Are Small-Cap Numbers Finally Starting to Make Sense in 2026?

The early weeks of 2026 are telling an interesting story about market dynamics, and small-cap stocks are getting a piece of the spotlight. The Russell 2000 index has been outperforming the large-cap S&P 500 significantly, with the Vanguard Russell 2000 ETF (NASDAQ: VTWO) showing renewed investor interest. This small-cap resurgence comes after years of underperformance, raising important numbers and questions about whether this trend is sustainable or just another short-term blip.

Why Small-Caps Are Having Their Moment

One of the most significant market shifts we’re seeing right now involves where money is flowing. Rather than piling into technology stocks at premium valuations, investors are rotating into sectors that benefit from broader economic growth—industrials, energy, and materials are leading the way. Small-cap companies fit naturally into this narrative because they don’t carry the same growth-at-any-price premium that tech does.

The Vanguard Russell 2000 ETF reflects this shift perfectly. Its top sector holdings are industrials, healthcare, and financials, with technology only accounting for about 12% of the fund. This composition means small-caps are well-positioned to capture gains from the kind of market rotation happening right now. The P/E ratio of 17.5 also suggests there’s still room for appreciation—these companies aren’t overpriced by historical standards.

The Real Problem: Not All Small Numbers Are Good Numbers

Here’s where investors need to pump the brakes. The Russell 2000 index contains a significant number of unprofitable companies—roughly 40% of the index. This isn’t necessarily a problem when economic conditions remain stable and growth is expected. But in a downturn or earnings disappointment, these companies with negative earnings become a real liability.

The irony is that small-caps are typically more volatile anyway, and this quality issue amplifies that risk. When investors get nervous about the broader economy, they’re quick to abandon speculative positions. The recent slowdown in labor market data should be a reminder that economic conditions can shift quickly. As long as broader economic indicators stay healthy, small-cap investors can ride out the volatility. But if that trend reverses, these unprofitable companies could see sharp sell-offs.

Understanding the Trade-Off

Smaller companies do offer genuine advantages—lower valuations and the potential for above-average growth compared to established corporations. However, the composition of the Russell 2000 means you’re also taking on higher risk and less predictability. It’s a different kind of equity exposure than the S&P 500, which is why small-caps can serve a role in diversified portfolios.

The question for 2026 isn’t whether small-cap numbers look attractive—on valuation alone, they do. It’s whether economic conditions remain supportive enough to justify moving capital into these more speculative positions. Keep a close eye on labor market trends, consumer spending, and corporate earnings reports. The moment these numbers start deteriorating, small-cap enthusiasm could fade just as quickly as it arrived.

For investors considering the Vanguard Russell 2000 ETF, understand that you’re making a bet on both market rotation and continued economic stability. That’s a reasonable position if you believe those conditions will hold, but it requires active monitoring and a clear exit strategy if the numbers change.