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Beaten-Down, Small-Cap ETFs Start Rallying: Here's Why

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Small caps were among the most beaten-down zones during the coronavirus-led economic slowdown but sprung back to life lately. The small-cap index iShares Russell 2000 ETF (IWM - Free Report) has gained about 4.3% in the past five days (as of Aug 7, 2020) against 2.5% gains in the S&P 500.

So far this month (as of Aug 7, 2020), the Russell 2000 is up 6% versus 2.4% gains in the large-cap Russell 100 Index and 2.8% gains in the Russell Top 50 Mega Cap. Coronavirus-led lockdowns and shutting down of businesses had caused a severe cash crunch among companies. Small caps with a weak balance sheet faced the crisis even more. However, things have been changing gradually and we’ll tell you how.

Decent U.S. Economic Data

The U.S. economy added 1.76 million jobs in July 2020, down from a record 4.8 million in the previous month. However, the reading beat market expectations of a 1.6 million increase. The unemployment rate fell to 10.2% in July from its previous 11.1% reading and came in better than the expected 10.6% (read: 4 Sector ETFs & Stocks to Buy on Forecast-Beating Jobs Data).

Plus, the U.S. ISM Manufacturing PMI came in at 54.2 for July 2020, up from 52.6 in the previous month and above market expectations of 53.6. That is the highest reading since March 2019.  Since small-caps are closely tied to the domestic economy, the forecast-beating numbers instilled confidence among investors.  

Trump’s Stimulus Executive Order

On Aug 8, President Donald Trump tried to impose executive power by signing four actions on coronavirus relief, one of which will provide as much as $400 (lower than the previous benefit of $600 per week in the CARES Act) in enhanced unemployment benefits after the Democrats and the White House’s talks on a stimulus bill failed last week (read: ETF Areas Likely to Gain on Stimulus Executive Order of Trump).

The other three actions Trump signed include a memorandum on a payroll tax holiday for Americans earning less than $100,000 a year, an executive order on "assistance to renters and homeowners" and a memorandum on deferring student loan payments, according to a CNN article. The move, though not fool-proof, is enough to boost sentiments about small-caps.

Losers Emerging Winners

Not only small caps but also many other losing areas during the peak of the pandemic are emerging as winners lately on the back of compelling valuations. “Small-cap value is still down over 20% and large-cap value is down in the mid-teens,” per Verdence Capital Advisors, quoted on Reuters. The wealth management company went on to highlight that “there’s going to be a meaningful push to bring back manufacturing to the United States and that is going to benefit small caps,” No wonder, with economic recovery showing up, small caps are bouncing back.

Favorable Impact of Presidential Election

America is due for a presidential election this November. Democratic presidential candidate Joe Biden now has considerable chances of winning, according to national polls and forecasts. Many may feel anxious about the future of the sectors and investing areas that won during the Trump administration. One such area is small-cap stocks.

Trump’s “America First” slogan is known to everyone. He intends to bring back foreign jobs to the United States, which in turn has given a boost to small-cap U.S. stocks. However, Joe Biden is also proposing comprehensive new uses of the federal government’s regulatory and spending power to bolster U.S. manufacturing and technology firms. Biden calls for a $400 billion, four-year increase in government purchase of U.S.-based goods and services plus $300 billion in new research and development in U.S. technology concerns, per a CNBC article (read: Trump or Biden, Small-Cap Stocks & ETFs to Gain).

Winning Small-Cap ETFs

Against this backdrop, below we highlight the winning small-cap ETFs in the past one week (as of Aug 7, 2020).

Invesco S&P MidCap 400 Pure Value ETF (RFV - Free Report) – Up 7.4%

Invesco S&P SmallCap Value with Momentum ETF (XSVM - Free Report) – Up 7.2%

Avantis U.S. Small Cap Value ETF (AVUV - Free Report) – Up 7.0%

Overlay Shares Small Cap Equity ETF (OVS - Free Report) – Up 6.1%

Invesco KBW Regional Banking ETF (KBWR - Free Report) – Up 6.1%

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