Revel in the Rally With This Small-Cap Fund

American writer John Steinbeck penned, “Thus do the gods speak with tiny causes.”

In our case, the market is speaking with small-caps and now is the time to listen and potentially buy.

On the subject of listening, as some readers may recall, I have previously discussed the current strength of small caps in my Eagle Eye Opener. As a refresher, or perhaps an eye-opener…

“Small caps lagged the S&P 500 by more than 10% in 2023. But they handily outperformed large caps in December after the Fed’s dovish pivot, and are trading nearly 20% below their historical valuation and at a 30% valuation discount to large caps.”

Now, as the majority of you know, I am not here to sugarcoat the reality of things nor do I ignore setbacks. Setbacks are not goal stoppers, whether in one’s personal life or the market. So, with that said, the S&P Small Cap 600 did see a drop a few days prior to this writing.

However, the drop was to its support level and market analysts are viewing this drop to support as more of a reset for another rally, versus a precursor to another small-cap slide.

Aside from technicals, the S&P 600 is trading at roughly 14 times analysts’ expectations for the coming year, and while that is almost one-third lower than the S&P 500’s 19.8 times forecast, it is not a bad thing for investors.

This could, in fact, be a good thing. As valuations are cheap, it won’t take much for them to be lifted higher, and that is what we are seeing. With lowered prices and raised growth expectations, this is a sector that may be enticing.

That being said, let’s take a look at one of the strongest ETFs in the small-cap segment, the iShares Core S&P Small-Cap ETF (NYSEARCA: IJR).

As part of BlackRock’s Core ETF offerings, IJR is often used as a portfolio building block. With only a sliver of the names in the benchmark index, the S&P Small Cap 600, the fund may look under-diversified at first glance. However, IJR’s avoidance of illiquid small-cap names may speak to its strong liquidity. Further, its compact portfolio makes it easier to hedge, which is a bonus when it comes to market volatility and reducing the risk of adverse price movements in the fund.

Generally, the fund will invest 80% of its assets in the component securities of its index and in assets that have economic characteristics almost identical to the component securities of the aforementioned index. The remaining 20% of its assets are often invested in certain futures, options, cash and cash equivalents.

IJR has net assets of approximately $77 billion and $74 billion in assets under management. Speaking to its strong liquidity, the fund has a narrow bid/ask spread of 106.01 x 1000 to 106.07 x 800. Moreover, IJR has a dividend yield of 1.34% and pays a dividend of $1.42 every three months.

The chart below confirms what we have already discussed: small caps fell, small caps are rallying. But confirmation is a good thing. The chart is indicative of continued growth in the small-cap sector as within the last month or so, IJR has transcended expectations in its daily highs. Currently, the fund is trading around $106, which is impressively close to the high end of its 52-week range at $110.

Courtesy of stockcharts.com

Industrials, financial services and consumer cyclicals make up the majority of the fund’s holdings and its top 10 holdings include: BlackRock Cash Funds Treasury SL Agency (XTSLA), 1.91%; Cytokinetics Inc. (CYTK), 0.71%; e.l.f. Beauty Inc. (ELF), 0.69%; SPS Commerce Inc. (SPSC), 0.62%; Fabrinet (FN), 0.60%; Applied Industrial Technologies Inc. (AIT), 0.58%; Meritage Homes Corp. (MTH), 0.56%; Ensign Group Inc. (ENSG), 0.55%; ATI Inc. (ATI), 0.50% and Mueller Industries Inc. (MLI), 0.47%.

In summation, small caps are winning the race right now. Cheap valuations, a strong growth outlook and ample buyer-backing create the golden triad for this segment of the market. And the iShares Core S&P Small-Cap ETF is no exception — in fact, it may potentially be the standard for interested investors.

As with any investment, investors must do their own due diligence and understand that small-cap stocks are susceptible to market volatility, but IJR’s tidy portfolio may help as a hedge against such ups and downs.

On a final note, I will attest that often it is hard to appreciate the small things sometimes, whether in our private life, professional life or even our investing life. However, right now, it is time to appreciate the small things — especially the small caps.

I will leave you with a quote from 20^th century Spanish philosopher and essayist Jose Ortega y Gasset, a native Spaniard who lived during a time of heightened political volatility and surely came to appreciate the small things. “For the person for whom small things do not exist, the great is not great.”

As always, I am happy to answer any of your questions about ETFs, so do not hesitate to email me. You may see your question answered in a future ETF Talk.