Why Is Russell 2000 Outperforming the S&P 500?

The leading US small-cap stock index, Russell 2000 (USA 2000), has surged compared to other indices in June, as it is less reliant on healthcare and industrial goods as well as it is on technology. 

Big tech stocks, known as FAANG, comprised of Meta (META), Amazon (AMZN), Apple (AAPL), Netflix (NFLX), and Google (GOOG), have been outperforming since the beginning of the year, with interest potentially spreading to other sectors. 

So far in June, and following a recent shift from an accelerated runup in AI stocks led by Microsoft (MSFT), Nvidia (NVDA), and others, the Russell 2000 has outperformed the S&P 500 by two times, closing the performance gap between the two indices.

In spite of this, the Russell 2000 has even outperformed the tech-heavy Nasdaq (US-TECH 100) by over 2.5% twice this week. A situation where small-caps outperform tech like this hasn't been seen since November 2020. Let’s look at the possible reasons behind this:

Small Caps Get Investors' Attention

Small-cap stocks tend to get increased interest when general optimism about the US economy exists. Recently, the Russell 2000 index rose 3.2% compared to just 1.5% growth from the S&P 500. Bank stocks, in particular, were among the outperformers, in another sign that investors might be regaining optimism that the economy is on solid footing following last week's better-than-expected jobs report last Friday, June 2.

Relative Outperformance

Global markets have been cautious, and some are questioning if they have run up too fast, with tech in particular, given what some see as hype over artificial intelligence. The S&P 500 may be on the edge of fitting into a bull market after running up about 19.7% since hitting bottom back in October. However, some investors are concerned that a few heavyweight stocks drive this performance.

The Nasdaq, by contrast, is up 29.90% since hitting its bottom in December. Large tech firms like Nvidia, Meta, Microsoft, and Google have recouped their past losses this month. These companies have strongly promoted Artificial Intelligence (AI) through their services. These companies may have also taken advantage of falling bond yields. 

What’s Driving the Stock Market?

Investors may want to note that only a few names have driven stock performance this year. The companies known as "Big Tech" on the S&P 500 have soared this year, and these seven names now represent 27.4% of the index's value. That compares to just one-fifth of the index's valuation at the start of the year.

Recently, Apple made news as its market capitalisation surpassed that of the entire Russell 2000, keeping that title for two weeks. That is the longest stretch on record. The last time Apple beat the premier small-cap index was in September 2020. (Source:Market Watch)

Investors Are Worried

The market performance has surprised many asset managers, who have been worried since the start of the year about the trajectory of interest rates and a potential global recession. The "breadth" of the market has narrowed, which is a possible signal that trouble lies ahead. "Breadth" reflects the number of stocks participating in a rally. Just 38% of the shares listed on the S&P 500 were closing above the 200-day simple moving average (SMA) as of last week.

In a sign that many traders don't see the index rising much more, data compiled from the CFTC's report on Commitments of Traders showed that 17.4% of futures on the S&P 500 are short. That's the highest number of short positions since September 2007. Analysts point to the lack of breadth in the market as one of the concerns behind the lack of conviction in future performance.

On the other hand, those making the bullish argument point to labour data, which points to no slowdown in the economy or a recession for the moment. It implies that no pending economic situation would hit corporate earnings and drag down stock market prices. The S&P 500 hasn't reached a bull market yet, and this has been the longest time in doing so since the late 1950s. There are increasingly mixed views on what that slow churn upward means for the future of the markets.

In conclusion, as tracked by the Russell 2000, small-cap stocks have been rallying since the May jobs report released last Friday. Many traders see the report as putting a "soft landing" back on the table. The index outperformed the S&P 500 by 2.5% on Tuesday.