TACOMA, Wash. - Money managers expect the turnover related to next month's rebalancing of Frank Russell Co.'s indexes to be lower than last year's.
On June 8, Russell will begin releasing the names of stocks to be added and deleted, effective July 1, from its 21 domestic equity indexes. Membership in the indexes is based on market capitalization.
Chicago's Northern Trust Global Investments expects approximately 500 names to be added to the Russell 2000, said Bob Bergson, senior portfolio manager. That compares with 624 added last year. He wouldn't name any.
Mike Farrell, portfolio manager with David L. Babson & Co., Cambridge, Mass., said his firm expects 487 additions to the Russell 2000 index and 284 deletions. Babson expects 157 stocks to migrate from the Russell 2000 to the Russell 1000 and 106 stocks to move down. The expectations are based on data received from Merrill Lynch's equity derivatives department, he said.
"They're all going to be the same," said Mr. Farrell of managers' predictions of stocks being added and subtracted from the indexes. He wouldn't name any companies.
Babson is expecting only 13 new names on the Russell 1000 index this year.
But one observer predicts the real action will be in the growth and value subindexes.
`Corrections' to subindexes
The lower number of IPOs and the bursting of the tech bubble will lead to "corrections" in those indexes as stocks are reclassified, said Christopher Luck, partner at First Quadrant LLP, Pasadena, Calif.
The number of stocks transferring between the value and growth indexes will be "extraordinarily high," Mr. Luck said, acknowledging the subindex changes are hard to predict because the line between growth and value can be hard to pinpoint. Currently, First Quadrant is predicting turnover rates of 40% and 35%, respectively, in the Russell 2000 Growth and Russell 2000 Value indexes. At those rates, the turnover in each index would be lower than the actual turnover rates in 2000, which were 52.8% in the Russell 2000 Growth and 44.1% in the Russell 2000 Value.
Based on data available April 30, Northern expects this year's list of additions for both the 1000 and 2000 indexes to be "less dependent (than last year's) on IPOs," or initial public offerings.
"Every year is an active year," Mr. Bergson said of the rebalancing. Northern Trust is projecting 25% of Russell 2000 members will move up to the Russell 1000. That move, along with stocks removed because of mergers or bankruptcies, will cause most of the deletions from the Russell 2000, he said.
Northern Trust has identified approximately 300 companies that could be dropped from the Russell 2000, but Mr. Bergson wouldn't name any. "There's going to be quite a bit of reversals," he said, referring to IPOS from last year that are expected to be deleted this year.
Northern Trust officials expect technology stocks to make up a sizable chunk of this year's deletions from the Russell 2000.
Mr. Farrell said the same is true for the Russell 1000 "The biggest trend is obviously the whippings from techs," Mr. Farrell said. He speculated many technology stocks added to the Russell 1000 in last year's rebalancing will be shown the door in 2001. Mr. Farrell expects to see those stocks replaced with consumer-staples stocks.
Timing, as usual, will play a major factor in how investors can best handle the rebalancing. Mr. Farrell said, "The rebalances themselves offer an opportunity to gain alpha." He does not want to execute a trade too far in advance of the rebalancing and he has to know when it is time to sell stocks he has picked up in anticipation of the rebalance.
But the proliferation of hedge funds changes the game, he noted. Last June 30, stocks added to the Russell indexes that day initially experienced quick gains. However, by 1 p.m. Eastern time, the stocks were getting "hammered" as hedge funds had begun selling off those same stocks, said Mr. Farrell.
Brad Lawson, Russell's senior research analyst, U.S. equity research, said investors can look forward to a "reversal of many of the changes made last year." He predicts the biggest trend in this year's rebalance will be technology stocks sliding to the Russell 2000 from the Russell 1000. Financial services stocks are expected to replace them, said Mr. Lawson.
In the broad indexes, Mr. Lawson does not expect as many changes, because of a decreased number of IPOs.
David Chow, co-manager of the $750 million Evergreen Select Strategic Growth Fund, Charlotte, N.C., expects financial services, health-care and consumer staple stocks to pick up some ground lost by technology in the Russell 1000 Growth index, which the fund uses as its benchmark.
Goldman, Sachs & Co., New York, in its annual report on the reconfiguration, said:
* The number of stocks to be added to the Russell 1000 will increase because of recent IPOs, including Reliant Resources Inc., Houston; KPMG Consulting Inc., New York; and Riverstone Networks Inc., Santa Clara, Calif.
* A 21.4% turnover rate is expected in the Russell 2000, with financial services and health-care stocks the most likely to move up.
* Although health care and financial services will make up the largest chunk of additions in the Russell 2000, technology stocks will make up 18% of that index's additions.
Companies Goldman Sachs sees as potential additions to the Russell 1000 include Gemstar-TV Guide International Inc., Reliant Resources and Monsanto Co.
Russell executives, will begin to examine all of the market caps on May 31.