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Small caps: An end to US exceptionalism

Small-cap stocks in the US have so far weathered the deteriorating credit market conditions better than their international peers. According to Credit Suisse, however, the situation, is looking increasingly anomalous and is likely to change as the effects of the liquidity crunch catch up.

US small caps have surprisingly outperformed their large-cap peers for much of the year, continuing their seven-year stretch of outperformance vis-à-vis their larger compatriots. They are now starting to look conspicuously expensive, however, particularly as smaller, lower -rated borrowers should be expected to fare less well in an economic slowdown.

Tough terms

Indeed, according to Credit Suisse, widening credit spreads for lower-rated companies suggests that smaller companies will soon find the commercial bank loans available to them being offered on increasingly tough terms. This does not bode well for smaller companies, among which business confidence is already at recessionary levels.

The outperformance of US small caps so far this year is noticeably different from that of small caps in the UK, whose stocks have been among the hardest hit from investors’ rising risk aversion and flight to "safer" assets and where small caps have now fallen to the extent that they are starting to look on the cheap side.

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