LEVEL: BEGINNER
Small Cap Stocks
Small-cap stocks are the first of the three sizes of companies typically listed on exchanges, and have valuations between $300 million and $2 billion. As of the end of November 2012, 1078 companies of this size were listed on Google Finance on all exchanges and all sectors. 398 are on the NYSE.
Small-cap stocks are usually new companies who are poised for rapid growth. This isn’t always the case. DeVry (DV) is a for-profit education provider who has provided practical skills for jobseekers for over 80 years. The company has been on the NYSE since 1991, a few years after the beginning of the greatest bull run of stocks in American history (that bull run, according to some, ended in 2001, while others contend it’s still going on). It has remained a small cap stock, but it has been a strong performer for most of the 2000’s with a sudden drop in 2011 and 2012.
This is not the typical profile of a small-cap stock, which is often a young, emergent company with enormous growth potential. Alternatively, other small-caps are regional players or specialized companies with a particular market niche that is their specialty. Some small-cap indexes and ETFs exist, like Vanguard’s (VB).
Mid Cap Stocks
The next size up is the mid-cap stock, defined as companies worth between $2 and $10 billion. These companies are profiled and represented in several ETFs and indices, such as the Russell Midcap Index, which is tracked by an iShares ETF (IWR). These are more plentiful than small-caps, with 407 on the NYSE and 523 listed on Google’s stock screener.
These are considered mid-sized companies and come in all sorts of shapes and sizes. Powerful regional companies as well as specialty firms fill up the ranks of mid-cap companies. Abercrombie & Fitch (ANF) is a well-known clothes retailer whose size is limited by the nature of the market as well as its own value proposition. As a trendy, sexualized retailer of clothes for teens and twentysomethings, its market has an innate limit, making it difficult for the company to expand to large-cap territory without fundamentally changing its business model and identity.
Airgas (ARG) is another less well-known but interesting mid-cap stock. As a distributor of cylindrical containers of gases in several different sectors (companies in industrial, medical, and manufacturing sectors are all Airgas customers). The limit of this company’s size is limited by the demand for compressed gasses as well as the company’s own value proposition. If it were able to expand its research and development component and start patenting technologies that allowed for more efficient gas compression technology, or element-state transition technologies (making gasses liquid through energy-efficient methods, for example), the company could easily become large cap.
Large Cap Stocks
Not all companies want to become large-cap stocks, but few investors would complain if their shares went from a smaller size to the large-cap league. 411 such companies exist on all exchanges, according to Google Stock Screener; 356 are listed in the NYSE (which demonstrates, among other things, the global economic power of the United States and the importance of the NYSE).
The biggest company by market cap is Apple (AAPL), worth $537.16 billion as of November 23rd. Exxon (XOM) is a distant second at 406.19 billion. PetroChina (PTR) is third at $243.42 billion and fourth is Wal-Mart (WMT). Below that are other electronic, energy, and technology companies. The biggest financial company is HSBC Holdings (HBC) at $184.89 billion. Before the subprime mortgage crisis, this wasn’t the case.
Large-caps are considered the most stable and reliable stocks and most institutional investors spend much of their time picking and choosing these stocks more often than others in an attempt to avoid the risk of investing in smaller firms. Many large-cap stocks have long histories of national or international presence, such as AT&T (T) and Johnson and Johnson (JNJ).
Capital Gains versus Dividends
Why would you choose small-cap, mid-cap, or other sized stocks? No investor limits themselves to just one size, but they will often specialize in size as well as in sector. Different sized stocks usually imply different risk/reward profiles. I have mentioned that lower-cap stocks usually carry higher risks, but this also translates into higher potential rewards. While it’s rare for a large-cap stock to double in value in a year (Apple has done this several times), it’s more likely for a small-cap stock and very easy for a penny stock. The opposite is of course true, but that search for appreciating stock price lures a lot of investors to smaller stocks.
Mid-cap and large-cap stocks typically have slower growth curves when it comes to their stock prices, but they compensate for this with dividends. For example, Procter and Gamble (PG) has gone up only 60.75% over the past 10 years; in the past 5 years, it’s actually down nearly 5%. This kind of appreciation is puny at best.
But the stock has been paying dividends for all of that time, and the amount of its dividends has grown from 20.5 cents per quarter in 2003 to 56.2 cents per quarter in 2012. That means the yield of these stocks has more than doubled in a decade, making the value of the stocks its historical rate of dividend growth.
Some investors seek capital gains, others seek dividends. Your preference for price appreciation or dividend growth will determine what sized company you focus on. And, of course, there is always the option to mix both.