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Behind the strange small-cap underperformance

Small-cap stocks have underperformed large caps lately. The Russell 2000 is down 5.2 percent in the past week and 6.8 percent in the past month, versus S&P 500 declines of 3 percent and 5.3 percent, respectively.

The small-cap lag comes despite a market environment in which smaller companies might be expected to do better. After all, one of the biggest current worries is global growth, and Russell 2000 businesses tend to be more domestic-focused than those in the S&P 500.

But to Boris Schlossberg of BK Asset Management, the recent dive in the Russell reflects market dynamics more than fundamental factors.

Schlossberg argues that due to the prolifation of ETFs, many individual investors who might previously have been invested in individual small-cap stocks are now in large caps instead. That means that swift-moving hedge funds play a greater role in that segment of the equity market.

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"Now that everyone is in (DIA) and (SPY), small caps are left to highly opportunistic hedgies," Schlossberg wrote to CNBC on Tuesday, referring to ETFs tracking the Dow and S&P, respectively.

These funds "exit the trades faster, and leave small caps to rot."

From a technical analysis perspective, Rich Ross of Evercore ISI believes the Russell has recently found an important level of long-term support at its 150-week moving average, which it is currently trading around now.

For Ross, that means the small-cap selling could soon be over.

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Trading Nation is a multimedia financial news program that shows investors and traders how to use the news of the day to their advantage. This is where experts from across the financial world – including macro strategists, technical analysts, stock-pickers, and traders who specialize in options, currencies, and fixed income – come together to find the best ways to capitalize on recent developments in the market. Trading Nation: Where headlines become opportunities.

Sara Eisen

Sara Eisen joined CNBC in December 2013 as a correspondent, focusing on the global consumer. She is co-anchor of the 10AM ET hour of CNBC's "Squawk on the Street" (M-F, 9AM-11AM ET), broadcast from Post 9 at the New York Stock Exchange.

In March 2018, Eisen was named co-anchor of CNBC's "Power Lunch" (M-F, 1PM-3PM ET), which broadcasts from CNBC Global Headquarters in Englewood Cliffs, N.J.

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