Small-Cap Resilience Defies Geopolitical Shock as Strait of Hormuz Closes

US and global markets faced renewed volatility on Monday as Iran closed the Strait of Hormuz, reacting to the US government's refusal to lift a blockade of the waterway. While the S&P 500 and Nasdaq Composite retreated, the Russell 2000 index bucked the trend, climbing 0.6% to reach an all-time high. The geopolitical tension arrives as a two-week ceasefire between the US and Iran is set to expire this Wednesday. President Trump has indicated that an extension is unlikely, increasing the risk of further escalation during ongoing negotiations. The divergence in performance is stark; while the S&P 500 fell 0.2% and the Nasdaq dropped 0.3%, small caps surged. This move is partly driven by shifting monetary expectations. CME Group's FedWatch Tool now shows a 35% probability of a rate cut by year-end, a significant shift from a month ago when investors priced in a 25% chance of a rate hike. Analysts point to a valuation-driven rotation. The iShares Russell 2000 ETF (IWM) currently trades at a price-to-earnings ratio of 20, significantly lower than the Vanguard S&P 500 ETF's P/E of 28. This valuation gap is attracting investors moving away from expensive mega-cap stocks. Despite the current momentum in small caps, the long-term trend remains contingent on the resolution of the Middle East crisis. A return to stability is likely required for the rotation into small-cap equities to sustain its pace.