MW Here are 13 reasons why large caps will now beat small caps, according to UBS

By Jules Rimmer

S&P 500 set to outpace Russell 2000 in short term, strategists say

UBS' global strategy team identified thirsteen distinct drivers that favored large caps over small caps

The small-cap index has more than doubled the performance of large caps this year, but now the tide has turned, say UBS strategists.

Through Monday, the Russell 2000 RUT has gained 13% vs. just 5% for the S&P 500 SPX this year.

But positioning, flows, factor dynamics, earnings momentum, quality, AI exposure and the macro-economic backdrop all contribute to this strategic bias recommended by UBS global macro strategy team.

A team led by Nicolas Le Roux said one factor in favor of bigger stocks was the capacity of commodity trading advisors - systematic, macro hedge funds known as CTAs - to add to their large-cap holdings. These CTA funds identify and follow asset price trends and their impact on markets is significant. Crucially, though, UBS calculates CTAs are already maximum long small- and mid-caps, but only at 60% for large caps.

Le Roux also notes that institutional investors found it impossible to ignore the valuation discount of small caps versus large caps last year but now that geopolitically-induced volatility has been triggered, the defensive qualities of large caps may be preferred.

There's a similar situation with mutual funds, which can be contrarian indicators and tend to lag market turning points, and they have been overweight Russell 2000 versus the S&P 500 since February.

Both passive fund management strategies and factor strategies (like momentum or quality), the report observes, tend to magnify market trends mechanically. They tend to concentrate capital in the largest stocks whereas small caps typically attract specialist or active fund managers and, therefore, have a habit of being more cyclical and risk sensitive.

The Russell 2000 usually has faster earnings-per-share growth, but now the S&P 500 has narrowed that gap. Moreover, large caps are currently demonstrating superior quality of earnings when measured in terms of metrics like cash flow returns on investment .

Large caps continue to display superior quality of earnings, with stronger CFROIs...

AI, is, of course, a major driver of this earnings trend as capital expenditure here is booming while in the rest of the economy is "lingering in mild recession."

The UBS report makes the point that either this AI investment delivers strong returns (in which case large caps outperform) or the U.S. economy slows (a scenario typically characterized by small caps struggling).

Other factors include the higher leverage exhibited by small caps. With interest rates and inflation rising, this leaves them vulnerable when they need to refinance their debt. Also , in historical terms, the late-cycle macro environment in the U.S. favors the S&P versus Russell 2000, and oil supply shocks in the past have had a similar effect.

Small caps face a growing maturity wall over the next 4-5 years which is a concern with rates and inflation expectations rising

Large-cap equities screen well on UBS' proprietary stock framework that combines a variety of drivers like earnings, sentiment and the macro background. The Magnificent 7 MAGS basket, for example, ranks fifth across 36 sectors with AI-exposed semiconductor stocks and AI robotics also ranking highly.

Le Roux and team highlight the potential for a swing back toward large caps because institutional investors tend to be "value-driven and slow-moving," so overweighting the cheaper small cap index was unavoidable. If the S&P 500 starts to outperform Russell 2000, then they will be obliged to shift weightings to avoid underperforming benchmarks.

Lastly, they note the prospect of the Fed easing appears to be fading and the fiscal impulse of the One Big Big Beautiful Bill Act is set to turn negative in 2027, which works to the detriment of the more macro-sensitive small-cap sector.

-Jules Rimmer

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May 05, 2026 07:23 ET (11:23 GMT)

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