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SMALL-FIRM STOCKS TAKE OVER AS MARKET LEADERS

Small-company stocks, after a relatively slow start, have taken over the role of market leader.

And even though it's not over 'til it's over, macroeconomic conditions appear to favor the small-company market over the large-company sector for at least the rest of 1995.Analysts see a series of factors converging to help small-cap stocks lead the stock market. They include a slower pace of economic activity, stable interest rates that are likely to fall before rising, and a rebounding dollar.

"It's not unusual to see small-caps outperform large-cap indicators as we get further into the stock-market cycle," said Jim Bellini, director of equity trading at Dain Bosworth Inc. "Large-cap stocks got the attention early. But as people look for values and opportunities, there's more emphasis on small-cap stocks."

For the first six months of the year, stocks of large companies gained significantly more than those of smaller companies. As of 1995's halfway mark, the Dow Jones Industrial Average had gained 18.8 percent, the New York Stock Exchange Composite Index 16.3 percent and the Standard & Poor's 500 18.6 percent, while the Russell 2000 index of small-company stocks trailed the pack with a gain of 13.3 percent.

But the small-company sector has come alive in the third quarter, with the Russell 2000 rising 7.1 percent in the period, compared with gains of 0.5 percent for the DJIA, 2.7 percent for the NYSE and 2.6 percent for the S&P.

As of Aug. 18, the Russell's year-to-date gain of 20.8 percent was ahead of the DJIA and the NYSE composite, which were up 18.8 percent and 16.3 percent, respectively. The S&P 500's gain was 21.7 percent.

Large-company stocks tend to perform best in the earlier stages of an economic upswing when company earnings begin to pick up momentum and there are good prospects for growth ahead. Smaller companies, on the other hand, typically have newer products to offer and so are less dependent on the ups and downs of the economic cycle.

M. Bagely Reid, managing director of Scott & Stringfellow Capital Management Inc., said the slowing economic environment will cause the growth of large-company earnings to slow, while "small-cap stocks, which are less economically sensitive, will have better relative earnings growth."

The recent gains in the dollar against other currencies will help smaller stocks too. When the dollar was falling, it favored larger companies that did a lot of exporting or had significant overseas operations. But as the dollar rebounds, exports are less attractive to foreign customers. Because small-cap companies tend to be more domestically oriented, the dollar's fluctuations affect them much less.

Reid said moves in interest rates tend to have a more significant impact on small-cap stocks than on larger companies, another factor that currently favors the small-cap market. "With inflation under control, short-term rates have peaked" and are likely to move lower before heading higher, Reid said.