The Russell 2000 Index has passed a moment of truth relative to the S&P 500 Index. From year-end 1994 through year-end 2013, the Russell 2000 outperformed the S&P 500 by only 23 basis points per annum. However, extend the time period by only eight months to August 29, 2014, and the Russell 2000 underperforms the S&P 500 by 20 basis points over an almost 20-year period.
These results would most likely severely confound the many academics engaged in asset allocation theory, because they beg the following question: why would a presumably rational investor hold the more volatile Russell 2000 for a long period of time only to see it fail to outperform, or even underperform, the less volatile S&P 500?
As of July 31, 2014, according to iShares, which offers the Core S&P 500 exchange-traded fund, or ETF, (IVV, Financial) and the Russell 2000 ETF (IWM, Financial), the ETF tracking the S&P 500 traded at 4.42x book value, while the ETF tracking the Russell 2000 traded at 3.79x book value. According to Russell Investments, however, the Russell 2000 traded at 2.18x book value on the same date. The most recent S&P 500 factsheet from S&P Dow Jones Indices provided the price-to-book, or P/B ratio as of March 31, 2014; therefore, one cannot make a precise comparison between the numbers calculated by the index provider and the ETF provider for the S&P 500. In fact, there are many different methodologies for calculating the price-to-book ratios. For example, one may calculate the price-to-book of every single security in the index, and then determine the weighted-average price-to-book by calculating the weighting factor of each security, and arrive at the weighted-average price-to-book. Or one could collapse the shareholders’ equity of every company in the index and compare that to the aggregate market capitalization of the index to get a different price-to-book. The latter methodology seems to be the more accurate way to do it, but there are many other methods.
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