Small cap stocks have been enjoying a great year up to now. The performance of the Russell 2000, the preeminent index of stocks with lower capitalization, is another indication of this trend. The index has outperformed the S&P 500, Dow and Nasdaq by a significant margin to date. A lack of choice among other asset classes means that this trend is likely to continue.

Additionally, the economy remains stronger than others across the world despite the recent trend of disappointing data. Adding domestic small cap stocks from the Russell 2000 makes good sense at this point.

Economy Remains Stable

Disappointing ISM manufacturing and services indexes readings have led many to question whether the economy’s recovery is faltering. Additionally, the U.S. economy created a total of 151,000 jobs in August, considerably lower than the consensus estimate of 179,000.

However, comments from a key Fed official on Tuesday belied such worries. San Francisco Fed President John Williams said that the economy is doing well. Additionally, he said that unemployment is likely to fall from the current level of 4.9% to 4.5% next year. Williams also believes that inflation will achieve the Fed’s target of 2% within the next two years.

Market Gains Continue

Meanwhile, markets continue to mop up gains despite disappointing reports. Investors are ignoring any recent economic signals, choosing to focus on the fact that such reports are making a near-term rate hike unlikely. Additionally, oil prices continue to move upward, leading to gains for energy sector companies.

Also, the dollar recorded its steepest daily drop in a month on the possible delay in a Fed rate hike. However, the performance of the dollar has been relatively stable this year. Taken together with the resurgence in oil, this has helped small cap domestic oil stocks.

Analysts at Fort Pitt Capital Group believe that this has helped the Russell 200 to notch up gains this year. The index is up 10.3% year to date, outperforming the S&P 500, which has gained around 7% over the same period.

Our Choices

As investors continue to seek investments delivering high returns in an environment characterized by low interest rates, the popularity of small cap stocks continues to grow. A relatively stable economy and dollar as well as rebound in oil prices have also contributed to this phenomenon.

Against this backdrop, picking domestic small cap stocks from the Russell 2000 looks like a smart choice. However, picking winning stocks may prove to be difficult.

This is where our VGM score comes in. Here V stands for Value, G for Growth and M for Momentum and the score is a weighted combination of these three scores. Such a score allows you to eliminate the negative aspects of stocks and select winners. However, it is important to keep in mind that each Style Score will carry a different weight while arriving at a VGM score. 

We have narrowed down our search to the following stocks based on a good Zacks Rank and VGM score.

Alpha & Omega Semiconductor, Ltd. (AOSL - Free Report) is engaged in designing, developing and supplying a broad range of power semiconductors globally.

Alpha & Omega Semiconductor has a Zacks Rank #1 (Strong Buy) and a VGM Score of A. The company has expected earnings growth of more than 100% for the current year. Its earnings estimate for the current year has improved by 225% over the last 30 days.

America's Car-Mart Inc. (CRMT - Free Report) operates automotive dealerships and is one of the largest automotive retailers in the U.S. focused exclusively on the Buy Here/Pay Here segment of the used car market.

America's Car-Mart has a Zacks Rank #1 and a VGM Score of A. The company has expected earnings growth of 67.3% for the current year. Its earnings estimate for the current year has improved by 35.8% over the last 30 days.

Ducommun Inc. (DCO  - Free Report) manufactures components and assemblies for domestic and foreign commercial and military aircraft and space programs.

Ducommun has a Zacks Rank #1 and a VGM Score of A. The company has expected earnings growth of more than 100% for the current year. Its earnings estimate for the current year has improved by 1.5% over the last 30 days.

Horizon Global Corporation (HZN  - Free Report) is a designer, manufacturer, and distributor of towing, trailering, cargo management and accessory products for original equipment, aftermarket and retail customers.

Horizon Global has a Zacks Rank #1 and a VGM Score of A. The company has expected earnings growth of 20.4% for the current year. Its earnings estimate for the current year has improved by 15.3% over the last 30 days.

DXP Enterprises, Inc. (DXPE  - Free Report) is a leading supplier of maintenance, repair and operating products, equipment and services to industrial customers.

DXP Enterprises has a Zacks Rank #1 and a VGM Score of A. Its earnings estimate for the current year has improved by 177.6% over the last 30 days.