Evening Brief – 03.27.24
Small-Cap Comeback
The equity markets have been enjoying a strong rally since establishing what appears to be a major low in October 2023, igniting a long-awaited rally in shares of small-cap companies. However, if you were hoping for a significant rise in the value of smaller companies, there is still some disappointment.
In recent years, there have been periods in which small-cap stocks saw a significant rise and outperformed large-cap stocks, which is usually seen as a strong indication of a broader rally in the overall market. However, upon closer examination, it becomes evident that the small-cap premium has been difficult to achieve in recent years.
Since the end of 2015, the iShares Russell 1000 ETF (IWB) has significantly outpaced the iShares Russell 2000 (IWM), a small-cap ETF that has been popular but has shown significant underperformance.
In recent years, small-cap stocks have not met the expectations of delivering higher returns compared to large-cap equities, despite the belief that investing in smaller companies would come with a risk premium. However, one enduring characteristic is the recurring predictions that this underperforming sector of the market is ready to experience a significant surge.
“Small caps ready for a comeback,” predicts Björn Jesch, global chief investment officer at DWS. Focusing on European markets, he recently noted that, “The magic of some mega cap stocks and the headwind of rising interest rates have had quite an impact on small caps since 2022. But the wind is slowly beginning to shift.”
Financial advisors are once again directing their attention towards small-cap stocks, noted Investment News. Stephen Tuckwood, director of investing at Modern Wealth Management, suggests that the strong performance of large-cap stocks is a stimulus for reevaluating this underperforming sector of equities.
“Historically, when the Russell 1000 outperforms the Russell 2000 by around 20% over a 1-year period, it has been a compelling time to allocate to small caps on relative basis. Exact timing is always difficult but at some point, we anticipate that the two indices will begin to converge.”
Meanwhile, one of Wall Street’s biggest bulls, co-founder and head of research at Fundstrat, Tom Lee, reiterated his prediction that the Russell 2000 Index will continue to outperform. “I think the Russell 2000 represents the best of things that happen when the Fed starts cutting,” he recently told CNBC.