Jefferies Says Buy the Bigger Small Cap Stocks: 4 Look Good Now

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The Russell 2000, which tracks the smaller capitalization stocks, like the rest of the indexes had a very nice run off the February lows. Now almost three months later the index is starting to roll over, and it may be the time for investors to use caution in their picks in the index going into summer and fall.

In a new research report, analysts at Jefferies make the case that most of the smaller cap stocks are expensive, and with volatility expected to rise, they argue that investors should focus on the quality companies that are the biggest of the small caps. They focus on the following four, all of which are rated Buy at Jefferies.

American Eagle Outfitters

This top retail stock had been acting much better since bouncing off lows posted in early February. American Eagle Outfitters Inc. (NYSE: AEO) is a leading global specialty retailer offering high-quality, on-trend clothing, accessories and personal care products at affordable prices under its American Eagle Outfitters and Aerie brands.

The company operates more than 1,000 stores in the United States, Canada, Mexico, China, Hong Kong and the United Kingdom, and it ships to 81 countries worldwide through its websites. American Eagle Outfitters and Aerie merchandise also is available at 119 international stores operated by licensees in 18 countries.

Top Wall Street analysts have highlighted that the company offers among the clothing sector’s best denim execution and on-trend fashion, and those positives could drive traffic upside, as well as be long-term drivers of international, Aerie, digital and omni inventory. Good execution, solid inventory control and the trend for old-school denim fashions are all positives.

Investors in American Eagle are paid a solid 3.41% dividend. The Jefferies price target for the stock is $24, and the Thomson/First Call consensus target price is posted at $17.75. Shares closed most recently at $14.66 apiece.

Align Technology

This is a larger small cap in the health care sector that makes sense for investors now. Align Technology Inc. (NASDAQ: ALGN) designs, manufactures and markets a system of clear aligner therapy, intra-oral scanners and computer-aided design and computer-aided manufacturing (CAD/CAM) digital services for use in dentistry, orthodontics and dental records storage in the United States and internationally.

The company posted earnings in the first quarter of 2016 that were 13.6% higher year over year. The solid earnings prints also easily exceeded the company-provided guidance, as well as the consensus estimate by 28.2%. Revenues jumped 20.5% year over year in the quarter and comfortably beat the Wall Street consensus forecast. The top line also exceeded the company’s posted guidance.

In addition, Align announced that it is projecting second-quarter revenue between $253.3 million and $258.3 million. The midpoint of that range represents a 22% jump over the same period in 2015. Diluted earnings per share are expected to come in between $0.46 and $0.49, compared to the $0.39 posted in the second quarter last year.

Jefferies has an $85 price target for the stock, while the consensus target is at $82.80. The shares closed most recently at $75.58.