Small caps will not be able to keep up with the market rally in 2023 and 2024, and predictions of conditions that will encourage catch-up trading continue to be pushed further into the future. The Russell 2000 has not made a new all-time high for more than 600 trading days, dating back to November 2021. That’s the third-longest stretch on record, behind the downturn periods following the financial crisis and the bursting of the tech bubble, according to Todd Son, exchange-traded fund and sector strategist at Strategas. .RUT 5Y Mountain The Russell 2000 has not made a new high in more than two years. This gap comes despite the major large-cap indexes surging to record highs this year. And while history and technical indicators suggest the gap between large and small caps will likely eventually close, that point doesn’t seem imminent. “Large caps continue to outperform small caps as yields remain high and robust. [A] “A simple long-term chart of the Russell 1000 and Russell 2000 shows that the outperformance of large caps has reached multi-decade highs and could extend further,” JC O’Hara, chief market technician at Ross MKM, said in a client note on Monday. The prolonged underperformance has not yet scared off those who believe in the long-term value of small-cap investing. Chad Miller, senior portfolio manager at Thrivent, doesn’t think there’s anything “structurally shifting” going on that would prevent small caps from recovering. “Looking forward, those are typically opportunities. When that gap widens and small and mid caps really underperform, we’re tempted to say, ‘Okay, I can take a little bit more risk in small caps and still get rewarded.’ … I think in the long term, we’re going to take that bet,” Miller told CNBC. Miller is one of the managers of the Thrivent Small and Mid Cap ESG ETF (TSME), which is overweight industrials, tech and consumer discretionary stocks relative to the benchmark. However, investors who are nervous about finding winners among small caps may wait until macro factors improve before jumping in and lifting the entire index. Waiting for a rate cut One issue weighing on small caps is rising interest rates. Small caps generally tend to have higher credit risk than large caps. Rising interest rates can make it prohibitively expensive for small businesses to borrow new money or refinance existing debt on their books. Rising interest rates are especially problematic for small banks, which will hurt the bonds and loans they hold as assets and also increase the cost of deposits. The financial sector accounts for more than 15% of the iShares Russell 2000 ETF. The sector’s struggles over the failure of Silicon Valley Bank and other regional financial institutions have contributed to small caps’ underperformance, according to IWM. Recent inflation indicators have shown signs of rigidity, fading hopes of multiple rate cuts by the Federal Reserve this year. Until interest rates start to cut, the sector as a whole could be in a bind, even for strong individual stocks, said Kayla Seder, global macro multi-asset strategist at State Street. “We really want to see areas where we can deliver earnings growth, and we don’t see that much in small caps. If we actually get a rate cut, that might make it more attractive and increase demand for small caps to pick things they can actually deliver. But right now, the interest rate headwinds still feel like too much of a burden to take that risk,” Seder said. Even among S&P 500 companies, earnings growth is concentrated in Big Tech stocks. But of course, why the cuts come could be just as important. Companies with weak balance sheets and banks that rely on loan growth are likely to struggle if we fall into a recession. The combination of slowing economic growth but subdued inflation may be just what small caps need. Reasons for optimism If the performance of the companies themselves and the overall economy improves, things could get easier for small caps. UBS Global Wealth Management, in a June preview note authored by Mark Haefel and Solita Marcelli, said it favors small caps over large caps due to discounts and expected small cap earnings improvement. “With the S&P 600 small cap index trading at a discount of about 30% to the large cap index (based on forward price-to-earnings multiples), we continue to believe that the interest rate cut should be a positive catalyst for small cap performance to catch up. As small cap earnings performance is highly correlated with large caps and has a higher up-down swing, we expect small cap earnings growth to accelerate over the course of the year,” the UBS note said. Small caps could also benefit from an upturn in the global economy that will benefit sectors such as manufacturing, which are heavily represented in the small cap index. Angelo Kourkafas, senior investment strategist at Edward Jones, said a strong manufacturing purchasing managers’ index correlates with small cap outperformance. The Institute for Supply Management (ISM) PMI has been trending higher this year, dropping to 49.2 in April after briefly surpassing the key level of 50 in March. Investors who really want exposure to small-cap stocks can also look outside the U.S. Wolf Research analyst Rob Ginsburg said in a May 29 client note that global small-cap stocks are outperforming their U.S. counterparts and could be poised for a surge. — CNBC’s Michael Bloom contributed to the report.
Small-cap stocks’ slump is longer than historically
Services
© 2026 Business Investopedia. All Rights Reserved.