Key Points:
- We think the Russell 2000 may be due for a catch-up period after underperforming the S&P 500 by 1,700bps from 2011-2017 (lagged NDQC by 6,400bps). Prior outperformance cycles lasted 2-3 years.
- YTD, the Russell 2000 has taken the clear lead, highlighted by a break to all-time highs late last week. Further, both the Russell 2000 Growth and Value indices are at highs.
- Fundamentals seem to back the move. Russell 2000 earnings stagnated from 2012-2016. After a pickup to double digits in 2017 EPS growth, 2018 EPS growth is set to accelerate sharply. Growth is likely to outpace S&P 500 growth this year and next year for a couple of reasons:
#Median tax rates of 29% for Russell 2000 companies set to drop to around ~20%. This is a bigger drop than for S&P 500 companies.
#A much higher proportion of Russell 2000 companies are turning from negative EPS to positive both this year and next compared with the S&P 500. This is true in Industrial, Energy, and Cyclical sectors, where growth is also higher at the median than the S&P 500.
