The Russell 2000 (^RUT) is packed with potential breakout stocks, thanks to its focus on smaller companies with high growth potential. However, smaller size also means these businesses often lack the resilience and financial flexibility of large-cap firms, making careful selection crucial.

The high-risk, high-reward nature of the Russell 2000 makes stock selection critical, and we’re here to guide you toward the right ones. That said, here are three Russell 2000 stocks to avoid and better alternatives to consider.

CTS (CTS)

Market Cap: $1.22 billion

With roots dating back to 1896 and a global manufacturing footprint, CTS (NYSE: CTS) designs and manufactures sensors, connectivity components, and actuators for aerospace, defense, industrial, medical, and transportation markets.

Why Is CTS Not Exciting?

1. Products and services are facing significant end-market challenges during this cycle as sales have declined by 5.7% annually over the last two years
2. Revenue base of $520.9 million puts it at a disadvantage compared to larger competitors exhibiting economies of scale
3. Earnings per share have contracted by 4.5% annually over the last two years, a headwind for returns as stock prices often echo long-term EPS performance

CTS is trading at $41.53 per share, or 17.3x forward P/E. If you’re considering CTS for your portfolio, see our FREE research report to learn more.

Meritage Homes (MTH)

Market Cap: $5.01 billion

Originally founded in 1985 in Arizona as Monterey Homes, Meritage Homes (NYSE: MTH) is a homebuilder specializing in designing and constructing energy-efficient and single-family homes in the US.

Why Do We Think MTH Will Underperform?

1. Backlog has dropped by 36.5% on average over the past two years, suggesting it’s losing orders as competition picks up
2. 6.6 percentage point decline in its free cash flow margin over the last five years reflects the company’s increased investments to defend its market position
3. Diminishing returns on capital suggest its earlier profit pools are drying up

At $70.37 per share, Meritage Homes trades at 8.1x forward P/E. Check out our free in-depth research report to learn more about why MTH doesn’t pass our bar.

Fidelis Insurance (FIHL)

Market Cap: $1.66 billion

Founded in Bermuda in 2014 and designed to adapt nimbly to evolving market conditions, Fidelis Insurance (NYSE: FIHL) is a global specialty insurer and reinsurer that provides customized coverage across property, specialty, and bespoke risk solutions.

Why Does FIHL Worry Us?

1. Annual sales declines of 11.2% for the past two years show its products and services struggled to connect with the market during this cycle
2. Pre-tax profits fell over the last two years as its sales dropped and it struggled to adjust its fixed costs
3. Performance over the past two years shows each sale was less profitable as its earnings per share dropped by 41.7% annually, worse than its revenue

Fidelis Insurance’s stock price of $15.19 implies a valuation ratio of 0.6x forward P/B. Dive into our free research report to see why there are better opportunities than FIHL.

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