The stock market is going through a shift, and if you’re only looking at large caps and AI-driven momentum stocks, you might be missing a huge opportunity.

Small-cap stocks, which have lagged behind in recent years, are setting up for a big comeback. 

Let’s break down why this rotation is happening and how investors can take advantage of it.

A market rotation is underway

For a while now, the market has been dominated by a handful of big names—think AI giants and mega-cap tech stocks.

But we’re seeing a shift in capital away from these high-flying names into underappreciated sectors like materials, healthcare, and energy.

This kind of rotation happens in cycles. When one group of stocks becomes overbought (and overpriced), investors start looking for value elsewhere.

Right now, that “elsewhere” is in small caps.

Why small caps are undervalued

A lot of investors use the Russell 2000 to gauge small-cap performance, but here’s the problem: The index is skewed.

You see, the Russell 2000 is a market-cap-weighted index, which means the biggest companies in it have more sway over its performance. 

And some of the biggest names in the index have been having a rough time lately—dragging the whole Russell 2000 down with them.

But, while the overall index might seem to be struggling, many of the smaller companies within it—especially those with strong fundamentals and growth potential—are doing just fine.

In a nutshell, if you look at the Russell 2000, you might think all small caps are doing poorly. But in reality, a few big players are pulling the index down, while a lot of smaller companies are quietly offering great opportunities.

3 tailwinds to send small caps surging

Right now, several major catalysts are in place for small caps:

1. High-yield spreads are low

High-yield spreads measure the difference between yields on riskier corporate bonds and safer government bonds. Put simply, they basically show how much extra return investors demand for taking on riskier debt. Right now, those spreads are still low, which means investors are confident in the economy and aren’t too worried about risk—so they’re comfortable lending money.

This is good for small caps because smaller companies usually need to borrow more money to grow. If borrowing stays cheap and accessible, it means they can fund expansion more easily.

2. Earnings growth has been strong

This past quarter, the S&P 500 posted growth of 12.5% (vs. expectations of 8%). While the S&P 500 is comprised of large caps, it’s still an important signal for smaller companies—as it indicates the economy is holding up better than many people thought.

Since small-cap stocks are more sensitive to economic growth, they tend to thrive in a strong earnings environment, where capital is flowing into equities rather than defensive assets.

3. The truth about tariffs

There’s been a lot of talk about how President Trump’s tariffs could impact the market. Historically, whenever tariffs get introduced, stocks see a short-term pullback… But over time, markets adjust and move forward.

And domestic small caps tend to be big winners in a tariff-heavy environment. Since many of these companies operate primarily within the U.S., they’re less affected by global trade disruptions. That’s a huge advantage if tariffs come into play.

In short, a stable credit market,  strong earnings, and Trump’s tariffs all paint a picture of a strong market setup for small-cap stocks.

How to find the best small caps 

Right now, many high-quality small-cap stocks are down 30% or more from their highs, making them incredibly attractive for investors looking for value.

Plus, insider buying trends show that company executives see the opportunity in their own stock. That’s always a good sign—after all, no one knows the company better than the people running the show. (Plus, it means management’s interests are aligned with shareholders.)

Look for small-cap companies with solid growth fundamentals and reasonable valuations—like those in the Curzio Venture Opportunities portfolio.

Just yesterday, Frank recommended a low-cost oil producer poised to thrive even if oil prices continue to fall. Plus, it rewards its shareholders through dividends and share buybacks.

Or check out last week’s episode of WSU Premium, where Frank and Daniel highlight several small caps to keep on your radar.

The bottom line: The market is shifting, and small caps are in a prime position for a strong 2025. If you’re only looking at large caps, you might be leaving money on the table. Keep an eye on undervalued small-cap stocks, and you could be ahead of the curve before the rest of the market catches on.