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CONTRIBUTORS

Chris Clark

Chief Executive Officer, Co-Chief Investment Officer, & President, RFS

We found that small-cap’s batting average—that is, the percentage of periods in which the Russell 2000 had higher average annualized 3-year returns than the Russell 1000—was at its highest following periods of heightened volatility.”
Chris Clark

With a little more than a month to go, the third quarter of 2024 has already proven to be eventful. First, we saw a welcome reversal in market leadership in July, with the small-cap Russell 2000 Index advancing 10.2% and the Russell Microcap increasing 11.9% versus a gain of 1.5% for the Russell 1000 and respective losses of -0.4% and -0.7% for the Russell Top 50 and Nasdaq. The Russell 2000 Value Index also finished July ahead of the Russell 2000 Growth Index, up 12.2% versus 8.2%. The Russell 2000’s edge versus the Nasdaq was the fourth widest spread since the inception of the small-cap index after November 2000, December 2000, and February 2001. Relative to both the Russell 1000 and S&P 500, it was small-cap’s third largest spread after January 1992 and February 2000. Thus far in August, large-caps have rebounded, with the Russell 2000 down -1.5% while the Russell 1000 rose 2.1% through 8/23/24.

While hopeful that small-caps can sustain leadership, we also wanted to examine what small-caps have done following previous periods of heightened volatility. Rather than look at the short run, we chose to look at 3-year returns, going back 25 years and used trading days when the Russell 2000 rose or fell 1% or more on a single trading day. We found that from 2004-2006, the Russell 2000 had a 13.6% average annual total return while from 2012-2014, the small-cap index had an average annual total return of 19.2%

Small-Caps Generally Have Strong Three-Year Returns After Periods of High Volatility

Percentage of Trading Days with Moves of 1% or More in the Russell 2000 Over the Last 25 Years from 6/30/99- 6/30/24

Source Russell Investments. The average percentage does not include 2024 YTD (Year to Date) data. Indexes are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.

After a lengthy period of large-cap dominance, it is fair to ask how small-caps have fared versus their bigger siblings. For this analysis, we used the CBOE S&P 500 Volatility Index (“the VIX”). Also known as the ‘fear gauge,’ the VIX measures market expectations of near-term volatility conveyed by S&P 500 stock index option prices. We looked at subsequent average annualized returns for the Russell 2000 and Russell 1000 following periods when the VIX was elevated, using monthly rolling return ranges for the volatility index. We found that small-cap’s batting average—that is, the percentage of periods in which the Russell 2000 had higher average annualized 3-year returns than the Russell 1000—was at its highest following periods of heightened volatility, as you can see in the chart below.  

Small-Cap’s 3-Year Returns Following Highly Volatile Markets Have Led Large-Cap’s

Subsequent Monthly Rolling Average Annualized 3-Year Performance for the Russell 2000 in Monthly Rolling CBOE S&P 500 Volatility Index (VIX) Return Ranges, 12/31/89-6/30/24

Source: Bloomberg. Batting Average refers to the percentage of 3-year periods in which the Russell 2000 Index outperformed the Russell 1000 Index. Indexes are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.

In light of the larger-than-usual amount of uncertainty in the markets and economy today, we would not be surprised to see more volatility through the remainder of 2024. Investors are trying to make sense of an apparently imminent interest rate reduction, a contentious election season, moderating inflation, and a somewhat muddy earnings and profit picture for stocks taken as a whole.

Definitions

The Russell 1000 Index is an unmanaged, capitalization-weighted index of domestic large-cap stocks. It measures the performance of the 1,000 largest publicly traded US companies in the Russell 3000 Index.

The Russell 2000 Index is an index of domestic small-cap stocks that measures the performance of the 2,000 smallest publicly traded US companies in the Russell 3000 Index.

The Russell 2000 Value and Growth indexes consist of the respective value and growth stocks within the Russell 2000 as determined by Russell Investments.

The Russell Microcap Index includes 1,000 of the smallest securities in the small-cap Russell 2000 Index, along with the next smallest eligible securities as determined by Russell.

The Russell Top 50 Index measures the performance of the largest companies in the Russell 3000 Index. It includes approximately 50 of the largest securities based on a combination of their market cap and current index membership and represents approximately 40% of the total market capitalization of the Russell 3000 Index.

The CBOE S&P 500 Volatility Index (VIX) measures market expectations of near-term volatility conveyed by S&P 500 stock index option prices. It is the square root of the risk-neutral expectation of the S&P 500 variance over the next 30 calendar days and is quoted as an annualized standard deviation.

The Nasdaq Composite Index is a market capitalization-weighted index of more than 3,700 stocks listed on the Nasdaq stock exchange.

The S&P 500 Index tracks the stock performance of 500 of the largest companies listed on stock exchanges in the United States.

Standard deviation is a measure of the degree to which a fund’s return varies from the average of its previous returns. The larger the standard deviation, the greater the likelihood (and risk) that a fund’s performance will fluctuate from the average return.

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All investments involve risks, including possible loss of principal. Past performance is no guarantee of future results.  Please note that an investor cannot invest directly in an index. Unmanaged index returns do not reflect any fees, expenses or sales charges.

Equity securities are subject to price fluctuation and possible loss of principal.

Commodities and currencies contain heightened risk that include market, political, regulatory, and natural conditions and may not be suitable for all investors.

Small- and mid-cap stocks involve greater risks and volatility than large-cap stocks.

US Treasuries are direct debt obligations issued and backed by the “full faith and credit” of the US government. The US government guarantees the principal and interest payments on US Treasuries when the securities are held to maturity. Unlike US Treasuries, debt securities issued by the federal agencies and instrumentalities and related investments may or may not be backed by the full faith and credit of the US government. Even when the US government guarantees principal and interest payments on securities, this guarantee does not apply to losses resulting from declines in the market value of these securities.

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Any data and figures quoted in this article sourced from Russell Investments, FactSet, Bloomberg and Reuters.

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