Mag7.

Our Chart of the Day offers a sneak preview, too.

— Matthew & Shawn

Here’s today’s rundown:

Today, we'll discuss the biggest stories in markets:

• Small-cap stocks fall short in their David VS. Goliath battle

• The Baltimore bridge collapse’s economic impact

This, and more, in just 5 minutes to read.

Chart of the Day

In The News

👎 Small-Cap Stocks Suffer Worst Run In Years

Sometimes, David doesn’t beat Goliath. Actually, it’s been several years straight since David beat Goliath. That is, David being “small-cap stocks” and Goliath being large-caps (think the Magnificent 7 and the S&P 500 generally.)

The Russell 2000—the 2,000 smallest companies out of the roughly 3,000 noteworthy companies that trade publicly in the U.S.—has a median market capitalization of approximately $1 billion.

• So, these aren’t necessarily neighborhood businesses, but they aren’t massive operations, either.

Small-cap premium: For decades, small-cap stocks have been considered riskier yet offer greater upside, as they have more room to grow than already mainstream brands. In other words, being less established means more volatility, both on the upside and the downside.

• Because of market inefficiencies—less reliable financial projections from analysts, if any at all, and share prices that don’t perfectly track changes in companies’ value—small-cap stocks have historically been a haven for stock-pickers to find winners and beat the market averages.

What’s been happening: In aggregate, due to higher risks but more potential, small-caps are expected to outperform blue-chip stocks, yet that hasn’t happened recently. Since 2020, the Russell 2000 is up just 24%, while the S&P 500 has risen over 60%.

• Weaker balance sheets and more modest pricing power have weighed on small-caps, as inflation and then interest rates have surged.
  

• A small-cap portfolio manager at Goldman told the FT, “I’ve been investing in small-caps for almost 30 years, and you haven’t seen big money moving into the space since 2016 or 2017.”

Why it matters:

Instead, big names like Apple, Meta, Alphabet, Tesla, Microsoft, etc., have captured investors’ interest. Some think our increasingly digital economy will have a less balanced distribution of financial returns.

• Put differently, the internet and the AI revolution may magnify “winner-take-all” dynamics in markets.

Another perspective: There are simpler conclusions. One is that Russell 2000 companies are more exposed to short-term or floating-rate debt, comprising 40% of their collective balance sheets versus 9% for S&P 500 companies.

Meaning, they couldn’t lock in low pandemic-era interest rates for as long and have felt the sting of higher rates more since 2022.

• That differential, among other factors, is carrying through to earnings, which is what ultimately drives stock returns.
  

• Last year, small-cap earnings fell 17.6% in the fourth quarter, while S&P 500 companies’ earnings rose 4%.

Is this an opportunity? The mean reversionists among us will see this as a bullish prospect for the Russell 2000, assuming the performance gap between large-caps and small-caps is unsustainable. On that point, the outlook for small-caps is seemingly good, with analysts anticipating 14% earnings growth for 2024.

• Said one investor, “The only time you’ve seen relative multiples this cheap (for small-caps) was during 1999 and 2000, and that ended up being a great decade for small-caps.”

Read more

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🌉 How the Baltimore Bridge Collapse Could Disrupt Things

A key piece of American infrastructure collapsed Tuesday, sending ripple effects across our supply chains. 

After a ship struck the Francis Scott Key Bridge, the Port of Baltimore—among the nation’s busiest—halted vessel traffic indefinitely. This will impact commerce in the U.S., as Baltimore is the largest handler of U.S. imports and exports of cars and light trucks. 

The bridge’s collapse also cuts out a key part of I-695, an alternate route for hazardous materials and oversized vehicles that are prohibited to drive through the Baltimore Harbor Tunnel. 

• Commercial ships bound for Baltimore were halted, which could spur a shift to moving goods through West Coast ports, according to Bloomberg.
  

• The Port of Baltimore was the 17th largest in the U.S. by total tons in 2021. It’s key for autos (~750,000 vehicles), construction machinery, and coal. Baltimore is also a niche port for the soybean trade, such as soy used in tofu, miso, and tempeh.
  

• Last year, it handled 52.3 million tons of foreign cargo worth nearly $81 billion and created more than 15,000 jobs. Another 139,000 indirect jobs are connected to the port, generating over $3 billion in total personal income. 

Suffice it to say, it’s a key American port with a lot on the line. It’s also a great location — closer to the Midwest than any other East Coast port and only a few hours’ drive from 30% of the U.S. population. 

• In 2023, the port handled a record 52.3 million tons of international cargo worth about $80.8 billion.
  
  
  

  

  Source: The Washington Post

Why it matters:

The CEO of the Association for Supply Chain Management noted that Baltimore port’s suspension is “one more disruption in an already-stressed system” for the global supply chain. 

A wrench in the supply chain: Cargo must be rerouted, which impacts other ports. (For example, the Virginia Port will likely see greater volume.) Overall, it’s a big logistical headache for U.S. ports and shipping companies, just as pandemic-era supply chain issues aren’t fully in the rearview. 

• “It just shows how you throw a wrench in the supply chain, and the impact is not just confined to that one port,” the CEO added. 

Read more

More Headlines

💴 The Japanese yen slips to the lowest level against the dollar since 1990

🏰 Florida and Disney reach agreement after a yearslong dispute

💳 Robinhood unveils new credit card that can invest cash-back rewards 

👀 SEC scores win in lawsuit against Coinbase

🚜 Even John Deere is getting in on the AI boom

📉 Canada Goose is the latest retailer to struggle, cutting 17% of staff

🚢 Controversial Titanic floating door prop sells for $718,750

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