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Like A Bully At The Beach, Investors Are Kicking Sand In The Face Of Small-Cap Stocks

|Includes: iShares Russell 2000 ETF (IWM)

Hey investors, stock picking on the little guys!

Like a bully at the beach, investors are kicking sand in the face of small-cap stocks.

After outperforming the market in 2013, small-cap stocks are in the crosshairs so far this year. It's a sign that investors are selling riskier growth companies and favoring the relative safety of established value stocks.

The small-cap iShares Russell 2000 (IWM) was off about 3% year to date as of April 29, compared with a gain of about 2% for the S&P 500.

The relative performance chart of the Russell 2000 ETF versus the S&P 500 shows how U.S. small-cap stocks are plunging relative to blue-chips. When the chart is falling, it means small-caps are underperforming.

"High-beta, small-cap momentum names have, on a relative basis to the S&P 500, crashed. The last three weeks have essentially erased all of the outperformance the Russell 2000 had built up against large-caps over all of last year," writes Michael Gayed at MarketWatch.

Hedge funds are also ganging up to pick on the little guys.

Large speculators including hedge funds have bet nearly $3 billion this month that the Russell 2000 will fall, according to Bloomberg. Part of the thesis is that small-cap stocks may be overvalued after a strong run.

"Money managers are turning on stocks that have delivered the best returns during the bull market: small caps," according to Bloomberg, which reports that bearish bets against small-caps are the most since 2012 and the highest versus average levels since 2004.

In early April, this blog pointed out that the lagging performance of small-caps was a warning that investors were avoiding riskier stocks. High-momentum stocks and previous highflying biotech shares have also corrected hard in April.

As we head into the new month, investors should keep a close eye on small-cap stocks to get a sense for whether the "Sell in May and go away"adage will potentially return with a vengeance this year.

When small-caps are outperforming, it can be a sign that investors are expecting the economy to pick up. Conversely, when they lag, it's often viewed as a signal that investors are shunning risk.

Small-cap stocks "tend to be riskier as they exhibit greater sensitivity to macroeconomic risks and they typically lack economic moats - or sustainable competitive advantages," says Morningstar analyst Michael Rawson. "The greater risk in small-cap stocks is evident in their volatility … Consequently, smaller stocks tend to be less profitable and less resilient in the face of economic turbulence."

DISCLAIMER: The information in this material is not intended to be personalized financial advice and should not be solely relied on for making financial decisions. All investments involve risk, the amount of which may vary significantly. Past performance is no guarantee of future results.