The 3 Best ETFs to Capture Small-Cap Growth

small-cap growth - The 3 Best ETFs to Capture Small-Cap Growth

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Small-cap stocks and exchange traded funds are on a tear. Just this month, the Russell 2000 index and the S&P SmallCap 600 Index, two of the most widely-followed small-cap benchmarks, are up 9% and 10.5%, respectively.


Here is another point confirming the recent strength in small stocks: On Tuesday, nearly 180 ETFs hit all-time highs. Of that collection of best ETFs, 36 were small-cap funds. Investors are responding in significant fashion.

Since the start of November, the two largest ETFs tracking the Russell 2000 Index and the S&P SmallCap 600 Index have added $5.8 billion and $985.1 million in new assets, respectively, according to data.

In fact, no ETF has seen greater November inflows than the iShares Russell 2000 ETF (NYSEArca:IWM), and only nine have added more new assets this month than the iShares Core S&P Small-Cap ETF (NYSEArca:IJR).

IWM, IJR and related ETFs are fine ideas for accessing small-caps. These funds offer cost efficiencies (IJR is one of the least expensive small-cap ETFs on the market) and robust liquidity. Still, there are other choices warranting of best-ETFs status. That is particularly true for investors with the ability to stomach some added volatility in search of small-cap growth.

Here are a few ideas for investors looking to juice their portfolios’ capital appreciation potential with small-cap growth ETFs.

Guggenheim S&P SmallCap 600 Pure Growth ETF (NYSEArca:RZG)

Expense ratio: 0.35% annually, or $35 on a $10,000 investment.

As its name implies, the Guggenheim S&P SmallCap 600 Pure Growth ETF is a dedicated small-cap growth ETF, and this best ETF follows the S&P SmallCap 600 Pure Growth Index, an offshoot of the broader S&P SmallCap 600.

Of course, there are significant differences between RZG and a standard S&P SmallCap 600 tracking ETF, starting with number of holdings. For example, RZG holds just 144 stocks, while a traditional S&P SmallCap 600 tracker holds, you guessed it, somewhere in the neighborhood of 600 stocks.

There are also significant sector-level differences. A hallmark of many small-cap growth ETFs is a substantial allocation to the healthcare sector, and that is also true of RZG. This ETF devotes more than 26% of its weight to that sector, more than double the 11.7% allocated to healthcare names by the S&P SmallCap 600.

That is to say, when small-cap healthcare names are in style, RZG should perform well, but that is a volatile corner of the equity market and investors will get some volatility with RZG. Over the past three years, RZG’s annualized volatility checks in at 18.3%, compared to 16.1% for the S&P SmallCap 600, according to ETF Replay data.

First Trust Dow Jones Select MicroCap Index Fund (NYSEArca:FDM)

Expense ratio: 0.6% annually, or $60 on a $10,000 stake.

Think of the First Trust Dow Jones Select MicroCap Index Fund as the reverse of the idea “go big or go home.” Investors really looking to supercharge the small-cap growth thesis can go small — really small, as in micro-cap small.

Standard definitions of micro-cap stocks range from market values of $200 million up to $250 million, so in that regard, FDM sort of cheats, as the median market value of its 275 holdings is $356 million, according to First Trust data.

This best ETF among micro-cap ideas follows the Dow Jones Select Microcap Index and has just over $55 million in assets under management after being on the market for more than 11 years. With a massive 46.7% weight to financial services stocks, it can be said this small-cap growth ETF is a play on the possibility of rising interest rates.

FDM’s weight to financials is more than two-and-a-half times its second-largest sector weight, which is consumer discretionary. Over the past three years, FDM has outpaced the S&P SmallCap 600 by 630 basis points, while being only slightly more volatile.

WisdomTree U.S. SmallCap Quality Dividend Growth Fund (NASDAQ:DGRS)

Expense ratio: 0.38% annually, or $38 per $10,000 invested.

Small-cap growth traditionally means, as was noted earlier, big exposure to healthcare stocks, and in some instances, significant weights to consumer discretionary and technology stocks. However, the dividend credibility of small caps has increased in recent years, so there are examples where small-cap growth can lead to dividend growth.

The WisdomTree U.S. SmallCap Quality Dividend Growth Fund proves as much. A simple way of looking at DGRS is that it is the small-cap cousin of the popular WisdomTree U.S. Quality Dividend Growth Fund (NASDAQ:DGRW).

With large-caps, dividends often imply the sacrifice of growth, but that is not the case with DGRS. In fact, this best ETF marries the growth and quality factors. Its emphasis on growth includes a focus on long-term earnings growth expectations.

Unlike traditional small-cap growth ETFs, DGRS has a relatively low weight to healthcare names at just 2.3%. Industrials and consumer discretionary stocks combine for about half of the 263 holdings found in DGRS.

Since coming to market in July 2013, DGRS is higher by 34.3%, compared to a gain of 27.5% for the Russell 2000 over the same period.

Todd Shriber owns shares of DGRW.

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