For the first half of 2026, the part of the stock market that usually gets the least attention has produced the loudest results. The Russell 2000 Index, which tracks roughly two thousand smaller, publicly traded American companies, has climbed more than 21% since January, putting it on pace for its best first half since 1991. That comparison matters because 1991 was itself a standout year for small companies, with the index finishing that year up nearly 44%, so being compared favorably to it says something about how unusual this stretch has been. For a corner of the market that spent much of the last decade trailing its larger counterparts, often by wide margins, this turnaround has caught even seasoned observers off guard.
To understand why this is happening now, it helps to know what makes small companies different from the giants that usually dominate headlines. Smaller firms tend to carry more debt that adjusts with prevailing interest rates, rather than debt locked in at a fixed rate for many years. They also tend to need more frequent refinancing. That combination makes them especially sensitive to the direction of interest rates. When borrowing costs are high, small companies often suffer disproportionately. When the Federal Reserve eases up, they tend to benefit the same way. Throughout 2025, the Federal Reserve cut its benchmark interest rate down to roughly 3.5%, and that relief has acted like a release valve for companies that had been straining under heavier borrowing costs.
There is also a valuation story underneath the rally. Amy Zhang, a portfolio manager at Alger, described it to CNBC as both a valuation catch up and a fundamentals story happening at the same time, noting that the gap between how small and large companies were priced had become so extreme that, in her words, a truck could drive through it. At the same time, the actual financial performance of these companies has been improving. According to data from LPL Financial, consensus forecasts for 2026 earnings growth among Russell 2000 companies have jumped to 38%, up from about 23% at the start of the year, a substantial upward revision in how much profit growth investors now expect.
Much of that improving outlook traces back to artificial intelligence spending, though not in the way most people assume. The biggest beneficiaries of the AI buildout have typically been massive chipmakers and the technology companies running huge data centers. This year, that spending has started reaching further down the supply chain into smaller, specialized suppliers. Semiconductor and semiconductor equipment companies have been the standout performers within the Russell 2000, accounting for 16 of the index’s 50 best performing stocks this year.[1] Among them are Aehr Test Systems, Inc. (NASDAQ: AEHR), Ichor Holdings, Ltd. (NASDAQ: ICHR), and MaxLinear, Inc. (NASDAQ: MXL), each have been up more than 400% this year. These companies supply equipment and components used in chip manufacturing rather than competing directly with industry leaders, which has let them ride the wave of AI infrastructure spending without going head to head against much larger rivals.
Policy changes have played a supporting role as well. Tax legislation passed in mid-2025, sometimes referred to as the “One Big Beautiful Bill,” included retroactive tax relief tied to tips and overtime pay. Because small companies are more concentrated in service industries where these provisions matter most, the benefits have begun showing up in recent quarterly guidance. Strategists have also pointed to small caps’ heavier reliance on the domestic U.S. economy, anticipation of more merger and acquisition activity, particularly in pharmaceuticals and biotechnology, and tax incentives meant to encourage business investment as additional tailwinds.
Despite the momentum, the same vulnerability that hurt small companies for years has not disappeared. Bank of America estimates that every additional quarter point increase in interest rates would reduce Russell 2000 operating earnings by roughly 2%. The Federal Reserve’s late July meeting will be closely watched as the next real test of whether this rally has staying power or whether higher borrowing costs could once again become a headwind for the smaller side of the market.
