Analysts Predict Rise In Small-Cap Stocks

FIREWORKS may light up the sky for the "small cap" stock market in the second half of 1993, the result of slow economic growth, low interest rates, new companies, and high valuation levels for large blue-chip companies.

"Small cap" companies are small- to medium-sized firms with relatively modest levels of capitalization - usually under $300 million, but in some cases higher. Many of the companies trade on the over-the-counter (OTC) market. These smaller-sized companies often do well during periods of lackluster economic growth; since they have a smaller earnings base, they can generate higher growth levels in percentage terms than dinosaur-sized blue-chip rivals.

"The second half of this year will be going gang-busters" for smaller-cap firms, predicts Don Hays, director of investor strategy for Wheat, First Securities Inc., a Richmond investment house. "We think the OTC market will climb about 8 percent to 12 percent [as measured by the Nasdaq Composite Index] during the second half of 1993." The Dow Jones industrial average, which measures blue-chip stocks, will climb "about 5 percent."

During the first half of the year the OTC market lagged behind the blue-chip market, with both the Dow and the American Stock exchange market value index up more than 8 percent each, and the Nasdaq composite index up only about 4 percent.

Many investors who buy OTC stocks were "fearful" about the economy in the first part of the year, Mr. Hays says. But economic growth will be stronger than expected in the months ahead, driving the smaller cap market upward, he says.

"For the first time in several years now, virtually all of the major industrial nations are reflating their economies, or concentrating on economic growth," Hays says. Germany and eight other European nations announced reductions in interest rates late last week, designed to help spur growth. That focus on global growth will provide a lift to the United States economy.

The latest unemployment figures underscore the tepidness of the expansion in the US. Last Friday the Commerce Department announced that the unemployment rate rose to 7 percent in June, up from 6.9 percent in May. While the numbers suggest economic weakness, they also provide an incentive to the Federal Reserve Board not to raise interest rates - a plus for equities.

Wheat, First Securities Inc. began to notice new strength for small-cap stocks about seven weeks ago, with the turning point coming about a week ago, Hays says. The stock market will continue to move upward through the summer, with a possible correction around September, he says. But the correction will be modest - in the 3 percent to 5 percent range, Hays predicts.

Although some stock analysts say the market is overvalued and likely to experience a correction, the more common view on Wall Street is that the market is showing remarkable resilience. Dennis Jarrett, chief market analyst at Kidder, Peabody & Company Inc., an investment house, believes that low interest rates, slow steady growth, and the lack of alternatives for market gains (with bank certificates of deposit and money market accounts, for example, paying low rates) will ensure upward momentum for equit ies.

The market could experience "a dramatic period of appreciation" in the next few months, Jarrett says.

High-technology stocks, which tend to be listed on the Nasdaq market, look particularly promising, Hays says.