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Small-cap companies are those with a market capitalization under $2 billion. Investors consider small caps to be riskier than large-cap stocks due to their sensitivity to interest rates and changes in the value of the dollar. However, small caps have the potential for higher returns during bull markets.
To reduce risk, investors can choose to trade or invest in small caps as a group rather than eliminate the risk inherent in individual small-cap stocks. Today we will discuss why small caps may provide big performance in 2023:
For the sake of simplicity, we will use the Ishares Russell 2000 ETF (IWM - Free Report) as our proxy for small caps.
Follow the Leader:
The Russell 2000 tends to lead the overall U.S. market in both directions. For example, IWM topped on November 12th, 2021 – long before the S&P 500 Index ETF (SPY - Free Report) , which didn’t top until January 7th, 2022.
Image Source: Zacks Investment Research
Pictured: IWM topped months before SPY. Can it now lead the major indices back up?
Image Source: Zacks Investment Research
Pictured: SPY topped long after IWM and is now lagging on the recovery.
Fast forward to today, and IWM is once again leading – but this time to the upside. IWM has cleared its 200-day moving average, while SPY and the Nasdaq 100 ETF (QQQ - Free Report) remain stuck below it.
Image Source: Zacks Investment Research
Pictured: IWM is already back above its 200-day moving average. The first major index to do so outside of the Dow.
Image Source: Zacks Investment Research
Pictured: QQQ has recovered some but remains well below its 200-day moving average.
Break Above Resistance:
IWM is trying to break above trendline resistance dating back to its top in Q4 2021.
Image Source: Zacks Investment Research
Pictured: IWM is trying to take out a more than year long descending trendline.
Relative Strength:
Over the past month, IWM has begun to outperform its larger-cap rivals. IWM is up 1.6%, while QQQ is -2.6%, and SPY is -0.4%.
Sector Allocation Mix:
The asset allocation of IWM makes the ETF poised to outperform in 2023. Financials such as United Bankshares Inc (UBSI - Free Report) , Old National Bancorp (ONB - Free Report) , and First Financial Bankshares Inc (FFIN - Free Report) ) make up nearly a quarter of the asset allocation in the ETF. Banks within the ETF stand to benefit from the current rising interest rate environment because when interest rates rise to lofty levels, banks make more money from the spread between what banks pay customers and the interest that can be earned by investing.
The second largest sector allocation in the IWM ETF is industrials. Though Deere & Co (DE - Free Report) and Caterpillar (CAT - Free Report) are large caps, they can be excellent barometers for the industrial space. Deere grew earnings by an impressive 81% last quarter, while Caterpillar hit new all-time highs yesterday.
Image Source: Zacks Investment Research
Pictured: DE's EBITDA illustrates the momentum in industrial stocks.
Lastly, oil and gas stocks comprise more than 5% of the ETF’s assets. The energy sector was a top performer in 2022 and shows little sign of slowing in the new year. IWM components such as oil and gas refiner Murphy USA (MUSA - Free Report) hold a best possible Zack’s Ranking of 1 – suggesting that earnings may continue to grow strongly over the next few quarters.
Image Source: Zacks Investment Research
Pictured: Small cap energy stocks like MUSA have been delivering on earnings.
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Small Caps to Provide Big Performance in 2023
Small-cap companies are those with a market capitalization under $2 billion. Investors consider small caps to be riskier than large-cap stocks due to their sensitivity to interest rates and changes in the value of the dollar. However, small caps have the potential for higher returns during bull markets.
To reduce risk, investors can choose to trade or invest in small caps as a group rather than eliminate the risk inherent in individual small-cap stocks. Today we will discuss why small caps may provide big performance in 2023:
For the sake of simplicity, we will use the Ishares Russell 2000 ETF (IWM - Free Report) as our proxy for small caps.
Follow the Leader:
The Russell 2000 tends to lead the overall U.S. market in both directions. For example, IWM topped on November 12th, 2021 – long before the S&P 500 Index ETF (SPY - Free Report) , which didn’t top until January 7th, 2022.
Image Source: Zacks Investment Research
Pictured: IWM topped months before SPY. Can it now lead the major indices back up?
Image Source: Zacks Investment Research
Pictured: SPY topped long after IWM and is now lagging on the recovery.
Fast forward to today, and IWM is once again leading – but this time to the upside. IWM has cleared its 200-day moving average, while SPY and the Nasdaq 100 ETF (QQQ - Free Report) remain stuck below it.
Image Source: Zacks Investment Research
Pictured: IWM is already back above its 200-day moving average. The first major index to do so outside of the Dow.
Image Source: Zacks Investment Research
Pictured: QQQ has recovered some but remains well below its 200-day moving average.
Break Above Resistance:
IWM is trying to break above trendline resistance dating back to its top in Q4 2021.
Image Source: Zacks Investment Research
Pictured: IWM is trying to take out a more than year long descending trendline.
Relative Strength:
Over the past month, IWM has begun to outperform its larger-cap rivals. IWM is up 1.6%, while QQQ is -2.6%, and SPY is -0.4%.
Sector Allocation Mix:
The asset allocation of IWM makes the ETF poised to outperform in 2023. Financials such as United Bankshares Inc (UBSI - Free Report) , Old National Bancorp (ONB - Free Report) , and First Financial Bankshares Inc (FFIN - Free Report) ) make up nearly a quarter of the asset allocation in the ETF. Banks within the ETF stand to benefit from the current rising interest rate environment because when interest rates rise to lofty levels, banks make more money from the spread between what banks pay customers and the interest that can be earned by investing.
The second largest sector allocation in the IWM ETF is industrials. Though Deere & Co (DE - Free Report) and Caterpillar (CAT - Free Report) are large caps, they can be excellent barometers for the industrial space. Deere grew earnings by an impressive 81% last quarter, while Caterpillar hit new all-time highs yesterday.
Image Source: Zacks Investment Research
Pictured: DE's EBITDA illustrates the momentum in industrial stocks.
Lastly, oil and gas stocks comprise more than 5% of the ETF’s assets. The energy sector was a top performer in 2022 and shows little sign of slowing in the new year. IWM components such as oil and gas refiner Murphy USA (MUSA - Free Report) hold a best possible Zack’s Ranking of 1 – suggesting that earnings may continue to grow strongly over the next few quarters.
Image Source: Zacks Investment Research
Pictured: Small cap energy stocks like MUSA have been delivering on earnings.