The recent performance of the Russell 2000 index has raised some concerns about its profitability. Despite a solid 10.1% gain in July, the index has seen a significant drop of approximately 4% so far in August. ALPS’ Paul Baiocchi attributes these volatile swings to the overall composition of the index, pointing out that an estimate from Apollo Global reveals that 40% of companies in the Russell 2000 have negative earnings.

Quality Over Quantity

Investors in the Russell 2000 have seemingly accepted the ups and downs that come with being part of the index. However, Baiocchi suggests a different approach to avoid the profitability drag. He recommends prioritizing quality companies over a larger number of stocks, advising investors to consider more selective exchange-traded funds like ALPS O’Shares U.S. Small-Cap Quality Dividend ETF Shares (OUSM). According to Baiocchi, these quality companies not only pay and grow their dividends but also exhibit less volatility compared to their peers. This strategic shift allows advisors and investors who have witnessed small caps stagnate for five years to reallocate to a segment that has been lagging.

Portfolio Composition

In contrast to the broad range of stocks in the Russell 2000, the ALPS O’Shares U.S. Small-Cap Quality Dividend ETF Shares (OUSM) maintains a much more focused portfolio with just 107 stocks. The fund’s top three holdings include Tradeweb Markets, Juniper Networks, and Old Republic International, each accounting for approximately 2% of the fund’s total weightage, as per FactSet data. Despite the overall market decline, shares of this small-cap fund have only dropped by 1.5% month to date, outperforming the Russell 2000 by more than 2 percentage points during this time period.

The profitability issues within the Russell 2000 highlight the importance of quality over quantity when it comes to investments. While the index may continue to experience volatility due to its diverse composition, strategic investors can mitigate these risks by focusing on companies with strong fundamentals and stable dividend growth. By adopting a more selective approach to their investment strategies, investors can potentially navigate the challenges posed by the current market conditions and achieve better long-term returns.

Finance

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