24-7 Wall Street Insights

• Small-cap stocks are showing signs of breaking out of a bear market that has lingered since 2022.
• The Russell 2000 is the primary benchmark index for tracking small-cap companies.
• Investors interested in investing in the Russell 2000 Index can invest in ETFs with accurate tracking of the index and historically solid performance.
• 24/7 Wall Street has a free report to read on what may be “the next Nvidia” if you click here. 

The Allure of Small-Cap Stocks

Small-cap stocks are defined by Investopedia as companies “with a market capitalization of between $250 million and $2 billion”. Their smaller market caps imply a more nimble, entrepreneurial kind of management at the helm, with less bureaucratic decision making. As a result, small-cap stocks are historically more risky and volatile, but also outperform large-cap stocks in an overall head-to-head comparison basis.

In order to track small-cap stocks as a separate category, there are two indexes: The S&P SmallCap 600 Index, and the much more popular Russell 2000, which is managed by FTSE Russell Group in London, UK. The Russell 2000 is the overwhelming go-to benchmark for ETFs and mutual funds tracking the small-cap sector. 

Russell 2000 ETF Options

For investors looking to invest in the overall Russell 2000 small-cap index, the $72.2 billion iShares Russell 2000 ETF (NYSE: IWM) from BlackRock and Vanguard’s $9.8 billion  Vanguard Russell 2000 Index Fund ETF (NASDAQ: VTWO) are a couple of the most popular ones. A third choice is the $2,96 billion Direxion Daily Small Cap Bull 3X Shares (NYSE: TNA). The iShares Russell 2000 ETF has been referenced in previous 24/7 Wall Street articles.  For quick comparison’s sake:

• iShares Russell 2000 ETF (NYSE: IWM) – 0.19% expense ratio, 3-month total return: 13.35%.
• Vanguard Russell 2000 Index Fund ETF (NASDAQ: VTWO) – 0.10% expense ratio, 3-month total return: 13.43%.
• Direxion Daily Small Cap Bull 3X Shares (NYSE: TNA) – 1.08% expense ratio, 3-month total return: 37.75% (leveraged return).

Small-Cap Stocks Have Lagged Over the Past 10 Years

Conditions in the stock market have reached certain unusual anomalies over the past decade, especially regarding small-cap stocks. For example:

• Contrary to overall trading history, small-cap stocks have surprisingly underperformed large-cap stocks.
• The escalation of interest rates in response to unchecked and rampant inflation since 2021 has favored large-cap stocks with commensurately deeper pockets to weather the increased cost of capital during a high inflation financial climate.
• The growth of AI has been spearheaded by trillion dollar tech companies like Microsoft (NASDAQ: MSFT), Apple (NASDAQ: AAPL), and Nvidia (NASDAQ: NVDA), among others. These and the other members of “The Magnificent Seven” have been responsible for the rocket fuel behind the S&P 500’s lofty heights, including its 2023 rally.
• The Russell 2000 has been in a technical bear market zone since 2022.

Why Are Analysts Calling A New Small-Cap Bull Market?

Analysts from Goldman Sachs, JP Morgan Chase, as well as smaller firms like North Star Investment Management and Fundstrat Global Advisors are now all heralding the start of a new small-cap stock bull market. They cite a number of both recent tangible signs and geopolitical anticipatory ones to support these views:

• The Russell 2000 surged a staggering 11.5% in its best 5-day performance ever against the S&P 500.
• The Russell 2000 gained at least 1% in five straight sessions in a week during mid-July,, which had only happened four times before, historically. 
• Small-cap stocks are currently at bargain valuations compared to historical averages.
• Russell 2000 stocks are presently at their deepest discount to S&P 500 stocks since 1999. That gap signaled the start of a 13-year small-cap outperformance streak.
• Federal Reserve Chairman Jerome Powell has given several comments to the media that allude to a planned interest rate cut in September, which will greatly aid small-cap stocks.
• Copper prices have been a technical leading indicator of the 10-year US Treasury bond’s interest rate since 2006. Copper’s price falloff is signaling a likely rate cut in the upcoming 2-4 weeks.
• President Donald Trump is the Republican 2024 candidate and is leading in all major polls.  As such, he is the presumptive future POTUS after this November’s general election. His previous tariff policies will most likely be reinstated or even increased. Historically, pro-tariff policies have negatively impacted large-cap companies and made small-cap companies the beneficiary.
• The price selloff of tech stocks coincided with the small-cap escalation. This indicates that institutional and individual investors are rotating out of some of the “Magnificent Seven” tech stocks, in likely anticipation of the aforementioned interest rate cut.
• The so-called “Great Rotation” is the phenomenon whereby megacap tech stocks are sold with the proceeds plowed into small caps.

Fundstrat Global Advisors is forecasting a 3,100 target for the Russell 2000 Index, with as much as a 40% appreciation from current levels by as early as mid-September. The short interest in Nvidia and other tech stocks has been growing, so a sizable percentage of traders would appear to concur with the small-cap bulls. The ETFs are an excellent way to take advantage of what could be another long-lasting bull market run, if history is any indication.

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