Today I’ll talk about a financial topic that many people have questions about: small cap stocks.
Let’s start out with the obvious question on most people’s minds:
What is a Small Cap Stock?
This is in reference to the “cap” in small cap stocks, which is a capitalization of total market value of the shares traded over public exchanges. Typically this range is $300 million to upwards of $2 billion.
The “cap” in small cap stocks refers to a company’s capitalization as determined by the total market value of its publicly traded shares. Small cap stocks are generally defined as the stock of publicly traded companies that have a market capitalization ranging from $300 million to about $2 billion.
Why small cap stocks can be useful?
- Growth stocks provide smaller returns and are more expensive because investors tend to bid up the shares higher whenever there are growth prospects, while investors also tend to over react and force the prices of small cap stocks lower if there is any sign of bad news.
- Mutual funds and most institutions cannot own small cap stocks due to them being heavily regulated by the SEC, and if by chance they come into possession of any small cap stocks through a spin off, they are required to sell these stocks as soon as possible.
- Small cap stocks are generally much less glamorous than other bigger companies, and they are unlikely to gather much interest in conversations at dinner tables, as they are mostly boring companies that people haven’t heard of.
- Due to the fact that they are of a small size and lack liquidity, small cap stocks do not get much coverage on Wall Street. Hence, most retail and institutional investors do not even know about these small cap stocks, as they usually rely on recommendations by brokers.
These reasons ensure that small cap stocks do not interest a lot of people, especially the big investors and mutual funds. On the other hand, small investors know that small cap stocks offer an opportunity to find true value stocks, which will beat the market on average, over a long period of time.
How to find small cap stocks that are promising?
Investors need to look through a lot of small cap stocks and work very hard to be able to find promising candidates in which they can find value, as there is very little news or data coverage for most of these stocks. To come up with a reasonable valuation of a company, an investor has to gain an understanding of the company and evaluate the business and its finances, which he can only do by going through annual reports and public filings, which is a long and tedious process. After discovering these promising stocks, investors have to buy these stocks at a good value in the market and then wait for the market to realize that they have been improperly priced and to fix their mistake, which can take a large amount of time.
Most typical investors tend not to invest in small cap stocks as it requires them to patiently wait on their share prices to rise, and also because it is heavily time and labor intensive work to find these stocks in the first place.
On the contrary, you can also look at investing in bitcoin.