A Tale of Two Small-Cap Benchmarks: 10 Years Later
Authors: Phillip Brzenk, CFA, Senior Director, Global Research & Design, [email protected]; Bill Hao, Director, Global Research & Design, [email protected]; Aye M. Soe, CFA, Managing Director, Global Head of Product Management, [email protected]
If indices can represent passively implemented returns in a given universe, then the risk/return profiles among various indices in the same universe should be similar. In large-cap U.S. equities, the S&P 500® and Russell 1000 have had similar risk/return profiles. However, the returns of the Russell 2000 and the S&P SmallCap 600® have been notably different historically.
We investigate what might be driving this distinction, and show that return differences are primarily due to the quality premium, as well as two additional index inclusion criteria—liquidity and public float—that are present in the S&P SmallCap 600 but absent in the Russell 2000. We ultimately find that, all else equal, U.S. small-cap companies with higher profitability, higher liquidity, and higher investability have historically earned higher returns than those with lower profitability, liquidity, and investability