Equity: U.S. - Small Cap
The US small-cap equity space is crowded—20+ funds offer some take on small-caps, be it straight-ahead market-cap, an index-based strategy or active management.
Far and away
“in some cases, tracking differences blur the distinction between fees” the most popular small-cap ETFs are those tracking market-weight indexes: the Russell 2000 and S&P 600. In fact, three of the market-weight funds (IWM, IJR and VB) together dominate small-cap assets. The rest of the assets are split between lesser-known market-cap funds, fundamentals-focused strategies and alpha-seeking funds.
The good news for small-cap investors is the top funds in the space capture the market return at extremely low cost. Taking the largest small-cap ETF as an example, IWM offers exposure to nearly 2,000 stocks with excellent liquidity, at typical holding costs lower than its fee. Vanguard’s VB, which tracks 1,500 stocks in a CRSP index, also tends to cost even less than its low fee.
What distinguishes the large number of market-weight ETFs from each other? Often, the answer is “very little.” Expense ratios and liquidity are the main distinguishing factors, and in some cases, tracking differences blur the distinction between fees. Investors here can choose their favorite index and are still likely to get an excellent price and deep liquidity.
The small-cap ETFs tracking alternative indexes are a little more varied. The remaining funds offer niche strategies in everything from dividend weighted, revenue weighted, to so-called 'core' indexes. Some of these funds are barely a blip on the radar, asset-wise, but others, like the WisdomTree SmallCap Dividend ETF (DES), have attracted hundreds of millions. The less popular of these ETFs often have serious liquidity concerns, so keep an eye on the Tradability score of anything that looks appealing.
Those that prefer active management have 1 choice (IESM), but assets and liquidity are weak for the relatively new fund. (Insight updated 10/20/17)
All Funds (45)
SCHA $6.16 B 6159333009.45 very low all-in costs
VB $19.94 B 19943595181.24 dirt-cheap all-in costs
FNDA $2.38 B 2380289832.6 viable assets and liquidity
SPSM $252.2 M 252197167.2 lags IWM and VTWO in liquidity
VTWO $1.16 B 1163955000 rock solid but lags IWM in liquidiy
IWM $41.73 B 41731387500 Extremely large & liquid
JKJ $250.44 M 250438350 not as liquid as some
SLY $814.59 M 814585485.16355 IJR is more liquid
VIOO $705.74 M 705744000 Decent but eclipsed by IJR
IJR $33.89 B 33889525600 Trades easily
DES $2.02 B 2020520040 stable and liquid
SMLV $217.63 M 217626599.25 Low AUM, low trading volume
EES $525.71 M 525712265 tracks its index well
XSLV $1.06 B 1061725250 Low Volatility
PSC $287.33 M 287330880.087 N/A
FYX $534.77 M 534773668.182 very expensive to hold
CSF $67.83 M 67830790 Low-vol market timer
EQWS $23.16 M 23162150 paltry assets
EWSC $31.48 M 31484400 same index as EQWS
DGRS $102.01 M 102005395 investor interest still weak
DWAS $223.25 M 223250000 popular but not cheap to hold
RWJ $495.08 M 495082238.42 high holding costs
SMMV $10.0 M 9999325 N/A
SCAP $4.71 M 4706523.61884 N/A
OUSM $51.66 M 51662978.4 N/A
NUSC $24.89 M 24890040 N/A
XSHQ $1.3 M 1297725.954 N/A
PBSM $2.59 M 2590625.906 N/A
XSHD $7.57 M 7573225.244 N/A
JPSE $41.37 M 41369076.898968 N/A
CSA $31.37 M 31369520 higher fee
CSML $250.44 M 250444677.371 N/A
CSB $44.8 M 44796255 N/A
DESC $10.14 M 10140633.802 N/A
CALF $3.77 M 3772500 N/A
SMDV $455.42 M 455418750 low assets, weak liquidity
RNSC $2.1 M 2098976.9787 N/A
SMLF $59.6 M 59596880 New; trade with care
GSSC $10.58 M 10577500 N/A
SQLV $2.62 M 2616650 N/A
FLQS $3.86 M 3859500 N/A
TWOK $256.38 M 256384652.9 lags IWM and VTWO in liquidity
ZSML $1.34 M 1344500 Looks for companies with the biggest earnings increases
IESM $8.36 M 8361150 thin investor interest
EWRS $35.93 M 35931000 same index as EQWS
ETF.com Grade as 10/12/17
Equity: U.S. - Small Cap
ETF.com Efficiency Insight
Fee wars among ETF issuers have driven holding costs down. Small-cap ETFs holding hundreds of stocks are now available for under 15 basis points annually. Low fees are a positive
“SCHA's actual holding cost is even lower than its fee” contributor to great tracking and to actual investor holding costs. Securities-lending revenue and turnover due to non-cap-weighted strategies also drive tracking performance.
