For many investors, the recent performance of the Russell 2000 Index has been a source of frustration. Despite the Federal Reserve’s decision to lower interest rates, the index has only seen modest gains. This situation underscores the need for patience when it comes to reaping significant rewards from smaller stocks.
One way investors can ease this burden is by considering exchange-traded funds (ETFs) like the Neuberger Berman Small-Mid Cap ETF (NBSM). As indicated by its name, NBSM is a small/mid-cap (SMID) blend fund, meaning it doesn’t rely solely on one segment for returns. The inclusion of mid-cap stocks, which have not been particularly explosive since the rate cut, may still appeal to advisors and investors. Historically, mid-caps tend to exhibit lower volatility compared to smaller stocks, often delivering superior returns.
Another advantage of NBSM is its active management approach. This characteristic can be particularly beneficial in the SMID-cap space, where active management can yield significant advantages.
“The relative lack of analyst coverage in the SMID-cap universe can result in companies that are underappreciated and mispriced versus their potential, creating opportunities for active managers to add value,” states NBSM’s issuer.
Speaking of Active Management…
Utilizing active management in the SMID sector goes beyond simply finding overlooked stocks. This strategy can also help investors focus on quality companies while avoiding those with fundamental weaknesses. Achieving these objectives can be challenging with broad-based small-cap indexes.
“Roughly half the companies on the Russell 2000 aren’t profitable, which means they’re often highly leveraged. Lower rates help reduce their interest expenses, since smaller companies rely more on variable financing,” reported The Daily Upside.
While rate cuts may provide some benefits for smaller stocks, investors can lessen their reliance on Federal Reserve support by opting for NBSM. Its focus on quality can lead to a portfolio that avoids heavily indebted, rate-sensitive companies.
Interestingly, NBSM is significantly underweight in the healthcare sector, which often relies on low borrowing costs in the small-cap space. In contrast, the ETF is notably overweight in industrial stocks compared to the Russell 2000, suggesting a potential positive correlation with increasing defense and infrastructure spending.
Nonetheless, the potential impact of rate cuts on smaller stocks cannot be overlooked. With this in mind, NBSM may be well-positioned for growth, rewarding patient investors in the long run.
“Bloomberg compiled analysts’ price targets for the index last week, and with the expectation of rate cuts, Wall Street sees the small-cap index rising as much as 20% in the next 12 months, outperforming the 11% anticipated for the S&P 500,” according to The Daily Upside.
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