# Understanding Relative Strength

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Relative strength is a measurement that tells you which stock, mutual fund or ETF is stronger when compared with another stock, mutual fund or ETF. It’s like having an arm-wrestling match between each of the investments you are looking at and seeing which one comes out on top.

Knowing which investment is the strongest today is useful for you as an investor because the investments that are strong today tend to be strong tomorrow—unless something happens to weaken them. It’s just like Newton’s first law of motion, which states that every object in a state of motion tends to remain in that state of motion unless an external force is applied to it.

So why do I say small-cap stocks are the place to be right now? Well, let me walk you through the process.

I wanted to know, based on relative strength measurements, which market-cap style group was the best place to be right now. Should I be in large-cap value, mid-cap growth or some other group? To answer my question, I decided to evaluate the following ETFs, which represent the six major market-cap style groups:

– The iShares S&P SmallCap 600 Value Index Fund (IJS)

– The iShares S&P MidCap 400 Value Index Fund (IJJ)

– The iShares S&P 500 [LargeCap] Value Index Fund (IVE)

– The iShares S&P SmallCap 600 Growth Index Fund (IJT)

– The iShares S&P MidCap 400 Growth Index Fund (IJK)

– The iShares S&P 500 [LargeCap] Growth Index Fund (IVW)

While there are many different methods for calculating relative strength, the simplest and most widely used seems to be theNormalized Rate of Change method, so I decided to use it for this illustration. To calculate relative strength using this method, all you have to do is follow these five easy steps:

1. Decide which stocks, mutual funds or ETFs you would like to compare (the six iShares ETFs above, in this case)

2. Determine the time frame you would like to look at when evaluating these assets (the past month, in this case)

3. Obtain the price data for each of the potential investments you would like to look at

4. Run the following calculation on the data for each potential investment:

### (Price today – Price n periods ago) / Price n period ago

5. Rank the values from highest to lowest

Using this method, I discovered that during the past month, the six ETFs I tested had the following results (ranked in order):

–

### 8.18% Gain

— The iShares S&P SmallCap 600 Value Index Fund (IJS)

–

### 5.92% Gain

— The iShares S&P SmallCap 600 Growth Index Fund (IJT)

– 3.57% Gain — The iShares S&P MidCap 400 Value Index Fund (IJJ)

– 3.14% Gain — The iShares S&P 500 [LargeCap] Value Index Fund (IVE)

– 2.08% Gain — The iShares S&P 500 [LargeCap] Growth Index Fund (IVW)

– 0.64% Gain — The iShares S&P MidCap 400 Growth Index Fund (IJK)

As you can see, the ETF representing the small-cap value index was the clear winner—followed by the ETF representing the small-cap growth index.