Small-Cap ETFs Take the Lead on Concerns Over Trade Wars

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As President Donald Trump looks at protectionist policies, small-capitalization stocks and asset category-related exchange traded funds are beginning to pull ahead of the pack.

Small-cap growth names have particularly stood out over the past week, with the iShares Morningstar Small-Cap Growth ETF (NYSEArca: JKK) up 5.6% and the PowerShares Russell 2000 Pure Growth Portfolio (NYSEArca: PXSG) up 5.4%. The iShares Russell 2000 ETF (NYSEArca: IWM), which tracks the benchmark Russell 2000 Index, rose 4.3% in the past week, compared to the S&P 500 Index's 2.3% return.

Meanwhile, leveraged plays were also rallying on the recent strength. Over the past week, the ProShares Ultra Russell2000 (NYSEArca: UWM), a double leveraged bet on the Russell 2000,jumped 8.7% and the Direxion Daily Small Cap Bull 3X Shares (NYSEArca: TNA), the triple leveraged play on the Russell 2000, surged 13.2%.

Trump recently announced plans to impose global metal tariffs. Market observers are also predicting that this may be a prelude to Trump's other agendas, such as going after Chinese intellectual property theft and NAFTA and the broader retaliatory trade impacts.

Nevertheless, smaller U.S. companies that have a higher exposure to the U.S. and less exposure abroad in terms of revenue and profit would be more insulated from international trade disputes, which has caused more investors to shift toward the small-cap segment.

To protect themselves, “investors should think about the companies that derive more of their revenue from domestic industries, that fact should work in their favor in the event of greater protectionism,” Matt Forester, chief investment officer of BNY Mellon’s Lockwood Advisors, told MarketWatch, adding that the group “already looks fairly attractive, because they’re the ones who should also benefit from tax cuts.”

According to FactSet data, Russell 2000 companies generate 79.4% of revenue from the U.S. exposure, whereas 69.7% of the S&P 500's revenue exposure comes from the U.S.

“While we do not have a specific insight whether a trade war is realized, we have assembled a group of industries which have low exposure to a trade war,” Thomas Lee, a managing partner at Fundstrat Global Advisors, said in a note, pointing to companies with low exports as a percent of sales.

For more information on small-capitalization stocks, visit our small-cap category.

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