Many investors have waited a while for confirmation of what they already suspected was true. The S&P 500 is in a bull market. This bull market actually began in October 2022, but the index needed to set a new all-time high to make the official call.
What should investors do with the bulls again running free on Wall Street? There are plenty of great alternatives, but there's one strategy that I think could be especially smart. Here are two magnificent exchange-traded funds (ETFs) to buy sooner rather than later.
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Think small
The two ETFs that I have in mind are the SPDR Portfolio S&P 600 Small Cap ETF (SPSM 0.61%) and the iShares Morningstar Small-Cap Value ETF (ISCV 0.49%). You might have noticed that both of these funds have "small cap" in their names.
The SPDR Portfolio S&P 600 Small Cap ETF is operated by State Street Global Advisors. This ETF owns 606 small-cap stocks. It seeks to track the performance of the S&P Small Cap 600 Index.
On Aug. 1, 2023, State Street lowered the gross expense ratio of the SPDR Portfolio S&P the 600 Small Cap ETF from 0.05% to 0.03%. This move made it the lowest-cost small-cap blend ETF on the market with an expense ratio even lower than the Vanguard Small-Cap Index Fund ETF.
The iShares Morningstar Small-Cap Value ETF also owns small-cap U.S. stocks -- 1,123 of them as of Jan. 26, 2024. This ETF, though, focuses on small-cap stocks that have attractive valuations. The average price-to-earnings (P/E) ratio for stocks held by the fund is 10.33 times.
Like the SPDR Portfolio S&P 600 Small Cap ETF, the iShares Morningstar Small-Cap Value ETF is cheap relative to similar funds. Its expense ratio is 0.06%. By comparison, the Vanguard Small-Cap Value Index Fund ETF's expense ratio is 0.07%.
One thing to note about the iShares Morningstar Small-Cap Value ETF, however, is that it's smaller and less widely followed than many ETFs. The fund has around $404 million in assets under management, which is relatively low. Its 30-day average trading volume of close to 16,000 is also much lower than more well-known ETFs. These shouldn't be issues for most investors, though.
Why buy these two ETFs now?
In my view, the main reason to buy these two ETFs right now is their valuations. I've already mentioned how attractive the valuation is of the iShares Morningstar Small-Cap Value ETF. The SPDR Portfolio S&P 600 Small Cap ETF looks great, too, with a forward-earnings multiple of around 13.7 times. T. Rowe Price recently wrote to investors that "U.S. small-cap valuations are at historically low levels."
Small-cap stocks are also underowned. According to American Century Investments, small-cap stocks currently make up only 4% of the broader U.S. stock market. The long-term average is nearly double that level.
I'm a firm believer in the concept of reversion to the mean. Small-cap stocks should return to valuations and ownership levels more in line with their historic averages. This bodes well for the prospects of the SPDR Portfolio S&P 600 Small Cap ETF and the iShares Morningstar Small-Cap Value ETF.
In addition, small-cap stocks tend to be highly sensitive to interest rates. The Federal Reserve has indicated that several rate cuts could be on the way later in 2024. If interest rates are indeed lowered, small-cap stocks will likely rise, pushing both of these two ETFs higher.
Good picks even if the near term doesn't go so well
Let's suppose, though, that the Fed doesn't cut interest rates this year. The good news for investors is that if history is any guide, these two ETFs should be good picks even if the near term doesn't go so well.
Small-cap stocks have outperformed large-cap stocks over the long term. Small-cap value stocks have been the best performers of all equity assets. Buying and holding the SPDR Portfolio S&P 600 Small Cap ETF and the iShares Morningstar Small-Cap Value ETF, therefore, looks like a smart strategy for long-term investors.