Latest / The Bear Market Podcast with Fexingo: Surviving Downturns, Buying the Dip, and Long-Term Resilience / How the Russell 2000 Rally Signals a Broader Economic Shift
Transcript
- Lucas: So the Russell 2000 just put up a 3.4% gain in the last five days. That’s more than triple the S&P 500’s 1% move over the same stretch. Luna: Yeah, and it’s not just a one-week blip. The Russell has been grinding higher for months now. We’ve talked about this before on the show, but it keeps accelerating. Lucas: Right. And I think the market is starting to price in something real. Look at the yield curve — the 10-year Treasury is at 4.57%, the 2-year at 4.08%, so the spread is about 49 basis points. That’s up from basically flat a year ago. Luna: A steepening curve with the Fed on hold is historically a good environment for small caps. They tend to be more domestically focused, more cyclical, and they benefit when recession fears fade. Lucas: Exactly. And the GDP data supports that. Real GDP growth annualized came in at 2% in the first quarter, up from 0.5% in the prior quarter. That’s not a boom, but it’s a clear acceleration. The economy is not falling apart. Luna: So the small-cap rally is essentially a bet that the soft landing worked. But I wonder if there’s more to it — like maybe it’s also about valuation catch-up. Lucas: Big time. Large caps, especially the mega-cap tech names, have been expensive on a price to earnings basis for a while. The Russell 2000, by contrast, still trades at a discount to its own historical average. So you’ve got a value rotation happening within the rally. Luna: And the VIX is down to 16.59, which is pretty calm. That’s encouraging for risk-on plays like small caps. Lucas: Yeah, the VIX dropping 8% in a week tells you the market isn’t bracing for a shock. But I want to flag one risk: the Russell 2000 is heavily weighted toward regional banks. And those banks have been under pressure from higher deposit costs and commercial real estate exposure. Luna: That’s the flip side. If small caps are rallying because people think the economy is fine, but regional banks are still sitting on underwater CRE loans, that’s a tension. Lucas: It is. But the market seems to be looking past it — at least for now. If the Fed’s next move is a cut, which some traders are still betting on for late 2026, then regional banks could get a big relief rally. And that would pull the whole Russell up further. Luna: Let’s talk about Kevin Warsh, since he’s been in the news. He’s a candidate for Fed chair, and he’s known for being more market-friendly. Do you think his potential appointment is feeding this small-cap optimism? Lucas: Possibly. Warsh has talked about simplifying bank regulation, which could help regional banks. And he’s been critical of the Fed’s late-cycle tightening in previous cycles. If the market expects a more accommodative Fed under his leadership, that’s a tailwind for small caps. Luna: So the narrative is: soft landing, steepening curve, potential Fed pivot, and cheap valuations. That’s a pretty powerful cocktail. Lucas: It is. But I’d caution against reading too much into a five-day move. The Russell is still only at 2,869 — that’s below its 2021 high. So we’re not in breakout territory yet. Luna: Fair. But the direction of travel matters. If the economy continues to grow at 2% and the Fed stays patient, small caps could have room to run for the rest of the year. Lucas: Let’s look at some sector specifics. Within the Russell, the biggest winners this week have been in industrials and materials. That’s classic cyclical leadership. Technology, on the other hand, has been more mixed. Luna: Which makes sense. If the economy is reaccelerating, you want companies that benefit from increased spending on equipment, construction, and raw materials. Lucas: Huawei’s news about planning new smartphone chips this fall is actually relevant here. It’s a reminder that the tech rivalry with China isn’t going away, and that could create supply-chain disruptions for small-cap manufacturers that depend on Asian components. Luna: Good point. So the small-cap rally isn’t without headwinds. But on balance, the data seems supportive. Lucas: One more thing: the VVIX — the volatility of the VIX — is at 91.16, basically flat. That tells me options markets aren’t expecting a sudden spike in fear. So the calm environment could persist. Luna: Alright, so what’s the takeaway for listeners? Is this a time to add small-cap exposure? Lucas: If you have a long-term horizon, I’d say yes — but with discipline. Don’t chase the 3.4% week. Instead, look for quality small caps with strong balance sheets and pricing power. The Russell has a lot of low-quality names that will get crushed if the economy falters. Luna: So focus on profitability metrics, not just momentum. Lucas: Exactly. And if you’re listening and you find these kinds of market breakdowns useful, I’ll just say — we keep this show ad-free, and listener support is what makes that possible. If you’ve gotten value from our conversations, you can help at buy me a coffee dot com slash fexingo. Luna: Yeah, it’s a small gesture that goes a long way. We really appreciate it. Lucas: So back to the rally — one last data point. The Dow is at 50,580, up 1.8% in five days. That’s also a cyclical signal, since the Dow is heavy on industrials. So the rotation is broad. Luna: It feels like the market is finally rewarding the parts of the economy that were left behind during the ai driven tech rally. Lucas: Exactly. And that’s healthy. A bull market that only lifts Apple and NVIDIA isn’t sustainable. You need broad participation, and the Russell is providing it. Luna: Alright, we’ll keep watching. Thanks, Lucas. Lucas: Thanks, Luna. See everyone next time.