Small-cap stocks can outperform during specific economic conditions, particularly immediately following market downturns.
But even then, the Russell 2000 index rarely stays ahead of the S&P 500 for a long time.
Adding Russell 2000 exposure can be a temporary, tactical move rather than a core portfolio strategy.
Investing can be super easy. Most of the time, it's hard to beat the wealth-building power of holding a simple S&P 500(SNPINDEX: ^GSPC) index fund over the long haul. A low-fee exchange-traded fund (ETF) can do the job, such as the SPDR S&P 500 ETF Trust(NYSEMKT: SPY) or the Vanguard S&P 500 ETF(NYSEMKT: VOO). Adding more funds to your investment over time is also helpful. And if that's all you ever do, you'll have a solid nest egg in a few decades.
Then again, the mighty S&P 500 isn't always the best of all possible choices. There are times when a tighter focus on small-cap stocks will serve you better. Buying a more targeted ETF like the Vanguard Russell 2000 Index Fund ETF(NASDAQ: VTWO) would be the stronger selection In those specific market moments.
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Is the spring of 2025 one of those times? Let's check out the market conditions that can make the Russell 2000 ETF shine, and then I'll review how closely the current economy matches that description.
The numbers don't lie
Stop me if you've heard this before, but the S&P 500 tends to beat most market indexes over time. The annualized total return for the Russell 2000 fund has been 6.1% over the last decade. The fund's S&P 500 cousin posted an annual 12.1% total return over the same period. From this perspective, it's almost always a better idea to rely on the S&P 500 ETF.
But there are some notable exceptions. Let's say you timed the macroeconomic panic of February 2016 just right, loading up on index funds with a $10,000 investment in Vanguard's S&P 500 fund and another $10,000 in the Russell 2000 ETF. You would have seen the Russell 2000 investment pull away from the broad market tracker for a while. Two and a half years later, the S&P 500 investment would have been worth $16,210 while the Russell 2000 position had grown to $18,000. These total returns assume you reinvested dividend payments in more shares of the same assets:
But I hope you were ready to take action on your investments in the summer of 2018. The market tide turned sharply at that point. At the end of April 2025, your Russell 2000 ETF position would be worth about $23,200 while the S&P 500 fund soared to $35,200.
Moreover, the Russell 2000 doesn't automatically benefit from every downturn. For example, it never outperformed the S&P 500 in the inflation crisis on 2022.
Cherry-picking perfection? I don't recommend it.
So yeah, the Russell 2000 ETF can beat the broader market from time to time, but I had to cherry-pick the investment period to an almost impossible level. The ideal buy-in window was only open for a couple of weeks in 2016, and pretty much any other starting point would have delivered inferior results even in a hand-picked golden era.
In other words, this ETF doesn't look like a robust foundation for your nest egg portfolio. It's better seen as a temporary play on very specific market conditions, added to your diversified portfolio like any other strategy-specific stock or ETF.
If you choose to make that move, you'd need to pinpoint the bottom of a deep economy crisis. I know, you probably don't remember the 2016 crisis but oil prices were down and there was a trading war brewing with China.
That does sound pretty familiar to the market watchers of 2025, to be fair. But can you buy those Russell 2000 ETF shares at exactly the right time, and remember to unload them before the stronger performance fades out? Honestly, few investors will get either one of these endpoints just right, and even fewer can nail both of them.
Stop me again if I told you this before (again), but the Vanguard S&P 500 ETF is usually a better idea than the Russell 2000 alternative. There's a time for betting on small-cap stocks, but the risks are often greater than the potential rewards.
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Anders Bylund has positions in Vanguard S&P 500 ETF. The Motley Fool has positions in and recommends Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.
