'Not a junk rally:' How to trade the strongest small-cap stock market in three decades

• State Street's small-cap ETFs tracking the S&P 600 indexes are up more than 20% this year, compared to near-flat or negative performance in the prior year period
• Non-heavily shorted small-cap stocks are outperforming heavily shorted ones, indicating a sustainable rally rather than a 'junk rally' or short squeeze
• Analysts recommend investors look beyond large-cap concentration in the S&P 500, noting small-caps remain overlooked despite strong fundamentals and combined mutual fund/ETF flow data showing continued large-cap preference

Summary: Historic Small-Cap Rally Presents Sustained Investment Opportunity

Key Findings:

Small-cap stocks are experiencing their strongest performance in over three decades, according to State Street Investment Management. Matt Bartolini, the firm's global head of research strategists, emphasized this is "not a junk rally," pointing to fundamental strength rather than speculative excess.

Critical Data Points:

• All 11 small-cap GICS sectors are outperforming their large-cap counterparts—a phenomenon not seen in over 30 years
• State Street's SPSM and SLYG ETFs (tracking S&P 600 Small-Cap indexes) are both up over 20% year-to-date
• By comparison, SPSM fell nearly 2% and SLYG gained just 0.86% during the same period last year
• The Russell 2000 Index recently traded at 2,993.70, up 0.59%

Market Implications:

The rally's sustainability is supported by several factors:

• Wall Street firms are upgrading small-cap earnings expectations more than downgrading them
• Lightly shorted small-caps are outperforming heavily shorted ones, indicating genuine fundamental strength rather than a short squeeze
• Stronger relative momentum and market breadth across the small-cap universe

Expert Recommendations:

Phil McInnis of Avantis Investors noted that investors remain overweight large-caps, particularly the S&P 500, which doesn't provide full market exposure. He recommends diversification into small-caps, mid-caps, non-U.S. developed markets, and emerging markets, with the latter performing "tremendously well" over the past year.

Despite strong performance, small-caps continue receiving less investor attention than large-caps, presenting a potential opportunity for portfolio enhancement.