Small-cap equities and the relevant exchange traded funds had a rough go of things in the first quarter. For example, the iShares Core S&P Small-Cap ETF (NYSEArca: IJR) and the iShares Russell 2000 ETF (NYSEArca: IWM) returned an average of 1.5% while the S&P 500 jumped 5.9%.
Not surprisingly, investors responded by yanking money from small-cap ETFs through the first three months of this year. Following Election Day, investors flocked to IWM, IJR and rival small-cap ETFs as markets priced in President Donald Trump’s “America First” mantra that would help domestically-oriented companies led the next leg in economic growth.
“The iShares Russell 2000 ETF, which tracks the namesake index, was hit with $1.41 billion in outflows since the start of the year, the most among U.S.-listed equity ETFs. The iShares Core MSCI Emerging Markets ETF, whose top holdings include Samsung Electronics Co. and Alibaba Group Holding Ltd., attracted $6.63 billion in assets, the most among funds tracked by Bloomberg,” reports Luke Kawa for Bloomberg.
Small-caps are also focused on the domestic economy and have less direct exposure to global geopolitical uncertainty and currency risks, as opposed to large-cap companies that have an international footprint, which may be affected by overseas risks and a strengthening U.S. dollar.
Expansionary fiscal policies have fueled inflation expectations, which have in turn raised bets on a Federal Reserve interest rate hike and strengthened the U.S. dollar. Consequently, with a stronger U.S. dollar, large-cap stocks may underperform as many large exporters find it harder to sell goods to foreign markets.
“Companies in the Russell 2000 index earn the lion’s share of their revenues in the U.S., and as such would presumably be among the biggest beneficiaries from President Donald Trump’s growth and tax reform agenda, and a stronger dollar,” according to Bloomberg.
A smart beta alternative to IJR and IWM is the Guggenheim S&P Smallcap 600 Pure Value ETF (NYSEArca: RZV), which has a heavily cyclical lineup. RZV targets companies that exhibit the value characteristic but focuses on the smaller companies taken from the S&P SmallCap 600 benchmark. Industrial, consumer discretionary and materials stocks combine for 57% of that ETF’s weight.
Tom Lydon’s clients owns shares of IWM.