The Russell 2000 refers to an index that measures the performance of approx. 2000 small cap companies. As a small cap stock market index, it is maintained by the FTSE which is a subsidiary of the London Stock Exchange Group.
It is one of the most common benchmark for mutual funds and the most quoted measure of overall performance for small cap to mid cap companies.
According to history, the Frank Russell Company helped to develop the index. This happened in 1984 and as a result, it has become one of the most important benchmarks in the US equity market.
How It Works
The Russell 2000 is a subset of the Russell 3000 index. The Russell 3000 index consists of the largest US public companies that number 3,000. While the Russell 3000 index has close to 100% capitalization of the US securities market, the Russell 2000 is composed of less than 10%.
Over the years, the Russell 2000 has been following several industry sectors. Today, it excludes securities trading below $1.00, pink sheet stocks and OTC bulletin board stocks together with close end mutual funds, limited partnerships, royalty, foreign stocks and ADRs among others.
Every May, the index is reconstituted. This is because small cap securities do become mid cap after some time and IPOs are added quarterly.
The index is weighted by shares outstanding which means that a security’s last price and the quantity of shares are traded thus influencing the index. Other indicators used to measure the performance of companies include:
Russell 2000 Growth Index
This indicator measures the performance of Russell 2000 companies by considering the higher price to book ratios together with the forecasted growth values.
Russell 2000 Value Index
It is used to measure Russell 2000 companies’ performance by considering lower price to book ratios and forecasted growth values.
According to savvy financial experts, the Russell 2000 is not quoted every single night unlike blue chip indexes. Despite this, it is an important barometer for the American economy since it measures the performance of smaller and domestic based business. Majority of the companies considered as small cap don’t engage in business in several countries.
It can truly be said that the composition of the small cap market has experienced several changes since the formation of the Russell 2000. Not only has the index been measuring the performance of small cap companies for the past four decades but it has resulted in the growth of the financial services sector.
That’s not all.
The technology sector has experienced tremendous growth having doubled from 7% in 1980 to 14% in 2013. This is followed by the health care sector which has also tripled in size finally leading to the birth of a new industry, biotechnology.
Final Thoughts
The Russell 2000 is an investable market capitalization index which is commonly used as a benchmark by investors and portfolio managers. It is regarded as the most used benchmark for small cap stock.
Investors have been known to make a comparison between mutual fund performance and the Russell 2000 index. This is because it displays the return opportunity for the market.
There are also ETF’s that follow the Russel 2000.