Each year the Russell 1000, 2000 and 3000 Indices, widely considered as barometers of the U.S. economy, are reweighted to ensure they remain representative of changes in markets that took place over the past year. This year, the newly reconstituted indices will take effect after the market closes on Friday, 28 June 2024, and begin trading on Monday, 1 July 2024.

The annual Reconstitution is one of the most significant drivers of short-term shifts in demand for U.S. equities, often leading to sizable price movements and volatility in individual company names or industry sectors. The final day of the rebalance is typically one of the highest trading volume days of the year in the U.S. equity markets. At the June 2023 Reconstitution, $72.7 billion and $61.7 billion in U.S. stocks traded in the closing moments of Friday trading on the New York Stock Exchange (NYSE) and Nasdaq exchanges, respectively.

Approximately $11 trillion of equity market exposure is benchmarked to the Russell U.S. Indices, with countless ETFs and mutual funds mirroring the composition of the Index suite.

Rather than having to execute trades across 2000 or more individual names in the exact quantity for each individual stock to match their holdings to the changes in the index, an investor can simply trade CME Group E-mini and Micro E-mini Russell 2000 futures in lieu of stocks. Short holders have the added complication of locating a source to borrow the relevant shares of a company that remains within the index, often in less liquid names. The benefit of holding a futures position is that the investor does not have to trade the Reconstitution themselves; the futures contract will track the index and there will be no operational error or tracking error incurred by trying to replicate the Reconstitution.

An efficient way to manage the Reconstitution and rebalance risk is by using CME Group E-mini Russell 2000 futures (Globex code: RTY). We see clients switching to futures ahead of the recon date for two main reasons. Firstly, to more efficiently manage the rebalance process from an operational perspective, and secondly, for the capital efficiencies of futures. Provisions for exchange-for-physical transactions, block trading and Basis Trade at Index Close transacting ensure that multiple avenues are open to contract users for position entry and exit.

The Basis Trade at Index Close (BTIC) mechanism allows Equity Index futures contracts, such as RTY, to be traded intraday at a spread to the day’s closing index price. By buying RTY contracts via a BTIC transaction and selling a comparably sized cash portfolio on the close, for instance, the investor can seamlessly replace their stock position which increases operational efficiency and reduces costs.

Over 5,215 RTY BTIC contracts trade a day. This functionality has grown in popularity and use. In 2022, BTIC ADV was around 3.8K. In 2023, BTIC ADV grew 31% to over 5,000 daily trades. In addition to those clients tracking the index, BTIC functionality is particularly useful for clients who are trading the additions and deletions and wish to have a beta position against the main index. The minimum block size for BTIC is 40 contracts.

A holder may replace their physical exposure with E-mini Russell 2000 futures by using the Exchange for Physical (EFP) transaction, which allows an investor to exchange ETFs, ETNs or baskets of the underlying index constituent stocks for an equivalently scaled number of offsetting RTY contracts, and then to carry the resultant futures position through the index rebalancing.

In this transaction, one party is the buyer of the futures and seller of physical shares, ETFs/ETNs or OTC positions, and the other is the seller of the futures and buyer of the physical shares, ETFs/ETNs or OTC positions.

Following index Reconstitution, the investor may either execute a second EFP trade to move the index exposure back into a portfolio of shares or may continue to hold the index exposure in the futures contract to benefit from better capital efficiency.

Another way to manage the rebalance is using the roll to transition a futures position from one quarterly futures contract month to another contract further in the future. This means offsetting the current position and establishing a new position in a forward month. Traders do this when they do not want to give up their market exposure when the contract expires.

The Russell futures contracts expire on the third Friday of March, June, September and December, with the next expiration set on June 21, 2024, and participants can roll their futures positions at any time.

• There are two ways to roll a contract forward:
• To leg in, which means selling the June contract, then buying a September contract in two separate transactions
• Initiate a spread, or position roll, which will simultaneously execute a closing order of the nearby (June) contract and the establish a new position in the next contract month (September)

Unlike legging in, with a spread, there is no time gap in between the two orders. That is important because a time gap can result in slippage, the potential loss from market moves between the closing and opening orders. Using the roll to move positions forward in a single transaction minimizes the chance of slippage.

The Russell 2000 complex has a tremendous growth story since its return to CME Group in 2017. Among RTY’s market characteristics are deep liquidity and substantial open interest – two key features for anyone concurrently trading futures and cash index exposures.

So far this year through to end of May 2024, E-mini Russell 2000 futures (Globex code: RTY) have averaged 225K contracts per day ($22.5 billion notional) and the Micro E-mini Russell 2000 futures (Globex code: M2K) have averaged 90K contracts per day in 2024 ($880 million notional).

Open interest averages are close to 575,000 contracts. This growth enables market participants clear transparent pricing around the clock and a liquid order book in which to manage positions. Relative to adjacent Russell 2000 markets, RTY futures have traded three times more than all the most liquid ETFs combined that track the Russell 2000 combined.

First launched in 1984 and now on the 40th anniversary, the Russell U.S. Indices continue to reflect the ever-changing U.S. equity market, and the annual Reconstitution process is critical to maintaining accurate representation.

Representing the U.S. small-cap market segment, the total market capitalization of the Russell 2000 Index increased 7.4% from $2.7 trillion as of last year’s Reconstitution to $2.9 trillion.¹

With banding applied, the largest company in the Russell 2000 Index is Applied Industrial Tech ($7.1 billion market cap), an 18.3% increase from last year’s largest company in the index. The smallest company in the index is Richardson Electronics ($150.4 million market cap), a 5.7% decrease compared to the smallest company in the index in 2023.

Index membership and rankings are determined using total market capitalizations as of Reconstitution rank date, April 30, 2024.

Source: FTSE Russell. Data as of April 30, 2024

During this highly anticipated market event, the breakpoints between large-, mid-, and small-cap are redefined to ensure market changes that have occurred in the preceding year are captured. 

Health care is a recurring theme in this year’s rebalance. This year, 243 companies are joining the Russell 2000 Index – 30 dropping down from the Russell 1000 Index, 116 shifting up from the Russell Microcap Index, 86 companies joining from outside of the Russell U.S. Indices universe, with the highest number of companies from health care (26 companies) and financials (21 companies) 11 IPO’d companies are being added, seven companies are from the health care sector.

Additionally, 171 companies are departing the Russell 2000 Index: 28 companies are moving to the Russell 1000 Index, 94 are moving to the Russell Microcap Index and another 49 companies are leaving the Russell U.S. Indices universe.

The largest industry in the Russell 2000 remains Industrials at 19.1%, followed by health care at 16.7% (the largest increase, from 14.7%) and financials at 16.0%. Technology decreased from 13.7% to 11.3%, the largest decrease.

Year-to-year changes in the breakpoint between the Russell 1000 and the Russell 2000, i.e., the market capitalization that demarcates the boundary between large-cap and small-cap sectors, make a useful gauge of secular growth in market valuations. 

The breakpoint between the large-cap Russell 1000 and small-cap Russell 2000 indices increased 9.5% from $4.2 billion in 2023 to $4.6 billion.

The lower bound of the Russell 2000 is likewise indicative. At this year’s Reconstitution, the threshold market capitalization for a new index member was around $150.4 million; in 2023 it was $159.5 million, 6% higher.

Changes in the capitalization breakpoint separating the large-cap Russell 1000 from the small-cap Russell 2000 indices are highly correlated with real GDP growth rates, indicating that the indices accurately capture economic growth patterns.