Trading the Russell 2000 ETF-IWM

The Russell 2000 is composed of 2000 small cap stocks, while the Russell 2000 ETF (ticker: IWM) tracks the index’s performance. Rather than owning 2000 of the small cap stocks the ETF or Exchange Traded Fund gives you the opportunity to own the Russell 2000 index as if it were a stock!

Since the Russell 2000 is used to reflect 2000 small-cap companies its a great diversification tool in one portfolio that tracks more than just the large-cap stocks that most people see on the S&P 500 and the Dow. Not to mention, over the longer term, small-cap stocks have grown better than large caps. The ETF offers one multiple outlets to diversifying their portfolio. One being able to purchase or the sell the Russell ETF itself in your portfolio. The other having the opportunity to trade options on the ETF.

Trading the Russell 2000 ETF- Basics

Before we dive into trading strategies for the Russell 2000 ETF, we should consider three key components in relation to the ETF. The expense ratio, the assets and the performance relative to the index. In this case, we’ll compare the IWM to the S&P 500 ETF index, well known as the SPY.

The expense ratio represents a percentage of the ETF’s assets that are management fees/ operating expenses on an annual basis. The lower the expense ratio, the better for your long-term investment performance.

The Russell 2000 ETF has an expense ratio of 0.19%, meaning if you were to invest $100 000 in the ETF you will pay $190 a year in fees. The SPY has an expense ratio of 0.09%, the inexpensive option our of the two.

When investing in an ETF, one should also consider the assets under management to efficiently invest in the stocks supporting the ETF, which lie on the index. In the IWM’s case, there is not much to worry about with $25 billion of assets under management, the ETF can invest properly in the 2000 stocks on the index. The SPY has substantially more assets under management sitting at $195.79 billion.

Finally its important for the ETF’s performance to match that of the index. That is not a problem for establish ETF’s such as the SPY and IWM. Over the past 10 years, there have been very brief instances of difference. Not enough to be of concern.

Trading the Russell 2000 ETF-Performance.

Why would someone want to invest in the small caps? And the ETF of a small cap index at that? Its a simple answer to a not so simple question. Performance.

Over the Past 10 years. using the 2009 crash low, the IWM has outperformed the SPY drastically. For this demonstration we’ll be using two levels, the 2018 highs, and the 2019 current level as of early January.

Time period SPY ETF IWM ETF
2009 (lows)- 2018 (peak) +337.6% +414.9%
2009 (lows)-2019 (January) +290.4% +321.3%

In the above table, you can see that the IWM small caps have outperfomed the SPY ETF in the same time frame. Although it may be evident that the IWM ETF is more volailtiy due to swings in percentage moves. Either way, the ETF greatly outperformed the SPY ETF.

Trough to peak, the Russell ETF outperformed the SPY ETF by 77.3%. In current standing from the 2009 lows to January 2019, IWM outperformed the SPY by 30.9%.

That might not be the definite answer, so let us look at a hypothetical investment in both. Assuming a market participant put in $10 000 in each ETF at the low of 2009, the expense ratio for the SPY is assumed to be 0.09% over the past 10 years, and the IWM is assumed at 0.19% over the past 10 years.

Comparison of the returns of IWM vs SPY

The table above shows us the potential return if we include the expense ratio of each ETF, the approximated growth rate and a starting balance of $10 000 at the start of 2009. At the end the IWM ETF would hold a slightly greater return of approximately $2500 after the proposed 10-year period.

Its evident that the IWM ETF is more volatile as there is greater uncertainty in the 2000 small caps than in the 500 large caps of the S&P 500. IWM had three red years as opposed to the two red years in the SPY. Nevertheless, the IWM did outperform the SPY on a longer time frame.

A $10 000 investment at the start of 2009 in the SPY, assuming the expense ratio was 0.09% each year would have turned into $22 176.14 in ten years. This is return of 121.76%.

A $10 000 investment at the start of 2009 in the IWM, assuming a higher expense ratio than that of the SPY (0.19%) would have turned into $24 610.63 in ten years. A return of 146.11%.

Trading the Russell 2000 ETF-Options?

Since the Russell 2000 has an ETF, the IWM it can be traded in many different ways. The ETF acts as a stock on the exchange and can be held, short, and is also optionable.

On a longer term basis, a trade can hold the IWM ETF in their portfolio in X amount of shares to offer diversity. The Russell 2000 in comprised of 2000 small cap stocks, which may be more volatile than large caps, but also have a lot of potential for growth and gains.

IWM ETF Technical Analysis on Trading View.

The other way to trade the ETF, maybe more favorable for those who do not want to hold the ETF for years on end, is…options!

The IWM ETF has liquid options, calls and puts, long or short. Which can present traders and investors alike a lot of opportunity in the small cap market. From speculation to hedging.

The IWM ETF has an extensive options chain, with multiple expiry dates which is wonderful for traders that want to take advantage of the short term volatility in the ETF. Especially at times of massive bull spikes or bear spikes.

Stagnant time periods are also opportunistic in options as one could write credit spreads on the IWM options to generate premium. A strategy often used in the summers.

Final thoughts

Although slightly more volatile when it comes to returns, the IWM Russell 2000 ETF has outperformed large cap ETF’s over the long term. This presents buy and hold investors with another tool that they can add to their arsenal.

The fact that IWM has a liquid options chain, means that speculators can rejoice in the IWM ETF possibilities as well. The shorter term spikes in volatility can render options traders very profitable.

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The information contained in this post is solely for educational purposes, and does not constitute investment advice. The risk of trading in securities markets can be substantial. You should carefully consider if engaging in such activity is suitable to your own financial situation. TRADEPRO Academy is not responsible for any liabilities arising as a result of your market involvement or individual trade activities.