Exchange-traded funds offer a convenient way to invest in sectors or niches that interest you. If you'd like to add some Russell 2000 stocks to your portfolio but don't have the time or expertise to hand-pick a few, the SPDR Russell 2000 ETF (NYSEMKT: TWOK) could save you a lot of trouble. Instead of trying to figure out which companies will perform best, you can use this ETF to invest in lots of them simultaneously.
The basics
ETFs often sport lower expense ratios than their mutual-fund cousins. This ETF, focused on Russell 2000 stocks, sports an ultra-low expense ratio -- an annual fee -- of 0.12%. The ETF is also young and small, though, so if you're thinking of buying, beware of possibly large spreads between its bid and ask prices. Consider using a limit order if you want to buy in.
This ETF is too young to have much of a performance record, but know that the similar iShares Russell 2000 ETF (IWM 1.12%) has topped the S&P 500 over the past five and 10 years. As with most investments, of course, we can't expect outstanding performances in every quarter or year. Investors with conviction need to wait for their holdings to deliver.
Why Russell 2000 stocks?
Large-cap stocks offer some stability and often pay dividends, but small-cap stocks have more room to grow, and they can grow more briskly if their managements execute strategies well. This ETF is based on the Russell 2000 index of smaller companies. It contains nearly 2,000 Russell 2000 stocks, and together they make up about 10% of the Russell 3000 index's market value, which includes most of the stock market.
More than a handful of Russell 2000 stocks had strong performances over the past year. Isis Pharmaceuticals (IONS 0.96%), with more than 25 drugs in its pipeline, has been developing RNA interference therapies and was one of 2013's best-performing drug companies. It soared 268% over the past year, partly on FDA approval of its Kynamro cholesterol drug. It has partnered with lots of bigger pharmaceutical companies, which provides funding but also means giving up a share of profits.
Rite Aid (RAD 25.83%) surged 261% as the company executes an impressive turnaround. In 2013, it benefited from many high-margin generic drugs, but now it's facing more intense competition as rivals discount more. All of the drugstores are poised to benefit from Obamacare as they gain many newly insured customers. It might seem that Rite Aid has no upside left after its strong run, but it actually seems cheaper than its key rivals. Its third-quarter report was mixed, featuring estimate-topping earnings and revenue that's up 2%, but management is tempering near-term expectations. Bears would also remind us that Rite Aid still carries a lot of debt.
Both Northstar Realty Finance (NRF) and Align Technology (ALGN 0.61%) each roughly doubled over the past year. Northstar Realty Finance, while not a huge company, is still a strong dividend payer, recently yielding 6.3%. Its revenue has been growing briskly, but its bottom line has been in the red for a while now, with its share count rising (thereby diluting the value of existing shares) and it being free cash flow negative. Northstar Realty Finance's business is diversified, including real-estate debt, mortgage-backed securities, and the old-fashioned leasing of owned properties. Its stock popped 20% recently on news that the company would spin off its asset management business.
Align Technology, a teeth-straightening specialist, is known for its Invisalign dental aligner, as well as CAD/CAM software. Its last quarterly report sent shares soaring 26% on news of revenue growing 21% over year-earlier levels and management's rosy outlook. Still, among those who like the company are plenty who see the stock as not a bargain anymore, with its P/E ratio near 150.
Other Russell 2000 stocks didn't do quite as well over the last year, but they could see their fortunes change in the coming years. Software specialist CommVault Systems, for example, gained just 4%. Its revenue and earnings have been growing at double-digit rates lately.
The big picture
If you're interested in adding some Russell 2000 stocks to your portfolio, consider doing so via an ETF. A well-chosen ETF can grant you instant diversification across any industry or group of companies and make investing in it -- and profiting from it -- that much easier.
