Off the market’s April 8 lows, small cap growth stocks, as measured by the Russell 2000 Growth Index have advanced 34.2%.1While that sizable return is nothing to sneeze at, large cap growth stocks, as measured by the Russell 1000 Growth Index advanced 40.5% over the same period.2Passively investing in small growth stocks has delivered underwhelming results compared to other equity investment styles for quite some time. The chart below shows that small growth stocks delivered less than half the total return of large growth stocks over the last 10 years.

Small Growth (Russell 2000 Growth) Total Return Versus Large Growth (Russell 1000 Growth) Total Return

Source: LPL Research, FactSet 8/19/25
Disclosure: Past performance is no guarantee of future results. Indexes are unmanaged and cannot be invested in directly.

Impact of Active Management

On a positive note, our research covering 20 years of data on actively managed mutual funds shows that small growth has been one of the asset classes where active management has often outperformed passive indexes. For the 10-year period ending July 31, if the Russell 2000 Growth Index were a mutual fund, it would rank in the 69thpercentile of Lipper universe of U.S. Small Cap Growth Funds. In other words, if there were 100 small growth mutual funds, 68 of them would have outperformed the Russell 2000 Growth Index over the last 10 years.

Russell 2000 Growth Index Percentile Placements in the Lipper U.S. Small Cap Growth Fund Peer Group

Source: LPL Research, FactSet 7/31/25
Disclosure: Past performance is no guarantee of future results. Indexes are unmanaged and cannot be invested in directly.

Another observation from the above chart is that the recent 1-year and 3-year periods have been weaker for active small growth funds, with the Russell 2000 Growth Index falling below the 50thpercentile, thus outperforming most small growth funds. Why has this been the case? One reason is the difficulty that active small growth managers have had keeping up with the recent rally off the April market lows. As the far right of the chart shows, the Russell 2000 Growth Index was 35thpercentile during the four-month period ending July 31, which roughly coincides with the recent market rebound.

What Has Been Performing Well in Small Cap Growth?

From a sector perspective, within the Russell 2000 Growth Index, the best-performing sectors off the April 8 lows have been materials (+51.7%), industrials (+46.5%), and technology (+41.5%).3

From a more granular industry perspective (assuming a 1% minimum weighting in the index), the best performers have been metals & mining (+109.1%), semiconductors & semiconductor equipment (+96.8%), electrical equipment (+94.5%), construction & engineering (+90.0%), and aerospace & defense (+86.5%).

In this rally, higher-risk small growth stocks, as measured by beta, have been outperforming lower-risk small growth stocks by a wide margin. A stock with a beta of 1.0 can be thought of as having volatility similar to the overall equity market, while a stock with a beta of 2.0 should theoretically be twice as volatile as the overall equity market. We grouped the Russell 2000 Growth Index into quintiles of beta, meaning that equal numbers of stocks were placed into five groups with each group representing a different quintile of risk. The group of stocks with the highest risk returned a staggering +75.0% during the recent rally. The two lowest quintiles of beta underperformed the index, returning only +20.6% and +13.2%, respectively.

With high risk being rewarded so handsomely during this rally, it is instructive to examine a few of the strongest-performing stocks in the highest beta quintile. Within the highest beta quintile, the below stocks had the largest contributions to index returns (weight multiplied by return). A commonality with these stocks is the relatively niche nature of their business and relatively high valuation multiples on earnings (or sales, in cases of negative earnings).

• Credo Technology +236% return; manufactures connectivity solutions for data centers; stock trades at 67x forward earnings4
• Joby Aviation +201% return; developing all-electric, vertical take-off and landing passenger aircraft; stock trades at 294x its projected 2026 sales4
• Bloom Energy +173% return; manufactures and installs solid oxide fuel-cell based power generation platforms; stock trades at 60x forward earnings4
• Rock Lab Corporation +106% return; development of rocket launch and control systems for the space and defense industries; stock trades at 46x sales
• IonQ +89% return; develops and manufactures quantum computers; stock trades at 193x sales4

The smallest of the small caps also tended to perform well during the recent rally. Constructing quintiles based on size, grouping the Russell 2000 Index into five equally weighted buckets based on market cap, we observe that the smallest companies – the bottom 20% – roughly $1.5 billion and under in market cap – returned +42.6%, outperforming the Russell 2000 Growth Index.

The weighting of companies with negative earnings in the Russell 2000 Growth Index has increased in recent years and currently stands at 28%, according to FactSet. In the recent rally for small growth stocks, companies with negative earnings, as a group, returned +41.4%, outperforming the overall index.

Small Growth Funds Tend to Differ from the Russell 2000 Growth Index

Actively managed small growth mutual funds are often positioned differently than the Russell 2000 Growth Index. Many managers cite the index’s heavy concentration in companies without earnings and prefer to own companies that are profitable. They often prefer somewhat larger companies as well, avoiding the smallest of the small, which can sometimes be less liquid to trade.

Many active small growth funds are also hesitant to invest in the riskiest stocks in the index. To illustrate the point, we surveyed the portfolios of the 10 largest actively-managed small cap growth funds by assets under management. All 10 of these funds had an underweight allocation to the highest beta quintile. We also observed their weightings in the five stocks residing in the highest beta quintile that had the largest contributions to index return. We noted whether a fund owned each stock at a higher weighting than the index, lower weighting than the index, or not at all. Looking at the 10 funds’ weightings in the five stocks, there were 50 opportunities to own these stocks. In only two instances did we see a fund own one of these stocks at a larger weighting than the index. In 13 instances, the funds owned the stock but at a lower weighting than the index. In the vast majority of instances – 35 to be exact – the funds did not own these five stocks at all.

While the biases of active small cap growth funds hurt their relative performance in the recent market rally, the long-term record of active management in small growth remains solid, in our opinion. Some of the biases held by small growth managers are based on their studies of long-term historical stock performance, many of which show that profitable stocks outperform unprofitable stocks over the long run.

One straightforward way to measure the impact of profitability is to compare the performance of the S&P small cap indexes to the Russell small cap indexes. S&P requires stocks to have positive earnings over certain periods of time to be included in their small cap indexes. As shown below, the S&P Small Cap 600 Growth Index has outperformed the Russell 2000 Growth Index over the past 10 years. Since the common inception date of these two indexes, it has been quite rare to have any 10-year period when the S&P Small Cap 600 Index did not outperform the Russell 2000 Growth Index, providing support that profitable small caps historically outperformed unprofitable small caps.

S&P Small Cap 600 Growth Index Has Outperformed the Russell 2000 Growth Index Over the Last 10 Years

Source: LPL Research, FactSet 08/19/25
Disclosure: Past performance is no guarantee of future results. Indexes are unmanaged and cannot be invested in directly.

What Is The Punchline?

We would encourage investors to review the current guidance from our Strategic and Tactical Asset Allocation Committee (STAAC) for its suggested allocations to small growth equities to see how their portfolio compares. After a long period of underwhelming performance, the Russell 2000 Growth Index has delivered sharp gains off the April 8 market lows, largely driven by higher-risk and less-profitable companies. Our research shows that active management has often been able to outperform the Russell 2000 Growth Index over long periods of time. Actively managed small growth funds tend to give investors access to a more profitable portfolio of companies as compared to the index. While some of the biases held by active managers have hurt their recent relative performance, investors may want to stay the course with actively managed small growth funds.

1FactSet as of 8/18/25

2FactSet as of 8/18/25

3FactSet for the period 4/8/25 through 8/18/25

4FactSet as of 8/19/25