The flow of money into small caps may not be a rotation from profitable growth businesses.
Dave Nadig, ETF journalist and financial futurist, believes investors are “just buying, buying, buying.”
“We're seeing a diversification trade,” he told CNBC's “ETF Edge” this week. “We're seeing inflows into everything, and that to me means people are trying to spread their exposure a little bit more widely, which is smart in an election year.”
Nadig believes that expanding the portfolio will help cushion volatility in the months leading up to the presidential election.
“[Investors] are now buying value stocks for the first time in a long time, buying some of these defensive sectors, buying small caps. But they haven't stopped buying the other things as well,” he said. “I think that's money coming out of that huge bucket of money markets that we know is sitting out there.”
As for small-cap trading, Nadig believes it is too early to judge whether the uptrend is sustainable.
“If there is a sustained rally in small caps, and by sustained I mean small caps of all kinds significantly outperform large caps over two or three months, then I think we're going to see a lot of money chasing that performance, which is always there,” Nadig said.
“If what we're seeing instead is just a re-diversification trade, then I think you would expect it to be a little bit of a drag here for the rest of the year,” he added.
The Russell-2000of small caps, fell 0.6% on Friday. But it outperformed the Dow Industrial AverageThe S&P500 and that Nasdaq-Composite. Additionally, the Russell 2000 gained nearly 2% this week. The index is now up nearly 8% over the past month, but has remained largely unchanged since President Joe Biden took office in January 2021.
“I don’t think this big wave will come from cash”
Anna Paglia, who develops global ETF strategies for State Street Global Advisors, sees expectations of rate cuts as a catalyst for the strength of the sector's laggards.
“Investors are gradually learning to take risks and there will be momentum,” said Paglia, the company’s commercial director.
However, she cannot imagine investors dipping into their money market accounts because people want cash for a specific reason.
“Most of it is slow. I don't expect a huge wave out of cash,” Paglia said. “I don't think there's going to be a huge wave of investors getting out of money market funds and moving into the stock market or ETFs.”