Small Caps Likely to Keep Lagging Behind Large-Cap Peers in the U.S., Even as Economic Fears Ease
U.S. small-cap stocks have consistently underperformed their large-cap counterparts over the past decade—a trend that’s unlikely to change anytime soon, even if concerns about the economy begin to subside.
There have been brief periods of small-cap outperformance, such as last summer’s surprise “great rotation,” but these rallies have proven short-lived. According to John Higgins, chief markets economist at Capital Economics, large caps are still expected to deliver superior returns for the foreseeable future.
“Small caps could benefit if economic worries ease—which we expect, despite potential trade tensions—but it likely won’t be enough to spark a lasting turnaround in their relative performance,” Higgins noted in a report shared with MarketWatch.
While small-cap advocates often point to lower valuations as a reason to stay invested, Higgins warns that valuation alone rarely drives near-term performance. Investor appetite remains focused on growth and innovation, particularly in artificial intelligence, where leadership is concentrated among megacaps like Nvidia Corp. (NVDA).
Higgins also dismissed the notion that small-cap underperformance is merely a byproduct of Big Tech dominance. Even on an equal-weighted basis, small caps have lagged.
Interestingly, this lag is largely a U.S.-centric issue. European small caps have managed to keep pace with their large-cap peers in 2025.
Despite recovering from April’s tariff-related volatility, U.S. small-cap indexes like the Russell 2000 and S&P 600 remain down nearly 6% and 8% respectively for the year. In contrast, the S&P 500 has gained more than 1.5%, per FactSet data.
Historically, research by Eugene Fama and Kenneth French has shown that small-cap stocks tend to outperform over the long term due to higher risk. However, in today’s environment, the near-term outlook still favors large caps.
