Rethinking Small Cap ETFs

October 03, 2014

With the Russell 2000 down almost 5 percent this year, is there a better way to skin the small-cap cat?

For the past nine months, nervous stock market prognosticators have been sending up red flags about how you can’t have a sustained stock market rally without small-cap participation. Historically, it’s always been the case that the healthiest, most sustainable stock market rallies come from all sectors of the economy, and are often driven by smaller companies experiencing real, tangible growth.

The rally of 2013—which, if I’m being honest, felt as crazy and awesome as anything during the dot-com boom—absolutely fit the bill. Consider the relative performance of the most followed small-cap benchmark and its large-cap cousin: the Russell 2000 and the Russell 1000. Proxies for the two indexes are below in the form of the iShares Russell 2000 ETF (IWM | A-77) and the iShares Russell 1000 ETF (IWB | A-93).

SmallCap2013

Not only did small-caps participate fully in last year’s rally, they led the charge by almost 6 percentage points. So why all the jitters? The worm, as they say, turned.

Specifically, it turned in May.

SmallCapYTD

After leading the charge in the rally since 2011, it looked like small caps had finally fallen out of bed, and this, it was suggested, was the beginning of the end.

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