December may be up in the air at this point, but the odds are very much in our favor that the Fed’s going to cut interest rates at the end of the month…
Here’s a Barron’s headline from this week:
Now you know that makes me happy!
And as I’ve said before, a lower-interest-rate environment provides rocket fuel to certain sectors of the market.
But no matter what the Fed does, Monday mornings are always on fire!
Why?
If you haven’t heard, I’ll explain how it works…
Every Monday, the market kicks back into gear after its weekend nap… and that reset creates a unique opportunity.
As the first session of the week gets started, there’s a specific pattern we look for that appears again and again with uncanny consistency.
And it has given us some unbelievable gains!
Look what happened this past Monday…
After announcing positive drug trial results, Replimune Group Inc. (NASDAQ: REPL) surged over 130%!*
We hunt for these kinds of Monday morning spikes every single week.
Now it’s time to learn how to spot them for yourself…
Watch the video below for the full trade breakdown and strategy tutorial on my Monday Setup.
Besides, specific sectors, lower rates also ignite another corner of the market, and if you’re smart, you’ll put it in your crosshairs…
Ever notice how small-cap stocks come alive when the Fed starts cutting rates, or even just hinting at it?
It’s not a coincidence.
Let’s break down why small caps tend to shine in a lower-rate environment, and how you can position yourself to take advantage of it.
Table of Contents
First, What Happens When Rates Drop?
Before we zoom in on small caps, let’s zoom out for a minute…
When the Federal Reserve lowers interest rates, a few key things happen across the economy:
- Borrowing gets cheaper for companies and consumers.
- Spending increases, boosting demand.
- Risk appetite grows, and investors start hunting for higher returns.
- Money flows into equities, especially growth names
Lower rates are basically the Fed’s way of greasing the wheels to get things moving.
Now, here’s where small caps enter the chat…
Small Caps Are Built Different
Small-cap stocks (generally companies with a market cap between $200 million and $2 billion) tend to be in a higher-growth stage.
These companies typically have less diversified product lines, which makes them more sensitive to economic shifts.
But most important to our discussion today is that small-cap companies are much more reliant on borrowing to fuel their expansion.
Cheaper Money = More Fuel for Small-Cap Growth
Many small-cap companies don’t have mountains of cash like Apple or Google. They grow by borrowing to invest in new products, hire talent, or expand operations.
When interest rates are low, borrowing becomes more affordable.
Suddenly, a loan to open a new facility, for example, becomes less of a gamble…
Or startup-style R&D investment becomes more viable…
And investors are more willing to fund early-stage ideas.
It’s like pouring gasoline on a fire… Growth becomes cheaper and easier to chase.
That’s why, historically, small caps have outperformed in rate-cutting cycles.
Take a look at the chart below, which shows the historic performance of the Russell 2000 (a small-cap index) against Fed rate-cutting cycles.
Why Investors Rotate Into Small Caps
When rates fall, Wall Street seeks out more bang for the buck.
As Treasuries and bonds become less attractive and safe, slow-growth stocks aren’t as appealing, riskier, higher-upside names (ie, small caps) become the go-to investments.
Lower rates = higher risk tolerance = money flowing into smaller, more aggressive plays.
That’s why you’ll often see the Russell 2000 start outperforming when rate cuts are on the table.
What Traders Should Watch
If you trade small caps (especially momentum or day trades), you need to track these signals:
- Fed Rate Policy and Powell Speeches: Rate cuts are tailwinds. Hikes are headwinds.
- Bond Yields: Falling yields generally support small caps.
- The Russell 2000 Index: Use it as a barometer for small-cap sentiment.
- The VIX: Higher volatility can create opportunity.
My Final Thoughts…
Small caps are fast, aggressive, and full of potential. I love them, which is precisely why I’m a day trader!
And rate cuts turbo-charge that price action…
When rates drop, it’s like opening the floodgates. Risk flows in, momentum builds, and small-cap stocks can go parabolic.
Because when these tickers catch a rate-driven tailwind, they don’t just move. They surge!
Have a great weekend, everyone. See you back here on Monday.
Tim Bohen
Lead Trainer, StocksToTrade
P.S.
Don’t be fooled by this stock move.
Make sure these stocks are on your watchlist.
If you’re thinking about short-selling, read this first.