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INVESTING IN SMALL-CAP STOCKS

July 4, 2021
Small-cap stocks

The term small-cap usually refers to firms with small market capitalization, ranging from $300million to $2 billion. 

Market capitalization is the market’s estimate of the total dollar value of a company’s outstanding shares. To get this value, one has to multiply the stock price with the outstanding number of shares.

Small-cap stocks or small-cap equities are stocks of small-cap companies traded in the stock market.                     

Small-Cap Stocks

 Features of Small-cap Stocks are:

  • Volatility: The Net Asset Value of small-cap stocks tends to be heavily influenced by market fluctuations, making them volatile. For example, these stocks perform well during the high market phase but tend to underperform when the market struggles.
  • Risk factor: The dependence of small-cap stocks on the market makes them susceptible to its fluctuations. These stocks are more prone to be affected by the market recession and take time to recover from the same; this makes small-cap stocks a risky investment option.
  • Returns: Small-cap shares are counted among the top-yielding investment options. They are considered to have the potential to emerge as multi-baggers by yielding over 100% returns.
  • Cost of Investment: Usually directly investing in small-cap shares doesn’t have a cost involved however if u invest via mutual funds or ETFs there is a small expense ratio charged on the fund.
  • Investment Horizon: Individuals can invest in small-cap stocks in India for both long-term and short-term. However, investors should opt for small-cap shares, which come with a long investment horizon to spread the risks associated with them and generate substantial returns.

Investing in Small-Cap Vs. Large-Cap

In layman’s language, Large-cap stocks are shares of large companies, and small-cap stocks are shares of smaller companies.

Large-cap companies are the ones with a market capitalization of $10 billion or higher. Amongst large-cap companies like Apple(AAPL) or Amazon(AMZN), the most aggressive growth happens in the rearview mirror. These companies’ stocks are also known as blue-chip stocks-companies with dependable earnings, stability, impactfulness, and solid reputations. 

Large-cap companies are well-known, making it easy for the investor to find and analyze public information about them. Investors usually opt for large-cap companies due to the stability they offer. These companies are market leaders, and their growth tends to move with the economy as a whole.

Large Cap Vs Small Cap

A misconception about small-caps is that they’re startup companies or companies arriving fresh in the market, but that’s not true at all. Many small-cap companies are similar to their larger counterparts, well established, and with outstanding records. And, because they’re smaller, small-cap share prices have a greater scope of growth. 

Historically, small caps have outperformed large caps. For example, during the dot com bubble of the late 1990s, all the investors were investing in large-cap tech stocks like Microsoft, Cisco, and AOL Time Warner. After the bubble burst in March 2000, small-cap company stocks outperformed the large-cap company stocks.

Investing in Small-Cap Vs. Mid-Cap

Usually, investors who want the best of both worlds invest in Mid-cap stocks. They have a market capitalization between $2 to $10 billion. They’re more stable than small-cap companies and can infer good returns. Since these companies have been around for a long time, some of these companies soon transfer to large caps, making them attractive since they’re companies with growth opportunities and controlled risk.

Small-caps average 5-year returns were 14.72% which is 4.44% more than Mid-cap stock’s 5-year average return.

Small-Cap ETFs

An exchange-traded fund(ETF)  is a basket of securities traded in exchange, like stocks.  Small-cap ETFs are designed to invest in a basket of small-cap stocks with relatively more minor market capitalization. Because of their size, small-cap stocks have strong, albeit volatile, growth prospects. A small-cap ETF reduces the volatility of an individual stock by offering greater diversification.

There are 45 distinct small-cap ETFs that trade in the U.S., excluding inverse and leveraged ETFs, as well as funds with less than $50 million in assets under management (AUM). The small-cap sector, as measured by the Russell 2000 Index, has significantly outperformed the broader market with a total return of  67.6% over the past 12 months compared to the S&P 500’s total return of 42.0%, as of May 18, 2021.

The best-performing small-cap ETF, based on performance over the past year, is the Amplify Seymour Cannabis ETF. We examine the top 3 best small-cap ETFs below. All numbers below are as of May 19, 2021.

Amplify Seymour Cannabis ETF(CNBS).

  • Performance over 1-Year: 135.6%
  • Expense Ratio: 0.75%
  • Annual Dividend Yield: 0.42%
  • 3-Month Average Daily Volume: 181,571
  • Assets Under Management: $135.9 million
  • Inception Date: July 23, 2019
  • Issuer: Amplify Investments

The fund invests at least 80% of its assets in securities of companies that generate 50% or more of their revenue from the cannabis and hemp ecosystem. The majority of the fund’s holdings operate in two sectors of the cannabis market: cultivation and retail and agricultural technology. Most of its holdings are based in either the U.S. or Canada, and it follows a blended strategy investing in a mix of growth and value stocks of mostly mid-and small-cap companies. The fund’s top three holdings include class A shares of Silver Spike Acquisition Corp., Tilray Inc. (TLRY), a Canada-based supplier of medical cannabis products, and AFC Gamma Inc.

Invesco S&P SmallCap Value with Momentum ETF (XSVM)

  • Performance over 1-Year: 127.3%
  • Expense Ratio: 0.39%
  • Annual Dividend Yield: 0.69%
  • 3-Month Average Daily Volume: 104,656
  • Assets Under Management: $286.3 million
  • Inception Date: March 3, 2005
  • Issuer: Invesco

The ETF focuses on buying U.S. small-cap equities that are both relatively undervalued and exhibit strong momentum. The fund’s largest sector allocation is in consumer discretionary, followed by financials and industrials. Its top three holdings include class A shares of GameStop Corp. (GME); Veritiv Corp. (VRTV); and United Natural Foods Inc. (UNFI), a distributor of natural, organic, and specialty food products.

Invesco S&P MidCap 400 Pure Value ETF (RFV)

  • Performance over 1-Year: 112.1%
  • Expense Ratio: 0.35%
  • Annual Dividend Yield: 1.04%
  • 3-Month Average Daily Volume: 30,427
  • Assets Under Management: $183.8 million
  • Inception Date: March 7, 2006
  • Issuer: Invesco

The fund’s largest sector allocation is in financials, followed by consumer discretionary and information technology. Its top three holdings include Telephone and Data Systems Inc. (TDS), Avnet Inc. (AVT), and Commercial Metals Co. (CMC).

References:

https://groww.in/p/small-cap-stocks/

https://www.investopedia.com/investing/small-cap-etfs/

Image sources:

https://www.educba.com/large-cap-vs-small-cap/

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