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May 31, 2001

Small-Caps Ripping' For Russell Rebalance

By Peter Chapman

Positioning ahead of the annual Russell rebalancing has now begun in earnest.

Hedge funds, brokers and active managers have pounced on those names that will enter or exit the Russell 2000 and 1000 indices on June 29th. Much of the trading is focused on small-caps that have grown large enough to enter the Russell 2000. "There's no question those stocks are really ripping right now," said Steve Kreichman, a trader on Salomon Smith Barney's portfolio trading desk.

The annual reconstitution by the Tacoma, Wash., investment advisor Frank Russell Company of its indices is a big deal for the Street. Salomon estimates about $25 billion in money managers' funds is indexed to the Russell 2000 and $100 billion to the Russell 1000.

Index funds must trade the adds and deletes by June 29th to keep the composition of their portfolios identical to that of the indices. Vanguard alone is expected to trade about $1 billion.

Agency brokerage Investment Technology Group predicts a volatile reconstitution. "It will be a lot like last year which also had a lot of big sectoral shifts," said Ananth Madhaven, ITG's managing director of research. "There will be some very sharp intraday price movements on the day of the Russell reconstitution itself."

Madhaven expects the Russell 2000 to shed 27 percent of its market capitalization - mostly tech stocks - and add about 18 percent. Capital committing portfolio desks will execute the lion's share of the business.

Firms like Solly buy or sell entire portfolios for their customers, guaranteeing them the June 29th close and assuming their risk. Their traders will most likely be rewarded. Last year, for instance, traders at Spear, Leeds and Kellogg took home special "Russell Bonuses."