Small caps may be in for big returns

From a BNN morning commentary: Some research by Raymond James Chief Investment Strategist, Jeffrey D. Saut, suggests that the narrow range of performance of the Russell 2000 small cap index is the tightest in 35 years and on a monthly basis, there have only been three other times since 1953 when the range has been more tight. More importantly, history shows that post this kind of low dispersion trading, small caps have earned an average of 21-31% on a forward one-year basis.

According to Thackray’s Investors Guide, US small caps tend to outperform from a seasonal perspective from December to March. So there seems to be a case building for us to take a look at the small caps in the US – as represented by the Russell 2000 index. Below is a chart of the iShares Russell 2000 index ETF IWM. As you will note, I’ve drawn what appears to be a pretty obvious lid at around $117 for this ETF. A break through this level might suggest a return to its old high of the mid $120’s. Not a bad move, should we see the breakout. I didn’t post a daily chart with the near termed timing indicators I usually follow, as there really isn’t much point getting excited about this sector until we see that $117 price point broken by a few days.

iwm

What about Canadian small caps?

The iShares Canadian Small Capped ETF (XCS-T) paints the picture of a very volatile index. Indeed, while there is at least some measure of correlation by the US small capped index to its big brother large capped index the S&P500 – there is less correlation between the Canadian small caps and the larger capped TSX60 – or even the TSX300 indices. This is due to a number of reasons – diversity in sectors, number of stocks in the index, and the definitions of what constitutes a “small capped stock” in the US vs. Canada. So treat these two animals differently –don’t expect them to move in tandem.

XCS

Despite the massive volatility in this ETF – one can see that there appears to be some pretty strong historic support coming in at around current levels (that is, $12.50/share). Current resistance is at $13.50. Look at the size of the candles since July. The small caps have been whipped around like a pro showing us his yo-yo tricks.  This volatility is not uncommon for XCS – take a look at the candlestick size in 2014. Big up/down weeks. This is not an ETF for those who suffer from a heart condition. But if you can handle the crazy moves, it may be a trade-off of the $12.50 floor – or after a break of the $13.50 resistance. The chart shows enough chop to suggest that the index could move rapidly to $15 – if Venus aligns with Mars for the sector – so to speak.  I haven’t seen any seasonal work on this sector- so no edge to offer you on that discipline. But it looks interesting at this juncture for traders and speculators.

 

Keith on BNN’s 1:00pm MarketCall show this Thursday November 5, 2015

Keith BNN

I haven’t done an afternoon show in a while, so this should be fun.

 Tune in to BNN to catch me live on BNN’s premier call-in show, where viewers like yourself can ask my technical opinion on the stocks you hold.

Call in with questions during the show’s live taping between 1:00 and 2:00 pm. The toll free number for questions is 1 855 326 6266. You can also email questions ahead of time to [email protected] – it’s important that you specify they are for me.

7 Comments

  • Hi Keith. I would like to thank you for all the time you spend blogging and writing. I don’t know how you find the time. Enough said. I wonder if you would take a few more minutes out of your day to talk to the all of the folks who follow you about Phantom distributions on ETF’s like ZLB, XRE etc. I have just recently got a tax slip for over 4522.98 and only receive a dividend of 750.00. My Accountant didn’t even know what was going on. After a little reading I now know that it is important to do a adjust cost on the initial buy of the stock so you don’t have to pay big taxes. Thanks again.

    Reply
    • Thanks Leo–yeah, it gets kinda busy, but I do love the work!
      I think thats a good idea to mention the downside of ETF distributions. let me do some investigation on how and why they occur and I’ll cover it in an upcoming blog and or article.

      Reply
    • Leo-here, at last, is an answer provided by the good folk at Horizons ETF’s–hope that helps:

      Typically, ETFs that generate interest or dividend income will distribute their net income (income net of fees and expenses during the period covered by the distribution) throughout the calendar year on a monthly, quarterly or even semi-annual basis – depending on just how focused the ETF is on generating such income. Net Capital Gains for these ETFs, and for ETFs that maybe focused primarily on generating Capital Gains, will typically only be distributed at the end of the tax year of the ETF.

      In order to avoid partially liquidating, and to some point depleting, the portfolio of the ETF, the ETF issuer may pay this distribution in cash or, more likely, in new units of the ETF – which are then (simultaneously) consolidated so that the number of units outstanding has not changed. In effect, this simply means that these Net Capital Gains ‘distributed’ to you have been reinvested in the ETF portfolio. It also means that, since the new units distributed to you have been consolidated back to the original number of units you held immediately prior to the distribution, you will need to adjust your adjusted cost base (ACB) of your units to reflect the additional money you have invested in the ETF. This process allows you to keep your money invested in the ETF without the ETF having to sell securities to fund the distribution.

      As an example, suppose ‘Andrew’ purchases 10,000 units of ABC ETF, for $10 per unit. His cost, or ACB, is $100,000 ($10 * 10,000 units). Assume as well the ETF NAV at year-end is $12 per unit and the ETF issues a capital gains distribution of $1.25 per unit, in new units, at a new unit price of $10.75 ($12 NAV less the distribution of $1.25). Andrew would (theoretically) receive 1,162.7907 units of the ETF (10,000 original units *1.25 distribution per unit / 10.75 the reinvested unit price = 1,162.7907 units), with a dollar value of $12,500 bringing his total units to 11,162.7907. The newly issued units are then consolidated with the original 10,000 units, bringing his total units back to 10,000 and the NAV per unit back to $12 per unit. The investor (or their accountant/record-keeper) should then adjust the cost of those units from the original $100,000 to $112,500 (Original cost of $100,000 plus distribution value of $12,500), to reflect the full value of what the investor has contributed to their investment in the ETF. Andrew would also receive a tax slip deeming him to have received the $12,500 capital gain, plus any net income the ETF paid to him throughout the year. Although his distribution has remained invested, which is potentially advantageous, he will now have a tax liability for the distribution he has been deemed to have received.

      Reply
    • yes–I may mention this in a blog today–smart vs. dumb $ is getting a little skewed bearishly, although not outright so

      Reply
  • Looks like the S&P is in for a bit of a pull back. It’s back up at the new highs and the Vix is back down to it’s lows. Would seem like a good time to buy a bit of insurance here. Maybe a pull back before it attacks the highs again.

    Reply
    • Yes, we sold a bit – having moved to almost 100% equity in early October, now 10% cash. Still bullish on certain sectors but waiting for a pullback to spend the cash again. This is how we bring alpha to our model–trade where we see an edge!

      Reply

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