We start our Thursday at the onset of the Second Half of 2021. It has been quite a mysterious run for the market over the last six months. After an explosive surge after the election and carrying into the first two months, we’ve seen significant consolidation for small-cap stocks since March. Despite that consolidation, the Russell 2000 was up 18% heading into this week. And continued support suggests that small-caps will still outperform the S&P 500 over the next six months. Historically, small-cap stocks tend to outperform when emerging from crisis.
Small-Cap Stocks Value
The iShares Russell 2000 ETF (NYSE:IWM) has effectively consolidated alongside its large roster of stocks. Small-cap value had an incredible run during the fourth quarter of 2020 and the first quarter of 2021. But in mid-March, the Russell 2000 effectively stalled out. The small-cap index topped out around March 15 and has struggled to continue moving higher over the last few months.
As you can see in the chart below, the Relative Strength Index (RSI) – which measures overbought and oversold conditions, has not peaked above 70 or under 30 since February.
I find this to be a bit unusual, as the bulls and the bears haven’t wanted to come out to play in small-cap stocks for an extended period. Perhaps that’s the nature of today’s market, given the ongoing fears of inflation, uncertainty about interest rates, and broader woes about the economy, jobs, and more.
How Small-Cap Stocks Can Soar
The economy is still attempting to find its full footing. But small-cap companies will benefit from the continued acceleration of economic growth in the United States. The process has taken a bit longer than expected due to changing labor conditions, product shortages, and more. But the patient investor can find strong value and upside in smaller cap stocks by focusing on four industries in the second half.
Those are automotive, hospitality, banks, and industrials. Each firm offers a blend of positive metrics, with banking sitting at the top. The recent stress tests that enabled the largest 23 U.S. banks to buy back stock and increase dividends generated the most headlines about the health of the U.S. financial sector. But investors should be paying attention to robust merger and acquisition deals to measure the proper health here.
Ongoing consolidation in the banking sector will continue, and executives continue to buy up company stock at solid paces. In the U.S, banks continue to consolidate at an annual rate of roughly 3% to 5%. Yet many investors ignore the potential of smaller banks that remain attractive long-term targets based on their current fundamentals and balance sheets.
As you know, I’m very keen on following the activity of insider buyers and their ability to generate alpha for their fellow investors. We will continue to look for insider buys that turn into small-cap momentum plays for the months ahead.