Why Are Small-Cap Stocks Booming? See What the Research Says.

Most discussion of the stock market in the past few years has focused on large-cap companies such as the "Magnificent Seven" and trillion-dollar tech businesses that are leading the artificial intelligence (AI) boom. But what if some of the biggest future opportunities for investors could come from much smaller sources?

So far in 2026, small-cap stocks are outperforming the S&P 500 index. The iShares Russell 2000 ETF (NYSEMKT: IWM), a broad index fund of U.S. small-cap stocks, has risen about 18% year to date, outperforming the S&P 500. In the past year, the iShares Russell 2000 ETF has delivered total returns of 42.46%, outperforming the S&P 500 and the tech-heavy Nasdaq-100 index.

IWM Total Return Level data by YCharts

Is this recent run-up in small-cap share prices a flash in the pan, or could this rally have staying power? Recent research from T. Rowe Price and Fidelity offers valuable insights on what's driving the strong returns in U.S. small-cap stocks – and why the momentum could continue.

Let's look at a few reasons small-cap stocks -- and the iShares Russell 2000 ETF -- could be a good buy.

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Small-cap stocks: better earnings growth since late 2025

According to T. Rowe Price research from February, U.S. small-cap earnings (as measured by trailing 12-month earnings per share of the S&P 600 index) saw strong improvement during the last few months of 2025. From Sept. 19, 2025, to Jan. 27, 2026, small-cap earnings increased by 27%.

The T. Rowe Price research says, "there is now clear evidence that U.S. small‑cap stocks are experiencing a renaissance." The company's research projects that U.S. small-cap earnings will continue to benefit from other positive economic fundamentals, such as reduced tariff uncertainty, a stronger environment for regional banks, and fiscal stimulus from recent changes in U.S. tax policy.

Fidelity research: Small-caps might be seriously undervalued

Cheap valuations are another reason why now could be a good time to buy small-cap stocks. The iShares Russell 2000 ETF has a price to earnings (P/E) ratio just under 20 at recent prices-- far lower than the S&P 500 but also cheaper when you account for the massive influence the tech giants have on the index's valuation. The Russell 2000 ETF trades at a roughly 12% discount to the Invesco S&P 500 Equal Weight ETF (NYSEMKT: RSP), whose 22.7 earnings multiple reflects a more even distribution between the companies that make it up.

According to Fidelity research, as of March 2026, small-cap stocks made up about 4% of total U.S. market capitalization -- a lot lower than their long-term average of 9%. Just by doing some simple math, if small-caps could grow to regain another half of that long-term average and reach a 6.5% weighting in the overall stock market, that could represent about a 62.5% future gain in small-cap valuations.

Fidelity's research offered a few more reasons to be bullish on small-cap stocks, such as potentially lower interest rates, more mergers and acquisitions among small-cap companies, and the prospects for an overall healthy U.S. economy. The Fidelity research projects that "valuation trends have raised the historical odds for U.S. small cap outperformance, especially over the next five to 10 years."

How to buy small-cap stocks: iShares Russell 2000 ETF (IWM)

The iShares Russell 2000 ETF is a diversified index fund that holds 1,906 stocks of U.S. small-cap companies. It charges an expense ratio of 0.19%. This fund was established in May 2000, and during the past 26 years it has delivered average annual returns of 8.6%. That's slightly lower than the long-term S&P 500 average of 10% annualized returns.

Why buy the iShares Russell 2000 ETF now? If the latest research from experts such as T. Rowe Price and Fidelity is accurate, small-cap stocks might be experiencing a resurgence that could last for years. These small companies seem to be getting better at delivering profitable growth. They might be undervalued compared to other parts of the stock market.

This iShares fund lets you invest in a wide variety of sectors, not just major tech names and the AI trade. The top five sectors in this ETF are:

• Industrials: 19.4% of the fund
• Information technology: 18.6%
• Healthcare: 16.5%
• Financials: 16.02%
• Consumer discretionary: 7.87%

If you want to own a wide range of smaller, up-and-coming companies that might have strong growth potential and are being overlooked and ignored by many other investors, the iShares Russell 2000 ETF can give you a good way to do it. There are many good reasons this fund is ranked among the best small-cap ETFs.

Ben Gran has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.