While it's still uncertain whether the current correction will recover or deepen in the near term, MoneyShow's Tom Aspray makes a compelling case why investors should not sell their small-cap stocks and run just yet.

The stock market was able to stabilize Tuesday after Monday’s sharp slide, which was positive, and the futures are a bit higher early Wednesday. This is not enough yet to conclude that the market’s correction is already over.

For now, a broad trading range with a downside bias seems the most likely path over the near term. It would take a strong close above Monday’s early highs to suggest that the correction is already over.

In a recent Wall Street Journal article, “The Small-Cap Stock Trap,” it was pointed out that the Russell 2000 is up 19% since the November lows, versus just an 11% gain in the Dow Industrials. The author suggests that the recent strength of small-cap stocks may be trapping investors with higher risk.

As I noted yesterday, the iShares Russell 2000 Index (IWM) has already dropped almost 4% from its highs. However, from a technical standpoint, I do not think that the rally in small-cap stocks is over. A historical look at recent rallies in this area suggests that they should still be on your buy list during the market’s current correction.

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Chart Analysis: On the weekly chart of the iShares Russell 2000 Index (IWM) that goes back to 2009, I have highlighted several periods of strength in small-cap stocks. The performance values are calculated from low to high, and therefore are high, as no one gets in at the low or out at the high.

  • From the July 2009 low to the May 2010 high, IWM was up 57.4% (line 1).

  • The following correction ended in August 2010, and during the next rally (line 2) IWM gained 47.6%, peaking in May 2011.

  • The 40.8% rally from the lows in October 2011 lasted only until March 2012 (line 3).

  • From the November 2012 low at $76.13 up to the recent high of $92.68, IWM is up just 21.7% so far.

  • The weekly relative performance moved above its WMA on December 1, and before the end of the year broke its long-term downtrend (line b).

  • The weekly RS analysis is still positive, and the daily (not shown) did confirm the recent highs.

  • The weekly on-balance volume (OBV) moved above its WMA in the middle of December, and broke through strong resistance (line c) in early 2013.

  • The OBV has turned lower, but is still well above its rising WMA.

  • So far, the support in the $88.80 area is holding, with the 38.2% Fibonacci retracement support at $86.28.

  • A daily close above $91.53 would be a sign that the correction is over.

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Tickers Mentioned: Tickers: IWM, RVT, RMT, SPY