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Where Will the iShares Russell 2000 Index (ETF) (IWM) Go Next?

Small caps are holding a key line of support, and a breakout might be possible. But ...

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What’s going on with the small-cap Russell 2000 index lately? While the iShares Russell 2000 Index (ETF) (NYSEARCA:IWM) is higher by about 2% for the year, it continues to largely shuffle sideways and underperform the S&P 500.

The bears point to this small-cap underperformance potentially being a warning sign, as small caps often tend to act as a leading indicator. The bulls, on the other hand, point to large-cap tech, which has been a significant contributor to the recent rally in the SPDR S&P 500 ETF Trust (NYSEARCA:SPY).

To start building some perspective for small-cap stocks, look at the following ratio chart where I divided the IWM ETF by the SPY ETF.

Click to Enlarge

On the chart, we clearly see that out of the election last November and December, small caps widely outperformed large caps. However, in 2017, this outperformance has retraced back to the blue support line.

Through this lens, the recent weakness in the IWM could be labeled merely a mean-reversion move, which if we look closely has in recent days already begun to bounce a little. In other words, I don’t see a major red flag in small-cap stocks … yet.

IWM ETF Charts

Looking at the multiyear weekly chart of the IWM, we see that the up-trending channel marked by the purple-dotted parallels remains intact.

IWM ETF chart weekly view
Click to Enlarge

After a sharp rally last November, the IWM ETF reached the upper end of this channel and has been in consolidation mode since. This sideways consolidation phase thus far continues to be supported by buyers quickly stepping in at the lower end of the range, marked by the blue box.

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