SCHA and VB stand out as low-fee leaders charging under 10 bps. Amazingly, each fund’s actual holding cost (as measured by median tracking difference) is even lower than its fee to the point where the funds are effectively free to hold.
GURX, ZSML and FYX stand out at the other extreme with the segment’s highest fees. Actual holding costs for these are higher still, approaching 100 bps.
Such cost differences count for a lot in the case of large, multiyear allocations.
Costs and tracking differences certainly vary among the funds, but so do risks, especially the risk that an ETF will close due to lack of interest. Several small-cap funds have tiny asset bases, and could be shut down by their issuers. (Other metrics beyond AUM also go into our qualitative risk level.) Specifically, watch out for SMLV, DGRS and PXSC. If a fund does close, rarely do investors lose the value of their investment, but closure does typically trigger a tax event for holders of the ETF, and investors must cope with reinvestment. All things equal, it’s clearly preferable to invest in a stable fund.
Tracking risks aren’t a consideration for the segment’s lone actively-managed fund, IESM. Still, investors here should keep a watchful eye on the funds slender asset base.
One last caveat: Investors should look beyond holdings costs as a proxy for all-in costs when choosing an ETF in this space. Trading costs can quickly outweigh the savings from choosing cheaper but less liquid funds, especially when the fee difference is a handful of basis points for shorter holding periods. (Insight updated 10/20/17)
ETF.com Tradability Insight
Tradability can determine whether a small-cap ETF is truly investment-worthy or not. Several funds with otherwise-attractive strategies and efficient management trade at large spreads. The
“IWM trades more than $3B most days, a massive sum” cost of a bad trade can far outweigh the small differences in annual fees between competing ETFs.
The largest funds here provide some of the best liquidity that ETFs have to offer. IWM, iShares Russell 2000 ETF, trades well more than $3B most days—a massive sum—at penny-wide spreads. In fact, all three of the top-trading small-cap funds (IWM, IJR and VB) trade huge amounts daily, and will absorb institutional-size trades with little impact. To be sure, these funds offer outstanding Tradability for retail-sized orders too.
However, watch out for the funds that occupy the other end of the liquidity spectrum. For instance, PXSC trades at very thin volumes—under 1,000 shares most days—and spreads are wide. Placing a market order in such a fund is a recipe for high cost execution.
Poor liquidity isn’t confined to more esoteric strategies— plain-vanilla funds like TWOK (the SPDR Russell 2000) trade thinly, so double-check Tradability scores even if the fund sounds safe. All told, poor liquidity can add significant cost—and time spent—to the investment. The silver lining in the US small-cap segment is that the primary liquidity of these ETFs tends to be high, so if you can place large transactions through a liquidity provider, you’re still likely to get a fair price. Institutional traders should nonetheless check for potential price impact for creates and redeems (via underlying volume/unit), as funds like SMLV, IESM and XSLV have less liquid underlying names. (Insight updated 10/20/17)
ETF.com Fit Insight
No matter what kind of small-cap exposure investors are looking for, there are plenty of ETF options. Choices range from those that simply capture the market return to funds delivering a
“The Russell 2000 is an excellent index for capturing the small-cap market” range of niche strategies and alternate weightings.
Among those offering the market return, a few names stand out. The Vanguard Small-Cap ETF (VB) earns the highest score here, tracking a comprehensive CRSP index that holds roughly 1,500 small-cap stocks. Schwab’s SCHA also earns high marks, tracking a Dow Jones Index of over 2,000 stocks. Surprisingly, funds tracking the Russell 2000 Index, including the asset-behemoth IWM, don’t earn a great Fit score. That has more to do with our benchmark for small-caps (which tends to lean toward larger stocks) than it does with any shortcoming of the Russell 2000 Index. Don’t let the score throw you off here: The Russell 2000 is an excellent index for capturing the small-cap market.
Choices abound among alternative strategies as well. Most of them don’t score favorably in Fit because they don’t aim to provide the market return or provide vanilla exposure. But low Fit scores don’t mean these funds don’t provide valuable exposure. WisdomTree’s Small-Cap Dividend Fund (DES) is a diversified and small-leaning fund that weights its holdings according to dividend. DES’ higher cash flows, coupled with the capital appreciation potential of small-caps, sounds appealing, but be sure you’re comfortable with its exposure tilts, and know also that some dividend strategies have lagged in total return over the past year.
Also popular are so-called core funds, which hold only those stocks that fall in the middle of the style spectrum between growth and value. The iShares Morningstar Small Core (JKJ), the PowerShares Fundamental Pure Small Core (PXSC) and the First Trust Small Cap Core AlphaDex (FYX) all offer some flavor of that methodology.
Equal-weighted methodologies have gained less traction here than in other ETF segments. GURX equal-weights its copycat holdings while EWRS equal weights by sectors and then by stocks within the sector.
IESM is the lone actively managed fund in the segment. So far performance has lagged as the fund reaches deep into the microcap space.
(Insight updated 10/20/17)