In this episode of KayneCast, Julie Kutasov, Portfolio Manager of the KAR Small-Mid Cap Core Strategy, joins Managing Director Jordan Greenhouse to explore how performance for the Small Mid Cap strategy played out during Q1 2023, and how the outlook for Q2 2023 is shaping up.

The Markets Weather a Banking Crisis and Inflation with Positive Results 

The start of Q1 2023 began on an upbeat note, with slowing inflation and a market convinced the central bank would soon ease up on interest rate increases. By February, however, “hot” economic data sparked fears the Fed would continue to maintain high interest rates.

The biggest impact on the market, however, was the March banking crisis. The collapse of Silicon Valley Bank (SVB) followed by Signature Bank’s sudden failure were the most significant bank failures since the Great Recession, and the market responded accordingly. Fears of a wider meltdown in the banking sector ran high but were alleviated by swift reallocation of SVB and Signature Bank assets and guarantees issued by the FDIC.

Despite these setbacks, the markets fared better than expected during Q1 2023. Kutasov notes the “widely anticipated recession did not materialize” and that the Labor market “remained robust despite massive layoffs in the tech sector, and inflation, albeit elevated, continued to ease.”

The result was a mostly positive end-of-quarter, with the S&P 500 rising 7 percent and the NASDAQ rising 17 percent. Large cap stocks outperformed small caps, and tech-heavy growth indices “outperformed bank-heavy value counterparts.” Kutasov notes the Russell 2500 Index, the benchmark for the KAR Small Mid Cap Core Strategy, was “driven by names with lower earnings’ quality, weaker balance sheets, and higher volatility.”

Will a Recession Impact the Small Mid Cap Outlook in 2023?

Moving into the second quarter, Kutasov believes slowing economic growth will be a concern, especially when combined with inflationary pressures and continued uncertainty on the geopolitical front. While inflation has eased, it remains elevated, “impacting consumer spending, the key driver of the U.S. economy, and businesses struggling to offset input costs’ increases with higher prices.”

The market expects a slowing of interest rate increases in response to the banking crisis. While somewhat alleviated, concerns about the overall health of the banking sector continue to impact the market, and fears remain about the increasing risk of a severe downturn in the coming months.

Kutasov notes that during periods of slowing economic growth there tends to be a flight to quality. In her view, this makes KAR’s focus on the highest quality companies particularly relevant in today’s environment of economic uncertainty.

Listen to the podcast to learn more about the Small Mid Cap performance in Q1 2023, or read our complete Q1 2023 market commentary where KAR CIO Doug Foreman reviews market performance and provides an outlook for what’s ahead.