The Pain Keeps Piling Up for Small Caps

The overall stock market might feel like a washing machine right now. But if you look elsewhere, you'll see what serious pain looks like.

For the most part, the S&P 500 Index follows what the largest stocks by market cap are doing. And like it or not, those large caps are the top performers right now. Smaller stocks are having a much harder time...

Small-cap stocks broke below their 2022 lows last month. They hit a three-year low in the process. And they're now in one of the longest downturns of the past 40-plus years.

That long stretch of pain is nearing the worst on record. We don't know when the downturn will end. But history shows that when it does, you'll want to be ready to buy.

Let me explain...

Unlike large-cap stocks, small caps didn't get a relief rally this year.

Small-cap stocks peaked a little more than two years ago. They were down more than 30% at their low last month. And they're flat this year, while the large-cap S&P 500 has jumped double digits.

It has been a long, consistent, and painful couple of years for small-cap investors. We can best see the misery in the Russell 2000 Index – the benchmark for small caps. Take a look...

Most long-term bear markets still have relief rallies along the way. But that hasn't been the case for small caps this time.

Currently, it has been exactly 105 weeks since the Russell 2000 last hit a 52-week high. That's the third-longest losing streak in history.

This next chart shows how many weeks have passed before the index hits a new 52-week high. Once small caps hit that level, the chart resets to zero and begins again. Take a look...

The current streak of lagging performance began in 2021. And since 1980, only the streaks seen during the dot-com bust and financial crisis were longer.

Now, today's streak is far from over. The Russell 2000 would have to rally quite a bit from here to hit a new 52-week high. But when that does happen, we'll want to pay attention.

That's because small caps tend to do darn well after breaking similar losing streaks that have lasted a year or longer. Check it out...

Small caps have performed well over the past four decades. Their typical annual buy-and-hold return was 8.2%. But you can do better by buying after small caps break a long streak without new highs...

The first new 52-week high after a year-plus drought led to 5.9% gains in six months and 15.1% gains over the next year. Plus, small caps were higher 92% of the time a year later.

Obviously, the current streak hasn't broken yet. But this near-record lagging period won't last forever. And once it ends, history shows small caps will likely be big winners.

So if you've ignored this corner of the market recently, that decision has paid off. But don't ignore these stocks forever...

Small caps are worth owning once a new rally gets going.

Good investing,

Brett Eversole

Further Reading

Market corrections happen all the time – for better or worse. But still, many investors are worried about the kind of volatility we're seeing today. Thankfully, history tells us it's too early to give up on stocks. In fact, we might even see a big rally to end the year... Read more here.

Many folks are looking for reasons to sell today. But if you're a long-term investor, times like these make for great buying opportunities – so don't get swept away by the latest headlines. Fear in the financial media is usually overblown... Learn more here