12/20/23 09:08 AM EST

Implications of the Russell 2000 Rally

Below is a chart and brief excerpt from today’s Market Situation Report written by Tier 1 Alpha. If you’re interested in learning more about the Hedgeye-Tier 1 Alpha partnership, there’s more information here.

We covered this bonus chart on November 30th, 2023; we were so young and spry back then. NDX was at 16000, and Russell at 1800. We suggested the ratio would begin to revert down; however, we did not anticipate one of the most rapid rallies in Russell's history to make that happen. This is definitely not a victory lap.

Using a logarithmic scale to chart the big-cap tech stocks against small-cap ratios continues to provide a good illustration of market dynamics. Since our last analysis, the NDX sits 0.5% above its 2021 prior all-time high, the Russell remains 17% below its peak, and the S&P 500 Equal Weight is 4.6% off its high point. Size matters.

This is a long-term trend of mega-cap outperformance and should continue over the years to come. This 12-minute explainer video explains why. ProfPlum has delved into the dynamics underpinning this outperformance, primarily attributing it to growth in passive indexation and increasing market inelasticity. While the long-term trend remains intact, it doesn't mean the ratio can't continue to revert in the short term.

In particular, we're watching tax-driven behavior. It does not feel like a coincidence that small cap outperformance began almost on the exact day that mutual fund tax selling season ended. With huge gains in the Nasdaq 100 for 2023, it seems inevitable that accounts are holding on for the New Year to realize those gains. If this is correct, further normalization is ahead.

Learn more about the Market Situation Report written by Tier 1 Alpha.