The momentum accrued by small caps to end 2020 is carrying over to 2021, as highlighted by Principal’s U.S. Small-Cap Multi-Factor Index ETF (NASDAQ: PSC) 5.40% gain to kick off the new year.

PSC’s underlying benchmark, the Nasdaq US Small Cap Select Leaders Index, “uses a quantitative model designed to identify equity securities (including growth and value stock) of small-capitalization companies in the Nasdaq US Small Cap Index (the ‘parent index’) that exhibit potential for high degrees of sustainable shareholder yield, pricing power, and strong momentum while adjusting for liquidity and quality,” according to Principal.

PSC’s hot start to 2021 indicates the multi-factor exchange traded fund is benefiting from the phenomenon known as the January Effect.

“The small-cap effect refers to the long-term tendency of small-capitalization stocks to outperform the large-caps. Since the mid-1920s, according to data from Dartmouth finance professor Kenneth French, the 10% of stocks with the smallest market caps have beaten the largest 10% of stocks by an annualized margin of 2.4 percentage points,” reports Dow Jones.

PSC Is a Powerful Idea for 2021

PSC is worth a look as the economy rebounds from the ill effects of the COVID-19 pandemic. While investors may flock to the relative safety of large cap equities during a recession to lessen the blow of market volatility and provide a cushion during market downturn, small cap performance is worth watching as the economy exits a recession. As such, investors may want to give small cap equity funds a look now to make a factor-oriented play.

Historically, the small cap/value combination has been rewarding, but it took a big hit when value languished during the recently deceased bull market. The tendency of factor leadership to change from year to year underscores PSC’s utility: with the Principal ETF’s multi-factor approach, investors don’t incur the burden of factor timing.

PSC 1 Year Performance

To start 2021, PSC’s momentum exposure is also proving rewarding for investors.

Momentum investing can target those companies that are exhibiting high levels of growth. The momentum factor selects company stocks that have recently outperformed based on the idea that “the trend is your friend” and that stock market leaders typically continue to outperform. This type of strategy can be an effective way of targeting growth-oriented companies since stocks with positive momentum often continue to generate strong earnings.

For more on innovative portfolio ideas, visit our Nasdaq Portfolio Solutions Channel.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.