NEW YORK (TheStreet) -- Small cap stocks could continue to sell off this week as global events drive volatility higher.
iShares Russell 2000 Index (IWM) has fallen close to 2.5% over the last three trading sessions as investors have pushed the iPath S&P 500 VIX ST Futures ETN (VXX) up almost 9% since the beginning of September, fearing uncertainty in many of the world's largest economies.
The chart below shows the inverse relationship between volatility and small cap stocks. Small cap stocks are generally viewed as more speculative than large cap stocks as small caps are dependent on capital gains for total return compared with most large cap stocks, which generate both capital gains plus a dividend.
The total return aspect is important because even as large companies such as AT&T (T) see share prices decline, the investor is receiving not only a dividend, but the company may be buying back shares as well.
In some cases, financial engineering by large cap stocks can turn a slightly negative year for a company's share price into a positive return for investors.
Small cap stocks, reliant on capital gains and growth, have better uses for free cash flow than distributing it to investors. They can invest in new projects or take on strategic acquisitions to further grow revenue, and hopefully profits as well.