Small caps are under fire for the first time in over a year…
The Russell 2000 Index recently fell 9% in a little over a month. That quick drop has pushed the sector into oversold territory.
We haven’t seen this kind of setup since March 2020. And as you probably know, that was an incredible buying opportunity.
It wasn’t the only one, though… History shows that buying small caps when they’re beat up – like today – is a winning strategy. A 16% gain in small caps is possible over the next year. But you need to act fast.
Let me explain…
“Bottom fishing” is a dangerous way to invest. It’s when you look around for “value” in beaten-up areas of the market.
The problem is that falling stocks tend to keep falling. So while it might feel heroic to time the bottom, it’s usually a losing strategy.
Instead, what you want to do is find something that’s beaten up and buy after prices have reversed. That’s where oversold setups come into play.
If you’re new to this idea, we’re talking about the relative strength index (“RSI”). It’s a contrarian tool that lets us see when an investment has gone too far, too fast in either direction.
An oversold extreme often marks a buying opportunity. For example, when an asset falls below and rises back above an RSI of 30, hitting oversold territory, a short-term move higher is likely.
It basically means that a beaten-up asset is begging to move higher… which is exactly what we want to see.
Small caps recently fell below an RSI of 30 for the first time in over a year. Take a look…
This sector has taken a hard turn lower recently. Again, it’s down roughly 9% from its June peak through last Monday’s close. But history shows that the worst is likely over.
Since 1990, similar setups have happened roughly 1% of the time. And outperformance tends to follow. Check it out…
Not many sectors return roughly 10% per year for three decades. But as impressive as that is, today’s setup blows that return out of the water…
Previous extremes have led to 5% gains in three months, 8% gains in six months, and a 16% gain over the next year.
Prices haven’t made a huge reversal yet, but they’ve started to drift higher. That means small caps are a safe bet right now. And the iShares Russell 2000 Fund (IWM) is an easy way to make the trade.
History says you can expect 16% upside from here. So if you’re interested in double-digit profits, it’s time to bet on a reversal in small caps.
Good investing,
— Chris Igou
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Source: Daily Wealth