Most Useful Information to Know When Investing in Small Cap Stocks

Stocks with smaller market cap than blue-chip stocks are favorites of many. While they are on the riskier side of investing, they also offer huge (sometimes life-changing) returns. Keep reading to know more about small and micro cap stocks and decide if you want to include them in your portfolio.  

Small cap stocks have a market cap ranging from $300 million to $2 billion. Micro caps range between $50 million to $300 million. These figures make them less credible than the blue-chips stocks that many traditional investors prefer. 

Many investors are interested in small cap stocks as they have historically offered high annual returns than mid cap and large cap stocks. Going by the market cap of small cap stocks, they have a greater potential to grow and offer substantial rewards than large caps. This is according to the theory of large numbers. The larger a company becomes, the more difficult it becomes for it to grow. For example, a company with a $50 million market cap would find it much easier to double its market cap than a company with a $1 billion market cap. 

You might be asking why not everyone is investing in these lucrative stocks? The answer is simple: there is an increased risk of greater losses and draw-downs. Also, the volatility graph of these stocks is much more than the large caps, which keeps many seasoned traders and investors away from small cap and micro cap stocks. You will find the majority of the investors betting on these are the ones who are in it for a shorter time horizon and looking for quick profits in the market. 

Many small cap companies have little to no earnings with insufficient cash on their balance sheets. This means many of these companies will file for bankruptcy. The situation gets even worse during the onset of a bear market. The weak hands get eliminated, those who have their money on high-risk stocks. The draw-down becomes so large that investors close their position to secure some cash to buy less riskier assets during the bear market. 

To conclude, you now know the risks and rewards associated with small caps, which should help you take a call.  

  

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