My pick for the best exchange-traded-fund of 2020, the iShares Russell 2000 Growth ETF (NYSEARCA:IWO), got off to a horrible start. IWO plunged more than 30% during the March crash. However, it has an excellent comeback story going now that should keep it among the best ETFs to consider this year.
Specifically, IWO recovered nearly all its losses this quarter as the economy has started to recover. What happened to cause this elevated volatility?
Traders hit small-capitalization growth stocks particularly hard in March for understandable reasons. Small companies tend to be less resilient during hardship, all else equal. And small growth companies could face out-sized risk trying to navigate a prolonged economic downturn.
However, with the economy and market putting up some better numbers as of late, small-cap growth has returned to favor. IWO has delivered a jaw-dropping 33% return over the past quarter. Small-cap growth stocks are a high-powered bet on American economic growth. That’s looking like an increasingly compelling idea now as traders continue to focus on nimble fast-growing technology firms.
IWO: Concentrated In Favorable Sectors
The IWO ETF is focused primarily on two sectors: healthcare and technology. In fact, as of this writing, IWO holds 52% of its assets in just those two sectors, with 34% of its funds invested in healthcare and 18% in technology. Traditionally, both of those sectors tend to be full of dynamic market-beating companies. On the other end of the spectrum, IWO has minimal exposure to telecoms, energy, basic materials and utilities. In doing so, it avoids many of the stodgier areas of the market, and could end up being one of the best ETFs in a post-Covid-19 world.
Additionally, you’ll find IWO’s top holding right at the intersection of healthcare and technology. As of this writing, IWO’s top position is telehealth services company Teladoc (NYSE:TDOC). TDOC stock has been one of the year’s top stars as it has enjoyed a surge of business due to the pandemic. While IWO doesn’t take large individual positions — it has hundreds of positions as it is a broad index fund — the big winners like Teladoc naturally rise to be larger positions thanks to price appreciation.
Taking a larger view, IWO is a great vehicle to get access to many of America’s leading new growth companies. It’s hard to keep up with all the new Teladoc-style rapid growth companies that emerge every single year. With IWO, you’ll get a little exposure to the cream of the crop.
Favorable Tradewinds Set to Return
It seems like a lifetime ago, but back before the novel coronavirus hit, one of the primary reasons to favor small-cap stocks was their protection from international trade disputes.
In fact, last summer, small-cap companies were surging as the trade war with China heated up. Mayflower Advisors’ fund manager Larry Glazer summed it up last July: “Investors are fearful, and they’ve been positioning for the smallest stocks they can get their hands on, and the most domestic stocks they can get their hands on in hopes of escaping this trade war.”
However, the tables turned by the end of 2019. The Trump Administration announced a Phase 1 trade deal with China. This caused large-cap tech and retail companies that rely on Chinese supply chains to rejoice. It appeared that global logistics concerns had ended. Small-cap funds such as IWO dipped as investors rotated into companies with major multinational footprints.
Fast forward to today, however, and China is back under scrutiny. Many politicians and health experts have criticized China’s handling of the coronavirus. The U.S. and some of its key allies are waging a public relations battle against Huawei and China-backed 5G networks. And now the Trump Administration is stepping up pressure on Chinese trade, with some administration officials speaking of a potential breakdown in the trade deal. This should, in turn, drive a sector rotation back into domestic small-cap companies like we saw last summer.
Is IWO Still One of the Best ETFs?
At this point, IWO’s 2020 outlook rests primarily on whether a potential second-wave of the coronavirus ends up shutting down the economy again. A renewed economic stall would hit small-cap growth stocks hard.
However, if we’re able to keep the economy heading toward recovery, IWO should be set to continue its run-up. As IWO has proved with its 33% run over the past three months, it holds a collection of high-powered growth companies that can surge with any broader economic recovery. Additionally, the potential for renewed U.S.-Chinese trade concerns adds an additional catalyst for IWO. Any sort of “buy American” sentiment resulting out of the coronavirus would also be a massive win for the IWO’s constituent companies, and place it among the best ETFs to buy in 2020.
Ian Bezek has written more than 1,000 articles for InvestorPlace.com and Seeking Alpha. He also worked as a Junior Analyst for Kerrisdale Capital, a $300 million New York City-based hedge fund. You can reach him on Twitter at @irbezek. At the time of this writing, he held no positions in any of the aforementioned securities.