When we look at a longer-term chart of the Russell 2000, we all know that it peaked in the fall of 2018 and has never come close to regaining that level again. But why?
I hear plenty of reasons. It's late cycle. They are drowning in debt. They are loaded with financials, which weigh it down. I'm sure there are other reasons bantered about, but those are the ones that I hear most often.
Let's begin with the chart itself. This small cap index closed at 1500 on Friday. It was 1500 in October of 2017. That's two years of nothing. Now I know in the course of those two years, the Russell did see a rally of about 15%, which is nothing to scoff at. With the exception of the summer rally in 2018 -- from 1550 to 1750 and the fall decline from 1750 to almost 1250 -- this index has been in a trading range.
We can highlight the Bank Index as being somewhat similar, but the Bank Index actually enjoyed almost an entire year above the range. Not to mention that the Bank Index peaked in January 2018, not in October. Therefore, I don't see how folks can say that as go the banks, so goes the Russell. The only common theme I see is that both groups have gone nowhere in two years, only the banks are closer to three years.
How does the Bank Index compare to the Russell 2000? It's got a similar shape in that there was that spike high in early 2018 and it moved lower, but once it pushed down just over a year ago, it's been in a range, not a steady decline.
Now let's look at the Russell 2000 compared to the S&P 500. We had many ups and downs in 2017 and even the first half of 2018, but since the middle of 2018 it has been a one way street in favor of the large caps.
If you're staring at this chart of the ratio and asking, Where have I seen that chart before? Take a look at the chart of the yield on the 10-year Treasury note. It's almost the same shape as the ratio chart.
The ratio peaked around three or four months before interest rates peaked, but rates have been on a one-way path since November of last year. Now look back at that ratio chart and you will see it was already at the lower band in November. Notice you can see the September 2019 spike in rates and the exact same spike in the ratio (blue circle). Yet, over that time the Bank Index and the Russell on its own have remained in their respective ranges.
It looks to me like small caps prefer higher interest rates, which intuitively makes no sense if they are loaded in debt (at least not to me; I am happy to be schooled in why I am wrong, though). But what I do know is these charts say if rates are going lower, then the small caps are likely to continue their under performance.
As for Friday's market, the S&P filled its gap, so the island is no longer in play. Aside from that, there was very little change in any of the indicators after Friday's rally.
