BofA's stock market strategy for 2025? Pick stocks and buy indices

Investing.com -- Bank of America analysts outlined a nuanced 2025 stock market strategy, emphasizing selectivity over broad market exposure.

Their latest note suggests investors focus on mid-caps over small caps and prioritize stock picking rather than relying solely on index investing.

While small caps have rallied post-election due to momentum, seasonality, and favorable positioning, BofA remains cautious in its outlook.

The bank's analysts cite "more post-election policy risk," "continued EPS weakness," and the re-emergence of refinancing risks as significant headwinds for small caps in 2025.

Despite these challenges, opportunities exist, with BofA advising investors to "pick stocks over indexing" in this category.

Mid-caps, however, emerge as the favored choice for the year ahead. BofA believes fundamentals, less rate risk, less policy risk, and better hedge against regime risk position mid-caps as an attractive option.

The bank's preference for the equal-weighted S&P 500 over the cap-weighted version further underscores its mid-cap bias.

For small caps, the profitability recovery initially anticipated by mid-2024 has been delayed, leaving the segment stuck in what BofA calls a "value trap."

Refinancing risks have also re-emerged, with higher rates expected to weigh on small-cap operating earnings. Still, the analysts see the potential for improvement if corporate guidance and policies become more favorable.

Looking ahead, BofA highlights several strategies for navigating SMID caps in 2025. These include prioritizing "economic-sensitive small and mid caps with low refinancing risks," focusing on value over growth, and favoring financials as a preferred sector.

Over the long term, small caps remain promising, with BofA forecasting 10-year annualized returns of 8% for the Russell 2000 compared to 4% for the Russell MidCap.

For now, however, the bank believes 2025 is shaping up to be a year for strategic stock selection and leaning into mid-caps for more stable opportunities.

Source: Investing.com