U.S. Small Caps at Two Crucial Junctures, Strategist Says

(Bloomberg) -- Smaller U.S. stocks may be worth watching right now for both their relative performance and their technical picture.

The Russell 2000 index of small-cap stocks has fallen 1.5 percent since Feb. 22, while the S&P 500 index, which tracks the biggest American companies, has risen 4 percent. And that difference could bode ill for the entire stock market, equity strategist Matt Maley of Miller Tabak + Co. wrote in a note Friday.

“This divergence is a concern because the Russell has been an excellent leading indicator for the rest of the market on many occasions in the past,” Maley wrote. “We all know about how it topped out just over a month before the rest of the market did in the second half of 2018, but it also led the rest of the market higher during the spring and summer of last year.”

U.S. Small Caps at Two Crucial Junctures, Strategist Says

The performance of the Russell 2000 is often seen as reflecting sentiment about the U.S. economy, as the companies tend to be more domestically focused versus the relatively international firms in the S&P 500. So, if the Russell is underperforming, it could mean softening expectations for American growth. Earlier this month, Societe Generale SA strategists recommended betting against the Russell, while going long on its components with strong balance sheets, as a way to position protectively against a credit crunch.

Smaller stocks are also at a key technical level, with the Russell close to its 200-day moving average for several months now and unable to make a decisive break above it. The gauge closed Thursday at 1,565.75, below its 200-day average at 1,570.36.

If the Russell “finally gets tired of trying and breaks down from here, it’s going to be quite negative,” Maley said. “If, however, it can finally break seriously above that line, it will force us to question our more cautious stance on the small-cap index.”

©2019 Bloomberg L.P.