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Small caps nearly caught up with S&P 500: Morning Brief
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Technology stocks led the S&P 500 (^GSPC) lower Tuesday like the Nasdaq 100 (^NDX) closed at its lowest level since early June.
It was the fourth day the tech-heavy index has lost 1.5% or more in the month of July, which is especially notable because there were no losses of that magnitude in the previous two months.
Before the June Consumer Price Index reading on July 11, the Nasdaq 100 was up 23% year to date. But after the CPI posted its first monthly drop in inflation since 2020investors began a rotation from large to small stocks, causing a turnaround.
The Nasdaq has since lost half of those gains, prompting many investors to relative shock upon learning that the Russell 2000 index (^ROUTE) has nearly caught up with the volatile index known for housing the biggest tech players.
“[I] did not have [the] Russell 2000 catching up with the Nasdaq 100 year-over-year on my bingo card to start this month. Getting close,” he wrote Jay Woods, Chief Global Strategist at Freedom Capital Markets and former Governor of the NYSE.
The Russell 2000 is now delivering a better return this year than the AI-powered S&P Select Tech SPDR Fund (XLK) — and is just a few points away from catching up with the S&P 500.
In June alone, the Nasdaq outperformed the Russell 2000 by more than 7 percentage points. Then in July, the relationship reversed dramatically, with the Russell outperforming the Nasdaq by nearly 14 percentage points. It’s the largest month-to-month lead change for which we have data, dating back to 1988.
The narrative in the press followed the rotation as serious concerns about market concentration in the Magnificent Seven it gave way to a miraculous small cap rally.
To be clear, sector rotation is a healthy feature of bull markets. When a leading group of stocks takes a backseat, other pockets of the market should take their place, so that—at the index level—volatility is moderated. Extremes on either side balance each other out.
But given the speed and strength of the recent move, Wall Street is now assessing the damage to institutional portfolios.
According to Morgan Stanley Derivatives Team“The volatility of the last two weeks has started to be very rotational.”
However, as the movement gained momentum, institutions began to rein in leverage (borrowed money) and reduce directional bets on stocks. “What started as a devaluation event quickly morphed into more of a shift in directional exposure to stocks,” the team continued.
The story continues
All this, and there’s still a Fed meeting later today and a quarterly report from Meta to close out July. Buckle up.
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