U.S. Small-Cap Stocks See Significant Growth

On June 26, 2026, traders are busy at the New York Stock Exchange.

U.S. small-cap stocks are experiencing one of their strongest first halves in decades. However, this isn’t your usual small-cap boom usually driven by cyclical companies.

This surge, similar to larger companies, is largely attributed to the swift expansion of AI infrastructure. Spending is now branching out from just major tech firms to a wider array of suppliers.

Investors feel that this small-cap rally could go beyond the tech sector, as long as interest rates remain under control. The Russell 2000 index has risen by over 21% this year, positioning it for its best first-half performance since 1991. This increase marks a notable shift after prolonged underperformance compared to large-cap stocks.

“It’s really about valuations catching up, but also the fundamentals,” said Amy Chan, a portfolio manager. “The gap in valuations was wide enough for a truck to drive through. Plus, small-cap fundamentals are improving, which is likely driving this trade.”

Semiconductor and related companies have emerged as the leading beneficiaries, illustrating how the AI investment trend is reaching the broader market. These companies make up 16 of the top 50 performers in the Russell 2000 this year, with firms like Aehr Test Systems, Icol Holdings, and Max Linear seeing rebounds of over 400%.

Interestingly, instead of competing directly with giants like Nvidia, these smaller companies are thriving from the escalating demand throughout the AI supply chain. As chipmakers and cloud providers increase their spending on AI infrastructure, suppliers of semiconductor tools and components are enjoying substantial profit boosts, and companies with smaller market caps are witnessing notable growth in revenue and profits.

“A significant part of the small-cap narrative revolves around AI,” Chan added. “The effects of AI investment will ultimately trickle down from the large-cap leaders to smaller firms, boosting earnings and growth potential for them.”

Not Just AI

While AI is the primary catalyst for this rally, strategists point out that it’s bolstered by widespread fundamental support, sustaining its momentum.

“Small-cap stocks are more intertwined with semiconductors and high-tech hardware, and their leadership stands out even in a bull market dominated by mega-caps,” noted Adam Turnquist from LPL Financial. “Building core strength is also helping to offset challenges posed by rising interest rates.”

According to LPL, the projected earnings growth for Russell 2000 companies in 2026 has jumped to 38% from about 23% at the year’s start, reflecting growing optimism about earnings extending beyond just big tech.

Turnquist also indicated other factors that could support small-cap stocks, like their heightened connection to the U.S. economy, expectations for a rise in merger and acquisition activity—especially in biotech and pharmaceuticals—and tax incentives encouraging capital investments.

Are Rising Interest Rates a Threat?

The most significant challenge facing this small-cap bull market might be the same issue that held it back previously: rising interest rates.

The upcoming Federal Reserve meeting is slated for July 28-29, and traders estimate about a 30% chance of a rate hike. Markets suggest a 60% probability of at least one quarter-point increase by September.

Rising borrowing costs particularly affect small and medium-sized companies, which often have higher variable-rate debt and greater refinancing needs compared to their larger counterparts. Bank of America projects that each additional 25 basis point increase could diminish Russell 2000 operating income by about 2%.

“This situation could hinder the anticipated acceleration in fourth-quarter earnings for small-cap stocks with higher refinancing risks,” noted strategists from Bank of America.

Yet, many investors believe that the worst of the tightening phase is behind us. The Fed has executed a total of 500 basis points of interest rate hikes from March 2022 to mid-2023—one of the most aggressive campaigns in years.

“We’re likely approaching the peak for inflation and interest rates,” Zhang stated. “Though there have been some headwinds over the past five years, I think these challenges will lessen and possibly become tailwinds in the future.”