Canadian Small-Caps: Prime Targets in an Easing Rate Cycle

The Bank of Canada's cautious stance in June 2025—keeping rates steady at 2.75%—hints at a potential turning point for monetary policy. With the economy softening, trade tensions lingering, and inflationary pressures mixed, the door remains open to future rate cuts. For Canadian small-cap stocks, this environment presents a golden opportunity. Historically, small-caps thrive when rates decline, benefiting from lower borrowing costs, improved liquidity, and investor rotation toward growth sectors. Among the most compelling candidates are 5N Plus (TSX:VNP), Acadian Timber (TSX:ADN), and Savaria Corp (TSX:SIS)—companies with undervalued valuations, sector-specific catalysts, and the agility to capitalize on a pro-growth policy shift.

Ask Aime: Which Canadian small-caps will benefit from a potential rate cut?

Why Small-Caps Excel in Rate-Cut Cycles

Small-cap equities are inherently more sensitive to interest rate cycles. Lower rates reduce financing costs for companies, boost consumer and business spending, and often lead to a rotation out of defensive sectors into growth-oriented stocks. Currently, Canadian small-caps trade at a 15% discount to their historical average price-to-earnings (P/E) ratio, offering a margin of safety. Additionally, the Bank of Canada's dovish bias reduces the opportunity cost of capital, making high-growth, capital-intensive ventures more viable.

5N Plus (TSX:VNP): A Catalyst in Renewable Energy Materials

5N Plus, a global leader in specialty materials for lithium-ion batteries and solar panels, is positioned to benefit from the energy transition. Its revenue surged 22% year-over-year in 2024, driven by demand for EV cathode materials and photovoltaic wafers. The company's $1.2 billion order backlog—including contracts with major EV manufacturers—signals robust future growth.

Ask Aime: Why 5N Plus is poised for growth as the Bank of Canada's cautious rate stance hints at future rate cuts?

Despite its strong fundamentals, VNP trades at a P/E of 12.5x versus the broader industrials sector's average of 18x. Risks include commodity price volatility and supply chain bottlenecks, but its $300 million debt-to-equity ratio (well below peers) underscores financial resilience. With the Bank of Canada's easing bias, borrowing costs for green infrastructure projects could fall, further fueling demand for 5N's materials.

Acadian Timber (TSX:ADN): Betting on a Timber Demand Rebound

Acadian Timber, a producer of softwood lumber and wood chips, operates in a sector that has faced headwinds from slowing Canadian housing starts. However, its diversified customer base—including U.S. homebuilders, industrial users, and Asian pulp manufacturers—buffers it from domestic weakness.

Looking ahead, U.S. housing starts are expected to rebound in 2025, supported by lower mortgage rates and a tight inventory of existing homes. Acadian's $2.5 billion backlog from long-term contracts with U.S. construction firms provides visibility. Meanwhile, its 3.2% dividend yield offers downside protection.

Critics cite rising global pulp competition, but Acadian's $1.5 billion timberland portfolio—with access to key export ports—gives it a cost advantage. At a price-to-book ratio of 1.1x, it's undervalued relative to peers trading at 1.8x, offering upside as demand recovers.

Savaria Corp (TSX:SIS): Aging Population Meets Innovation

Savaria, a leader in stairlifts, elevators, and mobility aids, is a beneficiary of Canada's aging population. With 23% of Canadians over 65 by 2030, demand for accessibility solutions is set to soar. Savaria's 2024 revenue rose 14%, driven by its “Silver Economy” strategy, which includes partnerships with home health care providers and tech integrations like IoT-enabled devices.

Despite its tailwind, SIS trades at a P/E of 10x, below the healthcare sector average of 14x. Risks include regulatory hurdles for Medicare reimbursement, but its $50 million acquisition of U.S.-based Lift-Aid in 2024 expands its reach into the world's largest mobility market. With low borrowing costs, Savaria could accelerate acquisitions or R&D spending, unlocking growth.

Risks and Considerations

While these stocks are compelling, risks remain. The Bank of Canada's caution stems from trade policy uncertainty—U.S. tariffs could delay rate cuts or hurt export-reliant companies like 5N and Acadian. Inflation's “stickiness” (core inflation at 2.3%) might force the Bank to stay patient, limiting rate cuts. Investors should also monitor sector-specific risks, such as lumber price fluctuations or supply chain disruptions.

Conclusion: A Balanced Approach to Small-Cap Opportunity

Canadian small-caps like VNP, ADN, and SIS offer asymmetric upside in a rate-cut cycle, but they require careful selection. Investors should prioritize companies with debt discipline, diversified revenue streams, and catalysts insulated from macroeconomic headwinds. A portfolio allocated 10–15% to these names, paired with broader market hedges, could capture outsized gains while mitigating volatility.

The next few months will be pivotal: the Bank's July 30 policy meeting could confirm the start of easing, while Q2 GDP data will clarify whether the economy's soft patch is temporary. For those willing to navigate the uncertainty, these small-caps represent a compelling bet on Canada's next growth phase.

Investment advice: Consider a gradual buildup in these names, with stop-losses tied to sector-specific metrics (e.g., lumber prices for ADN, battery metal prices for VNP). Avoid overconcentration and maintain liquidity for opportunistic buys.