How Rising U.S. Money Supply Could Change the Stock Market in 2025
If you’ve been in the stock market over the last couple of years, you’ve likely seen massive gains in big tech and AI-driven stocks. The S&P 500 has soared since 2022, but most of that growth has come from just a handful of mega-cap companies. That could be about to change.
A key financial indicator, U.S. M2 money supply, is growing at its fastest pace since 2022, signaling that a shift in market dynamics may be coming. Historically, when the money supply expands, smaller and mid-sized companies start catching up, and market gains become more evenly distributed across sectors.
In this post, we’ll break down:
- What M2 money supply is and why it matters.
- How this shift could broaden stock market performance.
- The best investment strategies for this changing environment.
Let’s dive in.
What Is M2 Money Supply and Why Should Investors Care?
M2 money supply is a measure of the total amount of money circulating in the economy. It includes:
- Cash on hand
- Money in checking and savings accounts
- Short-term investments like small-value certificates of deposit (CDs)
The Federal Reserve controls money supply growth through interest rate policy. When rates are high, borrowing slows, and money supply tightens. When rates drop, more money enters the economy, fueling growth and investment.
Here’s what’s happening now:
- M2 money supply grew by 3.86% in January 2025, the fastest pace since mid-2022.
- Growth has been accelerating for 10 straight months.
- Money supply levels are approaching their 2021 peak—a time when markets were booming.
This could signal a major shift away from the mega-cap stock dominance we’ve seen over the past two years.
How an Expanding Money Supply Could Reshape the Stock Market
For the last two years, a tight money supply has favored massive corporations—companies that already had huge cash reserves to invest in AI and other growth initiatives. That left smaller businesses struggling to compete due to limited access to capital.
Now, with money supply growing and interest rates expected to decline further in 2025, here’s what could happen:
1. Smaller Stocks May Outperform Mega-Cap Stocks
Historically, when money supply grows, we see:
- Small and mid-cap stocks start outperforming.
- Broader participation across the market instead of just a few winners.
- A reversal of the extreme market concentration we’ve seen in big tech.
This means stocks that haven’t been keeping up with the S&P 500 could start catching up—and potentially outperforming—mega-cap giants.
2. AI and Big Tech Stocks Could Face More Competition
AI-related stocks have dominated the market since late 2022, but this was partially due to the high cost of capital keeping smaller players on the sidelines. With more capital now available:
- Smaller tech companies could start innovating faster.
- Larger companies may no longer have a monopoly on AI investment.
- AI adoption could spread across more industries, benefiting a broader range of stocks.
3. Broad Market Gains Instead of Just a Few Winners
The S&P 500 has had a highly concentrated rally, with only about 27%-28% of its stocks outperforming the index in 2023-2024. An expanding money supply typically leads to:
- More companies contributing to market gains.
- Stronger performance from value and cyclical stocks.
- A more balanced market, rather than being driven by just a few stocks.
This shift could make diversified investing strategies more effective in the coming months.
How to Invest as Money Supply Grows
If this trend continues, it may be time to adjust your investment strategy. Here are some smart ways to position your portfolio for this shift:
1. Consider an Equal-Weight Index Fund
A traditional S&P 500 index fund gives more weight to the largest companies—meaning you’re still heavily invested in mega-cap stocks. Instead, an equal-weight S&P 500 fund like the Invesco S&P 500 Equal Weight ETF (RSP) spreads investment evenly across all 500 stocks.
Why does this matter? If smaller and mid-sized companies start catching up, an equal-weight fund ensures you benefit from broader market participation.
2. Look at Small and Mid-Cap Stocks
Smaller companies have been trailing the large-cap index for years, but they now offer great value relative to the S&P 500:
- S&P 600 Small-Cap Index trades at a 15.3 P/E ratio (compared to the S&P 500’s 21.5).
- S&P 400 Mid-Cap Index trades at a 15.6 P/E ratio—also significantly cheaper than large caps.
Some great ETFs to consider:
- Vanguard Extended Market ETF (VXF) – Holds U.S. stocks outside of the S&P 500.
- SPDR Portfolio S&P 600 Small Cap ETF (SPSM) – Focuses purely on small-cap stocks.
Both of these funds could benefit if smaller companies start outperforming.
3. Watch for Rate Cuts and Market Shifts
The Federal Reserve is expected to lower interest rates multiple times in 2025, which should further boost money supply growth. That means the trends we’re seeing now could accelerate.
What to watch:
- Fed rate decisions – More rate cuts = more money supply growth = more capital for smaller companies.
- Stock market breadth – If more companies start outperforming the S&P 500, this shift is already happening.
- Valuations – If small and mid-caps remain undervalued, they could offer strong buying opportunities.
Final Thoughts: A Market Shift May Be Coming
For the past few years, big tech and AI stocks have dominated, while smaller companies have struggled to keep up. But with M2 money supply growing and interest rates expected to fall, market dynamics are shifting.
- If you’ve been waiting for small and mid-cap stocks to shine, now may be the time to start paying attention.
- If you’re overexposed to mega-cap stocks, consider diversifying into broader market funds.
- If interest rates continue to drop, expect even more capital to flow into smaller, undervalued companies.
The stock market never stays the same forever—and if money supply growth keeps accelerating, we could be on the verge of a major shift in which stocks lead the next bull market.
