Small-cap stocks that are high in quality could provide a hedge against stock market volatility, according to Bank of America. With a September rate cut by the Federal Reserve looming, investors have recently rotated into small-cap stocks which, as a group, depend on financing and are domestically oriented. The Russell 2000 has outperformed other major averages this quarter, with the small company index up more than 5% since the end of June. The S & P 500 and Dow Jones Industrial Average are ahead 2.1% and 4%, respectively, in the same span. But market volatility and growth concerns after weak economic data led to one of the biggest sell-offs earlier this month, for small- and large-cap stocks alike. The Russell 2000 is down 4.3% in August while the S & P 500 is up 1%. With that in mind, Bank of America screened for small-cap stocks that were both high in quality and inexpensively priced, and which could therefore appreciate, and better weather any coming market volatility. Stocks that are defined as high quality have to meet a certain threshold of return on equity, accruals ratio and financial leverage ratio, as used in the S & P 500 Quality Index . The group also had to have positive earnings revisions and low refinancing risk to guard against wider credit spreads or in case the Federal Reserve cut rates less than the market expects. The following names from Bank of America’s screen were all rated either buy or neutral by the bank. One of the names on the screen was clothing retailer American Eagle Outfitters , which has only risen about 1% in 2024. Most analysts covering the stock rate it a buy and see an average upside of nearly 19%, based on their consensus price target, according to LSEG. The company is next expected to report earnings on Aug. 29. Homebuilder KB Home was tagged as another high-quality small cap. Shares have soared more than 31% this year. Analysts’ consensus rating is a hold and the average price target implies an 8% decline. Down 23% this year, financial services company StoneCo was another name highlighted by Bank of America. Most analysts surveyed by LSEG have the stock rated as either a buy or strong buy, and see potential upside of nearly 29%. Other stocks that were included in Bank of America’s basket included coconut water company Vita Coco and construction materials maker Knife River . — CNBC’s Michael Bloom contributed to this report.
