Small-cap stocks are outperforming large-cap peers this year after years of underperformance, driven partly by sector exposure differences. Small-cap indices have lower exposure to out-of-favor tech and higher exposure to energy, while a valuation gap that peaked at over 7.5 points of price/earnings ratio in November has begun to close.

Index construction differences create significant performance variations across providers. Value and growth indices from MSCI, S&P, and Russell show divergent results, with Russell's looser inclusion criteria leading to different outcomes. Over five years, small-cap value outperformed growth at all three providers, though year-to-date performance varies widely.

Experts suggest the valuation gap's closure reflects mean reversion and sector shifts. Rob Arnott notes small-cap value stocks are genuinely cheap and beaten down, requiring improved market confidence to advance. Christian Caillaux argues investors are rotating from expensive large-cap growth to small-cap opportunities. The performance differences highlight the importance of understanding index construction when investing.