If you're interested in investing, you've probably heard the term "small cap stocks" thrown around. But what exactly are they, and how do they differ from other types of stocks? In this article, we'll take a deep look into small cap stocks, from how they're classified by market cap to examples of popular small cap stocks. Whether you're a seasoned investor or just getting started, this comprehensive guide will provide you with everything you need to know about small cap stocks.
What are small cap stocks?
Small cap stocks are a type of stock that refers to companies with a relatively small market capitalization. This is calculated by multiplying the company's share price by the total number of outstanding shares. The range for small cap stocks is generally between $300 million and $2 billion, although this can vary depending on the source.
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Investing in small cap stocks can offer investors an opportunity for potentially higher returns, but it comes with greater risk. These stocks are typically less established and have less financial stability. This means that they may be more prone to market volatility and may not have the same level of financial resources to weather economic downturns. Due to their size, small cap stocks may be more sensitive to changes in market conditions, making them more unstable than their larger counterparts.
While they have their own risks, small cap stocks have the potential to deliver strong returns over the long term. However, it's important to do your research and understand the pros & cons. When investing in small cap stocks, it's important to diversify your portfolio and consider investing in small cap funds rather than individual stocks to help spread your risk.
How is a stock classified by market cap?
The market capitalization of a company is a measure of the company's total value in the stock market. It is calculated by multiplying the number of outstanding shares by the current market price per share.
Stocks are classified by market cap into three categories:
Large cap stocks
Large cap stocks are those with a market capitalization greater than $10 billion. They are typically well-established companies with a long history of stable earnings and a large market share in their industry.
Some examples include Apple, Microsoft, and Amazon.
Mid cap stocks
Mid cap stocks are businesses with a market capitalization between $2 billion and $10 billion. They are often companies that are growing rapidly and have the potential for significant growth in the future.
Examples of mid cap stocks include Etsy, Twilio, and DocuSign.
Small cap stocks
Small cap stocks are companies with a market capitalization between $300 million and $2 billion. They are typically less established and have less financial stability than the other ones.
A few examples are Cloudera, Aviat Networks, and The Container Store.
Each of them has its own pros & cons:
| Stock size | Advantages | Disadvantages |
|---|---|---|
| Large cap | ✔ Established companies with a long history of stable earnings. | ✖ Lower potential for high returns. |
| ✔ Large market share in their industry. | ||
| ✔ Generally considered more stable and predictable. | ||
| Mid cap | ✔ Companies with potential for significant growth. | ✖ Less established than large cap companies. |
| ✔ Growing rapidly. | ✖ May be subject to more volatility than large cap stocks. | |
| Small cap | ✔ Potential for high returns over the long term. | ✖ Less established and have less financial stability. |
| ✔ May offer greater growth opportunities. | ✖ More prone to market volatility. | |
| ✔ Often overlooked by analysts, providing opportunity for undervalued stocks. | ✖ May not have the same level of financial resources to weather economic downturns. |
Investors may choose to invest in stocks based on their market cap classification, depending on their investment goals and risk management.
Examples of small cap stocks
Small cap stocks are often companies that are still in the early stages of growth or are focused on a specific niche. While they are considered riskier investments than larger, more established companies, they could also offer significant growth potential for investors and traders willing to try them out.
Here are some examples of small cap stocks:
- Roku Inc.: Roku Inc. (ROKU) is a technology company that offers a streaming platform for television. The company's stock has experienced significant growth in recent years as the popularity of streaming services has increased.
- Inphi Corporation: Inphi Corporation (IPHI) is a semiconductor company that specializes in high-speed data movement and processing. The company's stock has benefited from the growth of the internet and cloud computing.
- Eargo Inc.: Eargo Inc. (EAR) is a medical technology company that produces hearing aids. The company's stock has experienced growth due to its unique and innovative product offering.
- Purple Innovation Inc.: Purple Innovation Inc. (PRPL) is a company that produces mattresses and bedding products. The company's stock has benefited from a surge in demand for online mattress retailers.
- FuboTV Inc.: FuboTV Inc. (FUBO) is a streaming television service that offers a variety of sports and entertainment programming. The company's stock has experienced significant growth as more consumers cut the cord on traditional cable television.
While these examples are not necessarily recommendations for investment, they illustrate the diversity of companies that fall into the small cap category. Investors who are interested in these stocks should conduct thorough research and technical analysis before making any investment decisions.
FAQs
1. Are small cap stocks a good investment?
Small cap stocks could be a good investment for those looking to try them out. However, it's important to do your research and understand the risks involved.
2. How do I trade small cap stocks?
You could trade small cap stocks through a variety of channels, including CFDs, whereby you trade stocks without actually owning them.
3. What are some strategies for investing in small cap stocks?
Some strategies for investing in small cap stocks include diversifying your portfolio, researching individual companies thoroughly, and considering investing in small cap funds rather than individual stocks.
4. What are the risks of investing in small cap stocks?
The main risks of investing in small cap stocks include higher volatility, less liquidity, and less financial stability compared to larger companies. Small cap stocks may also be more susceptible to economic downturns and have a higher chance of going bankrupt.
5. What are some factors to consider when selecting small cap stocks to invest in?
When selecting small cap stocks to invest in, it's important to consider factors such as the company's financial health, management team, competitive position in the market, growth potential, and industry trends. It's also important to diversify your portfolio and not rely solely on small cap stocks.
Conclusion
As you consider your investment options, keep in mind that small cap stocks have historically outperformed larger stocks over the long term. While there are risks associated with investing in smaller companies, such as volatility and liquidity concerns, there is also the potential for returns.
However, it's important to approach small cap investing with a well-informed strategy, considering factors such as diversification, research, and the use of funds. By taking these factors into consideration, you can navigate the complex landscape of small cap investing with greater confidence and increase your chances of success over the long term. Remember that investing always carries risk, but with the right approach, small cap stocks can be a valuable addition to your investment portfolio.
