Most Traders Ignore IWM. This Study Shows It Outperformed SPY 56% of the Time Over 25 Years.

Key Concepts

• IWM (Russell 2000 ETF): An exchange-traded fund tracking small-cap companies.
• Implied Volatility (IV): The market's forecast of a likely movement in a security's price; often higher in small caps.
• Historical Volatility (HV): The actual past movement of a security.
• Return on Capital (ROC): A measure of the profitability and efficiency of a trade relative to the capital required.
• Jade Lizard: An options strategy involving a short put and a short call spread, designed to collect premium.
• Notional Value: The total value of the underlying assets controlled by an options contract.

1. Market Context and Performance

The Russell 2000 (IWM) has significantly underperformed the S&P 500 (SPY) and the Nasdaq (QQQ) since the pandemic. While the S&P 500 boasts a market cap of approximately $50 trillion, the entire Russell 2000 is less than 1/10th of that size—notably, Microsoft alone has a higher market valuation than the entire index. Despite this, the IWM remains the seventh most actively traded equity based on options notional value, indicating high liquidity.

Long-term Performance Data (25-year study):

• IWM outperformed SPY in 56% of the years studied.
• IWM outperformed QQQ in 44% of the years studied.
• Median annual return for IWM is 12.5%, compared to 11.2% for SPY.

2. Strategic Advantages of Trading IWM

The presenters argue that IWM is an excellent vehicle for traders, particularly those with smaller accounts or those looking to diversify away from tech-heavy indices.

• Accessibility: IWM is a lower-priced product, making it more accessible for retail traders to execute strategies like "Jade Lizards" or naked puts compared to the higher capital requirements of SPY or QQQ.
• Diversification: Switching to IWM allows traders to reduce exposure to the tech sector when the Nasdaq or S&P 500 reach extreme valuations or exhibit excessive momentum.

3. Volatility and Options Trading

Part two of the research focuses on the volatility profile of small caps and why it favors options sellers.

• Volatility Comparison: IWM consistently exhibits higher implied volatility (IV) than SPY and QQQ. In a sample study (55 days to expiration), IWM showed 26% IV, compared to 24% for QQQ and 20% for SPY.
• The "Overstated" IV Advantage: Research indicates that a larger percentage of small-cap stocks show IV that is "overstated" relative to their historical volatility compared to the SPX or NDX.
• Actionable Insight: Because the IV is higher and often overstated, selling options in IWM allows traders to collect more premium. When comparing a 20-delta put, IWM provides a better return on capital (ROC) than SPY and is comparable to QQQ, but with lower total capital requirements.

4. Methodology and Findings

The research team utilized a comparative analysis of historical performance and options-selling metrics.

• Win Rates: When selling 30-delta puts, the win rate for IWM is comparable to QQQ and slightly lower than SPY, but the median return on capital is higher than SPY and equal to QQQ.
• Capital Efficiency: Because IWM is lower-priced, traders can scale their positions more effectively. For example, a trader can sell two IWM puts for less buying power than a single QQQ put while achieving similar or better premium collection.

Conclusion

The Russell 2000 (IWM) is often overlooked in favor of larger indices, yet it remains a robust tool for traders. While small caps are inherently more volatile, this volatility is "priced in" to the options premiums, creating a strategic advantage for premium sellers. The takeaway is clear: IWM offers a viable, liquid, and capital-efficient alternative to SPY and QQQ, particularly for those seeking to diversify their portfolio or optimize their return on capital through options strategies.