Skip to main content

Smaller Stocks Face Big Challenge as Rates Rise

Real Money's Jim Collins sees lots of pain ahead for small companies with high growth prospects.

RealMoney's Jim Collins has a message for small stock investors: watch out!

“I’ve read 1,000 times in the past three weeks that higher-growth stocks, which tend to be tech-minded in nature, are more sensitive to changes in interest rates,” Collins wrote on Real Money  recently. “The finance nerd term for this phenomenon is duration. Nasdaq stocks have higher duration than, say, Deere  (DE) - Get Deere & Company Report.”

According to Collins, investors know how many tractors Deere can make, but nobody knows when Elon Musk's much-hyped fleet of robotaxis will appear. “If it's less likely to occur or will only occur in the distant future; consequently, you need to discount it, and using a higher discount rate produces a lower present value.”

Currently, a look at the Russell 2000 shows this market downdraft could last a very long time. “That’s because in our computer-addled world of equities, stocks that are down are considered less attractive than ones that have risen,” Collins added.

What's next for small stocks? Collins can see two scenarios.

Scroll to Continue

TheStreet Recommends

-- "If interest rates continue to rise/bond prices continue to fall and the 10-year U.S. Treasury yield rises through 2%, it will be Katie bar the door. Fund managers are going to dump these little guys,” he said.

-- "If bond prices recover and yields fall -- I can't think of any valid reason why this to occur given the generational inflation wave the world is facing -- the Russell 2000 Index,  (RUT) , will be fine."

To own small stocks now, investors are really betting on the bond market.

“It’s demonstrable that Fed Chairman Jerome Powell and Treasury Secretary Janet Yellen don't care about inflation, but even they are beginning to pretend to care,” Collins said. “The Fed's pullback on quantitative easing could just as easily be viewed as quantitative tightening. That just doesn't feel good to management at smaller, and often more leveraged, companies, and that's where the Russell lives.”

“Watch the bond market,” he added. “The piper is calling, Don't ignore him.”

Get more trading strategies and investing insights from the contributors on Real Money.