Why Should Small Caps Care about the Russell Rebalance?
At this time of year, there is lots of discussion about the “Russell Rebalance,” or as FTSE Russell, the owner of the index family, officially calls it, the Russell Reconstitution. Why does this matter, and why should small-cap companies care about it?
It starts with the fact that approximately $12 trillion is benchmarked to the Russell U.S. Indexes, and over $2 trillion is indexed directly to Russell U.S. indexes. This means that Index funds and ETFs that track the Russell 1000, 2000, and 3000 indexes will buy and sell about $124 billion worth of securities based on whether or not they are included.
Companies that are added to, deleted from, or simply remain in one of the Russell 3000 indexes should expect to see higher than normal volumes on June 24. This is because index funds conform to new index weights that are effective after the close on that day. Most of the related trading will take place at the end of the day. For most companies, it will be a pretty “normal” day until about 4:00 p.m. Then, many issuers will see block trades in their stock at the bell and afterward. It can seem very unusual if you are not expecting it.
Summary
Each June, FTSE Russell rebalances its U.S. indexes during its annual reconstitution to accurately weight the 4,000 largest companies in the U.S. stock market by market capitalization. The reconstitution is usually one of the most highly anticipated and heaviest trading days in the U.S. equity markets.
With the significant sums following these indexes, impacts on companies by index-related transactions can be large. Many companies can see a multiple of a normal day’s trading volume trade in the Nasdaq Closing Cross™ and in “after-hours” trading on the reconstitution day – this year slated for June 24, 2022.
In fact, about a third of Nasdaq-listed stocks are expected to trade more than their average daily volume in the Nasdaq Closing Cross™ on June 24, and some will trade an entire week’s volume on “Russell Friday.” This is particularly true for Russell 2000 additions and deletions. Criteria for inclusion in the various Russell indexes are summarized below.
Russell Criteria
Each May on “Rank Day” (May 6th this year), FTSE Russell calculates the total market capitalization of U.S. common stocks and ranks them from largest to smallest. The largest 4,000 companies that satisfy all of Russell’s eligibility requirements become members of the Russell indexes.
The composition of the Russell 3000 and Microcap Indexes is as follows:
The Russell 3000 Index consists of the largest 3,000 U.S. companies by market cap rank. A company in the Russell 3000 is also, by definition, included in either the Russell 1000 or Russell 2000 Indexes.
The Russell 1000 is comprised of the first 1,000 qualified companies in the Russell 3000 and represents the largest U.S. companies. The Russell 2000 includes the 2,000 smallest companies within the Russell 3000 and is generally viewed as the benchmark index for small‐cap companies.
The Russell Microcap Index includes the smallest 1,000 securities in the Russell 2000/3000 plus the next 1,000 securities, subject to a minimum market capitalization of $30 million.
Other Things to Note
The minimum market cap to be added to the Russell 2000/3000 in 2022 is expected to be about $240 million compared to $257 million last year. The high threshold was $262 million in 2007, but by 2009 the minimum dropped to $78 million following the financial crisis.
Stocks below $1, ADRs, preferred stocks, closed-end funds, REITs, and Limited Liability companies are among the securities excluded from the Russell’s U.S. indexes.
After membership is determined, the shares of the securities are adjusted to include only those shares available to the public or otherwise referred to as “float.” Stocks are subsequently weighted in the Russell U.S. indexes by their available float‐adjusted market capitalization.
In 2017 Russell added a requirement that a minimum of 5% of a company’s voting rights need to be owned by unrestricted shareholders for a company to be added for the first time. Existing companies were grandfathered until September 2022.
Russell began adding IPO companies on a quarterly basis in 2004 but does not replace companies throughout the year due to mergers, for example – so there can be more or less than 3,000 companies in the Russell 3000 during the year.
It’s estimated there will be about 300 additions and removals from the Russell 3000 in 2022. About 60 companies will move between the Russell 1000 and 2000 indexes.
The Russell 3000 covers about 98% of the investible universe. The large-cap Russell 1000 accounts for 90% of the market cap, with the Russell 2000 accounting for about 8%, figures that have remained remarkably consistent over time.
Most of the index dollars tracking the Russell indexes are in the Russell 3000 family, with only modest amounts tracking Russell Microcap stocks. For example, the iShares Russell 2000 ETF (IWM) is one product that follows that index. It has roughly $55 billion in assets. Its microcap cousin, the iShares Microcap ETF (IWC), has about $1 billion by comparison.
Virtually all Russell 3000 additions will see a large and persistent increase in short position due to the increased visibility and borrowability of index members. The reverse is true for index removals.
FTSE Russell has a dedicated 2022 Russell Reconstitution web page located here. You can find a calendar of events, preliminary additions and deletions lists, historical market cap cutoffs, and even sample press releases to announce Russell additions to the Russell indexes.
For Russell-related trading questions, contact the Nasdaq Market Intelligence Desk (MID) Market.IntelligenceDesk@nasdaq.com.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
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Michael Sokoll
Nasdaq
Michael Sokoll, CFA, is an Associate Vice President on the Market Intelligence Desk (MID) at Nasdaq with over 30 years of equity market experience. In this role, he provides Nasdaq-listed companies with real-time trading analysis and objective market information.
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