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Why the big small-cap rally is due for a breather

There’s nothing small about the small cap rally. Here’s how to play it

The Russell 2000 is about to post its best month since September, but one market watcher says the small-cap space could be due for a small breather before taking off again.

"We might see a little bit of a pullback here just because it's had this nice run, it's getting a little overbought," Matt Maley, equity strategist at Miller Tabak, said Tuesday on CNBC's "Trading Nation."

The small-cap index is on track to close more than 5 percent higher in May, its best monthly performance since September 2017, on the back of a rally in the U.S. dollar. Small caps are generally more domestic-focused and tend to outperform on dollar strength relative to their large-cap peers.

The DXY U.S. dollar index is up more than 2 percent this month, also its best performance since the U.S. presidential election.

Maley said that any pullback would likely only last days, not weeks, and that the Russell 2000 should then resume its march higher.

"Look at the chart on the Russell 2000 and it's a pretty bullish development here," he said. "It broke above the top end of what's called an ascending triangle formation and that tends to lead to a fairly decent rally."

Larry McDonald, editor of the Bear Traps Report, said he's eschewing small caps in favor of the parts of the market that would benefit from a trade deal with China.

"The global trade hostilities, all that news, all those news headlines, that really scares people back into the U.S. and back into small caps so it's a very, very crowded trade," McDonald told Tuesday's "Trading Nation."

Taking advice from billionaire investor George Soros, McDonald said he is discounting the obvious to bet on the unexpected. That has led him to natural gas as a wager on how the markets play out for the rest of the year.

"Natural gas will get a seat at the table and that's, I think, the unloved sector here that will benefit between now and the year-end," he said.

The UNG United States natural gas fund ETF has also had a positive May. UNG is up more than 6 percent for the month and nearly 3 percent for the year.