Chuck Mikolajczak and Caroline Valetkevitch

NEW YORK, (Reuters) – As small caps hover near bear market territory some strategists believe the U.S. stock markets and index may have reached a bottom following the recent selloff.

In the current market downturn, the Russell index for small capitalization stocks has been leading the charge. This index is often one of the most volatile U.S. stock indices. This index is in a steady decline from its record Nov. 8 closing high, while it was at record lows on Jan. 3 and 4.

As of Tuesday’s close, the Russell was down 18% from its record close, and the S&P 500 is off about 9% from its closing all-time high. According to widely-used definitions, a closing of 20% or less below the record close indicates that an index is in a bearish market. Conversely, a closing of 10% below the record close signifies that it has corrected.

Steven DeSanctis from Jefferies is a strategist in small and midcap equity. He said, “It has been a bloodbath to small caps.” The average stock of small caps is now down 40% from its 52 week high.

Although the market may still be at its lowest, he stated that this is part of the “bottoming-out” process and that small caps were “kind of the canary within the coal mine.”

One year performance of Russell 2000 vs S&P 500 https://fingfx.thomsonreuters.com/gfx/mkt/egpbkjzgkvq/Pasted%20image%201643144121022.png

In early trading on Wednesday, stocks were moving in a positive direction. Investors remain wary of the possibility that there will be more sell-offs, given ongoing worries about rate hikes, and Fourth-quarter earnings season.

Inflation has risen and investors have become more cautious in recent months. There are also growing concerns that the U.S. Federal Reserve may tighten its monetary policy faster than what the market is expecting.

After its two-day policy conference, the Fed will release a statement Wednesday. Fed Chair Jerome Powell will host a press conference. To add to tensions this week, NATO placed forces on alert and the United States deployed troops to an increased level of alert to combat a Russian presence at Ukraine’s borders.

They are also more volatile than large cap stocks, so small caps can see larger swings when there is strong market upswings and downswings.

The Russell seems to indicate that investors are pricing in a possible recession. DeSanctis disagreed. Stocks in these sectors are experiencing a decline in value. The earnings are strong. “I don’t think it will get any worse from what we have right now,” he stated.

The Russell dropped below the 20% mark from Monday’s November record close high in intraday trades, but a late-day correction helped it to finish the day up 2.3%. However, it has not closed 20% lower than its previous closing record.

Some strategists suggested that hitting these low levels in the early part of the session, especially the Russell 2000, may have been a trigger for buy signals.

Jake Dollarhide is the chief executive officer at Longbow Asset Management. He said, “There’s still plenty of cash on hand, so people who have cash are particularly sensitive to a period like this.” He said that the Russell 2000 move “might have served as a greater indicator than any other.”

Because prices are falling, small caps could be particularly attractive.

According to data from Refinitiv, the forward price-to earnings ratio of Russell 2000 now stands at 22.1. This is down slightly from 28.1 in November. By comparison, the S&P 500’s forward P/E ratio of 19.7 is down slightly from 21.8 in the beginning of November.

Russell 2000 Forward PE https://fingfx.thomsonreuters.com/gfx/mkt/jnvwelgxrvw/Pasted%20image%201643207575894.png

Jill Carey Hall, equity & quant strategist at BofA Securities in New York, wrote in a note this week that with the Russell 2000’s big drop from its November highs, “most of the worst could be behind us,” and says investors should “stick with small.”