It's no secret that stocks have enjoyed a big run higher in 2012, with especially strong gains in the major market averages during the past three months. It's also no secret that much of these gains can be attributed to the expectation and subsequent reality that the Federal Reserve will keep pumping money into the system. And while I suspect that few Wall Street observers anticipated such an open-ended commitment by the central bank to keep buying bonds at a rate of $40 billion per month for an unlimited period, most were buying stocks in anticipation of some help from Ben Bernanke and crew.
Certainly, gains in the market have been solid in the Dow and S&P 500, but these big indices have been trounced by their tiny buy mighty brethren. For example, the mega-cap stocks in the Dow are up more than 9% year to date, while the broader-based measure of large-cap stocks, the S&P 500 index, is up more than 14% so far in 2012. Not too shabby, but far below the gains seen in the small-cap and microcap segment of the market.
Even the broadest of small-cap indicators, the Russell 2000 index, has surged more than 16% year to date, much better than the Dow and slightly better than the S&P 500. And many small-cap and microcap exchange-traded funds (ETFs) have handily outperformed the Dow, the S&P 500 and even the Russell 2000, so far in 2012 -- and they've outperformed especially well during the past one-month and three-month periods.
This recent appetite for aggressive asset classes means that the so-called "risk on" trade continues to be very much in effect. The reason why is because, in general, small-cap and microcap stocks tend to represent the growth segment of the economy. And even though dividend and income funds have been, and will likely continue to be, very popular among investors, traders know the real action is in small- and microcap sectors.
One theory driving these "big but little" stocks higher has a lot to do with optimism that the economy is going to turn the corner. Although there are plenty of headwinds to deal with, e.g., Europe's recession, China's slowdown, anemic U.S. GDP growth and persistently high unemployment, there are signs that the economy is on the road to recovery, e.g., improved housing metrics, a slight downtick in the unemployment rate, and, of course, the Fed's easy money promise. This optimism means money will likely continue to grow more confident about the future, and that means we are likely to see more money funneled into stocks with higher risk and higher return potential.
For traders looking to capitalize on the continuing leadership of the small-cap and microcap sectors in the market, there are very easy ways to do so using ETFs. Here are three tiny but mighty ETFs that could make you 10% during the next 10 weeks.
1. Vanguard Small Cap Growth ETF (NYSE: VBK)
The Vanguard Small Cap Growth ETF has seen big inflows in recent weeks, and that's a big sign that money is moving in to embrace smaller stocks with a growth orientation.
This fund holds stocks that are strong performers, but not necessarily household corporate names. Companies such as BioMarin Pharmaceutical (Nasdaq: BMRN), Royal Gold (Nasdaq: RGLD) and Ariba Inc. (Nasdaq: ARBA) may not be on the blue-chip list, but these top holdings have helped VBK post a 15% year-to-date gain, and an impressive 12% gain during the past three months.
2. iShares Russell Microcap Index (NYSE: IWC)
Forget small caps, to go really big you often have to go really small, as in microcap stocks. Here the way to do so is via the iShares Russell Microcap Index ETF, a fund that's pegged to the microcap segment of the market.
In 2012, IWC is up 17.7%, and over the past three months, the shares have surged 10.7%. This index includes companies ranging in total market capitalization of approximately $50 million to $550 million. To put this in perspective, that's only about 3% of the companies that are publicly traded, so with IWC, you're getting the best of the smallest.
3. PowerShares Listed Private Equity Portfolio (NYSE: PSP)
There's been a lot of talk about private equity firms this election year, and whether they create or destroy jobs. That debate aside, one thing many private equity firms definitely do is generate profits. Those profits are partly responsible for the gains in the PowerShares Listed Private Equity Portfolio ETF.
This fund has outperformed just about every other small-cap ETF out there, posting year-to-date gains of 17% while also surging some 14% during the past three months. This run higher in this unique fund comprised of publicly traded private equity firms is a clear indication that investors' risk appetite is back, and as such, traders can profit from that with PSP.
Buy IWC at the market price. Set stop-loss at $49.80. Set initial price target at $58.91 for a potential 10% gain during the next 10 weeks.
Buy PSP at the market price. Set stop-loss at $8.92. Set initial price target at $10.60 for a potential 10% gain during the next 10 weeks.