This Overlooked Economy Gauge Signals Extreme Caution

Small businesses are known to be the lifeblood of America’s economy. So, why are investors ignoring plunging confidence in the nation’s small businesses sector?

Investors might not be to blame here, since the media is largely overlooking the proverbial canary in the coal mine. I’m referring to the Small Business Optimism Index, which is provided each month by the National Federation of Independent Business.

This is a commonly cited U.S. small-business confidence metric, and it declined for a third consecutive month in February. More specifically, the Small Business Optimism Index dropped 2.1 points to 100.7 last month.

Also in the month of February, the National Federation of Independent Business’s Uncertainty Index increased by 4 points to 104. This marks the second-highest reading of this gauge on record.

The decline in small-business confidence seems to parallel the low spirits of the American consumer. Notably, the Conference Board Consumer Confidence Index fell 7 points to 98.3 in February.

Courtesy: Yahoo Finance

Anxiety among consumers and small businesses is reflected in the underperformance of small caps in 2025 so far. The chart shown above displays the steep decline in the iShares Russell 2000 ETF (IWM), which tracks a broad range of small-cap stocks.

The financial headlines tend to focus on large-cap indexes like the S&P 500 and the NASDAQ. However, when small businesses are struggling and the Russell 2000 is sliding, this could portend the beginning of the end of the relentless bull market that has persisted for two full years.

National Federation of Independent Business Chief Economist Bill Dunkelberg observed, “Uncertainty is high and rising on Main Street, and for many reasons.” Without a doubt, chatter about higher inflation and a potential recession this year is rattling the confidence of U.S. consumers.

In anticipation of expected inflation growth, it appears that businesses are already ramping up their prices. In fact, The National Federation of Independent Business’s survey indicated that the share of businesses raising their average selling prices surged by 10 points to 32% in February, representing the biggest increase since April of 2021.

Consider that whatever’s bad for large businesses like Walmart and Target – such as low consumer confidence and higher selling prices – is even worse for small businesses. After all, Walmart and Target have deep capital reserves and can withstand economic downturns while smaller companies might not survive.

Courtesy: @GlobalMktObserv

You might see the mainstream media report on the American consumer’s feelings of anxiety and uncertainty. At the same time, the impact on small businesses is typically disregarded, though it shouldn’t be.

There are larger implications for the U.S. economy and, by extension, for the stock market. Believe it or not, consumer spending accounts for 68% of the nation’s gross domestic product (GDP).

In other words, it’s a consumption-driven economy in 2025. If small business owners and operators lack confidence about their future, what does this tell us about the near-term outlook for the private sector in general?

The recurring theme here is uncertainty, and of course, the stock market hates uncertainty. Just remember that small businesses have a not-so-small impact, so tread carefully and prepare yourself for rare opportunities in the financial markets.