ETFs
Why It’s Time to Buy Small-Cap ETFs? Strategist
Matt Kaufman, Head of ETFs at Calamos, joins Wealth! to provide insight into the best small-cap ETFs and why now might be the time to start buying them.
“We see that the Russell 2000, a broad measure of small-cap stocks, is still about 17% off its 2021 record high. So a lot of that underperformance is actually driven by interest rates, because small caps are much more reliant on external financing than larger companies. So over the last couple of years in that small-cap space, we’ve seen earnings and margins decline. The cost of capital has gone up, and so have interest rates. Today, we think that’s largely priced in, and so if interest rates start to come down again, we could see a decline or two this year; we could see small-cap prices rise accordingly,” Kaufman told Yahoo Finance.
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This post was written by Nicolas Jacobino
Video Transcript
Well, we’ve all seen the headlines.
Technology is driving markets higher.
This year, the technology sector is up about 20% year-to-date, compared to small caps which are up less than 1%.
Despite this trend, our next guest thinks that perhaps now is the time to bring up the topic of small caps for discussion.
Let’s bring in Matt Kaufman Calamos, Head of ETF S, for the ETF Report brought to you by Invest QQQ.
Happy to see you.
All right.
So, take us through the thesis here, Matt, as to why we might perhaps see a trend in a new direction.
Yeah, nice to see you again.
This year, year-to-date, small-cap stocks are lagging large-cap stocks, as this chart shows, by the largest amount we’ve seen since 1998.
That’s a dislocation of about 14% from the S&P 500.
So, you know, as you said, we’ve seen large caps have had a nice run since the 2022 market decline and small caps really haven’t participated in that run.
We see the Russell 2000, a broad measure of small-cap stocks, still about 17% from its 2021 record high.
Much of this underperformance is actually interest rate related, as small caps are much more reliant on external financing than large companies.
So, you know, over the last couple of years, in this small cap space, we’ve seen lower earnings and lower margins.
The cost of capital has increased in line with interest rates.
Today, we believe this is largely reflected in the prices.
And so if interest rates start to come down again, you know, we could see a cut or two this year, and we could see small cap prices increase as a result.
So as these lower borrowing costs occur, that can actually become a tailwind for small cap stocks.
The story continues
How damaging is the timing if we don’t see a reduction until December versus what’s currently projected or what has the highest probability for that first reduction in September?
What’s the net delta, if you will, for small cap performance over the course of this year, if we see a lag?
Yes, we think a lot of that underperformance is priced in and we’re already seeing some of that outperformance.
We have a Timpani mutual fund, a small cap mutual fund that is starting to outperform its competitors and perform well in this small cap space.
But you’re right, we do see some volatility in this small cap space.
So we encourage people to look at the small cap sector, but to enter with some risk management.
ALL RIGHT.
So what are the top ETFs that investors are currently turning to with this strategy in mind?
Yes, there are a few products that we see in people’s homes.
Um, you know, being able to prepare for this small cap rally.
On Monday, we launched CPR J, a 100% downside-protected ETF that gives you exposure to the Russell 2000.
So we launched this product on Monday, the cap rate on this product is 11.2%, which is the highest cap rate of any one-year capital protected product on the market today.
So this allows you to participate in the potential growth of small caps, but in a way that allows you to not participate in the downside over the next year.
So for people with an investment horizon of a year or more and looking to invest in a principal-protected Russell 2000 product like CPR J, I think this makes a lot of sense for them.
And then the second product that we see, it’s just to, you know, do the next 10 seconds.
This is C VRT.
It is a convertible product that has convertible bonds, issued largely by small and mid-cap stocks.
These are therefore convertible bonds that are very sensitive to equity.
We also see a potential for trickle-down in this case.
Matt, nice to see you again, Matt Kaufman, who is the Camos manager for ETF S?
I appreciate it.