Despite emerging geopolitical tensions, U.S. equities have staged a dramatic comeback over the past quarter, with the S&P 500^® up 9% QTD through June 25, 2025, fueled by robust corporate earnings from Big Tech. Meanwhile, with the impending Russell reconstitution,¹ the market’s mind has shifted toward smaller caps, which have had a more challenging time, with the S&P SmallCap 600^® down 6% YTD, underperforming The 500™ by 10%. Headwinds including ongoing tariff-related uncertainty, higher Treasury yields and a weaker dollar have weighed on smaller-cap companies, which tend to be more domestically sensitive.

With the Russell reconstitution approaching, it could be an opportune time to examine the historical performance of smaller companies, which generally face different challenges than their large-cap peers. Numerous studies, most prominently by Fama and French,² have documented the small-cap premium, or the long-term outperformance of small stocks. But not all small-cap indices are created equal. The S&P SmallCap 600 has outperformed versus the broader U.S. small-cap universe, with a cumulative excess return of over 90% versus the S&P United States SmallCap Index since December 1994 (see Exhibit 1).

A key catalyst for this outperformance has been the S&P 600’s quality bias. The index is a part of the broader S&P Composite 1500^®, which requires companies to have a history of positive earnings at the point of first inclusion (among other criteria) in order to be eligible. This earnings screen helps to filter out persistently unprofitable companies. Quality has been a particularly relevant factor so far this year; although The 500 and the S&P 600 have had widely differing fortunes, one trait that they have shared is the outperformance of quality stocks. Exhibit 2 illustrates that while their relative performance has narrowed, the S&P 500 Quality Index and the S&P SmallCap 600 Quality Index have both outperformed their respective benchmarks YTD.

In addition to the outperformance of quality stocks within the S&P 600, which as noted already has a tilt toward this factor, the potential rewards for selecting quality small-cap stocks have increased. Exhibit 3 shows a nearly 5% YTD performance spread between the S&P SmallCap 600 Quality Index and the S&P SmallCap 600 Quality – Lowest Quintile Index.

Looking ahead, while smaller-cap companies might face numerous obstacles, the importance of the quality factor within small caps is clear. The long-term outperformance of the S&P SmallCap 600 coupled with the outperformance of higher quality stocks within the index may be a potential silver lining for market participants looking across the capitalization spectrum to consider.

¹ Ziafati, Noushin. “Here’s what you need to know about FTSE Russell’s reconstitution.” Investment Executive. May 30, 2025.

² Fama, Eugene F., Kenneth R. French. “The Cross-Section of Expected Stock Returns.” The Journal of Finance. Volume 47, Issue 2. June 1992. Pp 427-465.

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