Small-cap exchange traded funds (ETFs) have rallied hard after financial downturn, but some observers note that this trajectory won’t last and it is only a matter of time before this asset class cools down.
The Russell 2000 Index is almost 2% shy of its record closing high, reports Jonathan Cheng for The Wall Street Journal. Meanwhile, the Dow Jones Industrial Average and the S&P 500 are still 13% and 16%, respectively, off their record highs. [For Stocks, Smaller Was Better the Past Decade.]
The Russell 2000 has surged 143% from its March 2009 nadir, whereas the Dow has increased 89% and the S&P has gained 95%. [Small-Cap ETFs Follow Slide in Confidence Index.]
Based on price-to-earnings ratios, small companies currently have the widest premium over large-caps since 1979. The Russell 2000 is trading at 18 times its one-year forward projected earnings, which is around 1.3 times the P/E of the market’s largest 200 companies. Valuations have hovered around these levels in 1983 and 2007, and after both occurrences, small-caps started to underperform the mid- and large-cap asset classes.
Still, Bhupinder Singh, small-cap equity strategist at J.P. Morgan, argues that the Russell’s performance illustrates how small-caps were better equipped coming out of a rough economic patch, which shows that this market still has momentum. Mr. DeSanctis of BofA Merrill Lynch comments that small-caps may experience 19% earnings growth for the first quarter, as compared to the 13% to 15% of the S&P. The broad U.S. economic recovery could help small-caps maintain their growth.