Small-Cap U.S. ETFs: Did The Year-End Rally Just Begin?

Small-cap fund iShares Russell 2000 ETF IWM has underperformed the S&P 500 this year for the most part. Overall, the small-cap fund IWM is up 19.5% this year versus 24.2% gains recorded by the S&P 500 and 28.6% returns offered by the Nasdaq. Despite renewed tariff tensions, domestically-focused small-caps lagged its bigger counterparts. Margin pressure has supposedly weighed on the small-cap segment.

However, the trend is reversing of late. IWM has gained 5.9% in the past three months, in line with the Nasdaq and higher than the S&P 500’s gains of 4.7%. Let’s see which factors have been propelling small-cap ETFs higher.

Upbeat U.S. Jobs Data

U.S. jobs data have been upbeat for the past two months. In November, U.S. employers added 266,000 new jobs, after an upwardly revised 156,000 gains in October. The latest number beat market expectations of 180,000. It was the highest gain in payrolls since January (read: Sector ETFs to Win After Robust October Jobs Data).

Dovish Fed & Upbeat Holiday Season Spending

Fed chair Jerome Powell set the much-desired dovish tone. The U.S. central bank has enacted three rate cuts this year and has vowed to take a dovish stance for the near future. Plus, upbeat consumer spending this holiday season points to the decent health of the U.S. economy, which should favor small-cap stocks (read: What Soft Confidence? 3 ETFs & Stocks for Solid Holiday Buying).

Cheaper Valuation

The subdued performance earlier in the year brought valuations of the constituent companies to relatively cheaper levels. Stressed shares of small U.S. companies are set for an uptrend in performance as value stocks have picked up momentum, market analysts say. Per Reuters, the performance of financial shares, has been notable in recent months on a steepening yield curve. This trend helped small-cap shares. Financials constitute 20% of the Russell 2000 versus 13% of the S&P 500.

January Effect

Small-cap securities have historically proven their outperformance in January. According to Hirsch, between 1974 and 2012, a portfolio of small-cap stocks that hit their 52-week lows in mid-December beat the NYSE Composite Index “by an average 9.5 percentage points (not annualized!) per year between late December and the January/February period,” as quoted on MarketWatch.

The idea is that investors sell losing stocks in December to create capital losses to offset capital gains from other investments, thus reducing their tax liability. But of late, January effect starts taking effect much before the New Year. “Most of the January effect happens in mid- to late December,” per analysts.

Below we highlight a few small-cap ETFs that have been hovering around a 52-week high at the current level.

S&P Smallcap Health Care Invesco ETF PSCH – Up 1.93% on Dec 6

Invesco S&P Smallcap Value With Momentum ETF XSVM – Up 1.80%

S&P Smallcap Value ETF SPDR SLYV – Up 1.64%

S&P Smallcap 600 Value Vanguard VIOV – Up 1.60%

S&P Small-Cap 600 Value iShares ETF IJS – Up 1.51%

S&P Smallcap 600 Index Vanguard VIOO – Up 1.48%

S&P Smallcap 600 SPDR SLY – Up 1.41%

S&P Smallcap Growth ETF SPDR SLYG – Up 1.28%

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