The capital market is a continuous cycle of ups and downs. There are usually more ups than downs, but there will always be both at some point. This seems to be the only certainty in a market notorious for its uncertainty.
Although three main indicators – S&P 500, Dow JonesAnd Nasdaq Composite — has risen so far in 2023, the past year or so in the stock market has largely been defined by a bear market. No one can say for sure when another bull market will happen, but one thing is certain: it will happen eventually. And one of the best things investors can do is position themselves to take advantage of it.
One such way is to stock up on one Russell 2000 ETFs. Let’s see why.
The role that small-caps can play in your stock portfolio
Small-cap companies have market capitalizations between about $300 million and $2 billion. When it comes to investing, there is usually an inverse relationship between size and risk. Large-cap companies (those with a market cap above $10 billion) typically have more resources at their disposal, so they are generally more stable. Because of their large size, however, their growth potential is often much lower than that of smaller companies.
Small-cap companies are more prone to volatility and more sensitive to economic conditions, but their smaller size leaves them with more potential upside. Where a business has a lot of room to grow, there is money to be made for investors who go along for the ride.
The Russell 2000 is an index that tracks the world’s 2,000 smallest companies. Russell 3000. It is considered the benchmark for small-cap stocks, similar to the S&P 500 for large-cap stocks. Because investing in small-cap companies involves more risk, investors can benefit themselves and reduce some risk by investing in a broad Russell 2000 ETF.
Although Russell 2000 ETFs follow the same index, they will have differences, such as the number of stocks held and expenses. For example, the Vanguard Russell 2000 ETF (VTWO 0.18%) While there are 1,941 companies and an expense ratio of 0.10% iShares Russell 2000 ETF (IWM 0.15%) There are 1,925 companies and an expense ratio of 0.19%. All in all, you can’t go wrong with the Vanguard ETF’s low costs.
The Vanguard 2000 ETF also provides diversification, with companies in 11 major sectors. The top five sectors are financials, healthcare, industrials, consumer discretionary and technology, and they account for just under three-quarters of funds.
The tide will often turn
During bear markets and times of economic uncertainty, investors typically lean toward large-cap companies because of their relative stability. This is why small-cap stocks tend to get the short end of the stick during bear markets. However, the opposite also tends to be true. During bull markets, small-cap stocks often outperform large-cap stocks.
Consider the bull market that occurred in the early stages of the Covid-19 pandemic. From April 2020 to the end of 2021, the Russell 2000 outperformed the S&P 500. Still, during last year’s bear market, the Russell 2000 saw its value significantly lower than the S&P 500. The same thing happened during the Great Recession, with Russell 2000 falling more than 46% from September 2008 to March 2009 and then doubling in value in less than two years.
You can’t guarantee that this trend will continue, but now may be the time to take advantage of falling prices and shop “on sale.” The Vanguard Russell 2000 ETF is down more than 28% from its November 2021 high, and now might be the time to start (or start growing) your stake if you haven’t already.
A large portion of your stock portfolio should not be in small-cap stocks because of their volatility and risk, but you should give yourself some exposure to benefit from their growth potential. A good rule of thumb is to have 5% to 15% of your stock portfolio in small-cap stocks, depending on your risk tolerance and proximity to retirement. The closer you get to retirement, the smaller your portfolio should be in small-cap stocks.
Stephen Walters has no position in the stocks mentioned. Motley Fool has no position in any of the stocks mentioned. Motley Fool has a revealing policy.