1 Vanguard ETF That Could Rise 37.3% Before the End of 2024, According to a Select Wall Street Analyst

Investors should take every prediction from Wall Street analysts with a grain of salt, because they don’t always do the right things. However, Tom Lee of Fundstrat Global Advisors has made some great decisions in recent years:

• He predicted the S&P500 (SNPINDEX: ^GSPC) The index was expected to rise to 4,750 in 2023 (while many other analysts were bearish), ending the year at 4,769.

• He started 2024 with a target of 5,200 for the index, which was achieved within three months.

• Lee then predicted that the S&P 500 would reach 5,500 by the end of June, and it did.

• He followed that up with a year-end appeal of 5,700, which has already been surpassed.

But Lee also entered 2024 with an ambitious target for another stock market index: the Russell 2000which includes approximately 2,000 of the smallest companies listed on US stock exchanges. He believed the combination of falling interest rates and cheap valuations of small-cap stocks would propel the index to a 50% gain by 2024.

The Russell 2000 is only up 10% so far, so it would need to rise another 37.3% over the next three months to meet Lee’s forecast. That seems very unlikely, but the Federal Reserve cut rates in September, and Lee reiterated his bullish stance on the smaller end of the stock market a few days later.

The Vanguard Russell 2000 ETF (NASDAQ: VTWO) directly tracks the performance of the Russell 2000, so it’s an easy way for investors to profit if Lee turns out to be right.

The Vanguard ETF is a simple way to invest in small caps

The technology sector accounts for nearly a third of the total value of the widely followed S&P 500 index, meaning its performance is heavily influenced by a small number of stocks. The Russell 2000, on the other hand, is much more balanced across its eleven different sectors.

The largest sector is industrial with a weighting of 18.9%, followed by healthcare at 15.1%, financial services at 15% and consumer discretionary at 12.6%.

In fact, the top 10 holdings in the Vanguard Russell 2000 ETF represent just 3.47% of the total value of the entire portfolio:

Data source: Vanguard. Portfolio weights are accurate as of August 31, 2024 and are subject to change.

The story continues

After a 209% gain this year, FTAI Aviation has a market cap of $14.3 billion, making it the largest company in the Russell 2000. It supplies aftermarket aircraft engine parts and provides maintenance services to airlines. It benefits from Boeing‘s regulatory problems as the manufacturer ships fewer aircraft, so airlines must operate older fleets, which require more maintenance.

Insmed is a biopharmaceutical company developing therapies for rare diseases. Then there’s Sprouts Farmers Market, an organic supermarket chain with more than 400 stores in the US

Outside of the top 10 holdings, the Vanguard ETF has household names as a cybersecurity powerhouse Shelf lifesemiconductor service company Axcelis Technologiesand clothing store Abercrombie and Fitch.

Interest rates are falling, which is a tailwind for small caps

The Fed cut the federal funds rate by 50 basis points at its September policy meeting as inflation moves toward its target and there were signs that the labor market is becoming less robust. As a result, the Fed’s future projections also indicate that more cuts are on the way in 2024, 2025, and even 2026.

Interest rate cuts generally benefit smaller companies more than large ones. Tech giants love Apple, MicrosoftAnd Nvidia are sitting on so much cash that they return tens of billions of dollars to their shareholders every year through stock buybacks and dividends. They don’t need debt financing.

But smaller companies often do need borrow money to stimulate their growth. Many of those debts have variable interest rates, which are very sensitive to changes in the Fed’s policy rate. Therefore, when interest rates fall, small businesses experience an increase in their borrowing capacity and a reduction in their interest payments, both of which can be a tailwind to their revenues.

That’s why Tom Lee believes lower interest rates could push the Russell 2000 higher, especially given its current valuation. The index trades at a price-to-earnings (P/E) ratio of just 17.8 (excluding companies with negative earnings), which is a 35% discount to the S&P 500’s 27.4 P/E ratio .

Investors pay a premium for the S&P 500 because of the extremely high quality of its components. Apple, Microsoft and Nvidia, for example, have track records of success spanning decades, along with secure revenue streams and consistent profit growth. Therefore, the Russell 2000 is unlikely to completely close the valuation gap with the S&P 500, but it could certainly make some progress if rates continue to fall as expected.

Tom Lee’s prediction could be ambitious

A 50% gain for the Russell 2000 could be out of reach this year, as gains are only 10% so far. But there is another striking problem: the index does never returned 50% in one year (going all the way back to 1988).

The Vanguard Russell 2000 ETF has produced a compound annual return of just 10.4% since its inception in 2010, so a 50% gain would be truly extraordinary. Furthermore, the Federal Funds Rate was below 1% for most of the period between 2010 and 2022, which was still not enough to generate outsized gains in small caps.

The index could certainly rise further in the final three months of 2024, but a 37.3% gain in that stretch is likely out of the question. That said, for investors who already have ample exposure to the S&P 500, adding the Vanguard Russell 2000 ETF to their portfolio can be a good way to diversify.

Investors without exposure to the S&P 500 may want to look there. The Vanguard S&P 500 ETF has delivered a compound annual return of 14.7% since 2010, crushing the Russell 2000 ETF. That 4.3% difference per year makes a huge difference in dollar terms, thanks to the effects of the compounding:

Calculations by author.

Given the quality of the companies in the S&P 500, it will likely continue to outperform the smaller end of the market over the long term.

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Anthony Di Pizio has no positions in the stocks mentioned. The Motley Fool has positions in and recommends Apple, Microsoft, Nvidia and Vanguard S&P 500 ETF. The Motley Fool recommends Sprouts Farmers Market and recommends the following options: long calls in January 2026 for $395 at Microsoft and short calls in January 2026 for $405 at Microsoft. The Motley Fool has a disclosure policy.

1 Vanguard ETF That Could Surge 37.3% Before The End Of 2024, According To A Select Wall Street Analyst Was originally published by The Motley Fool