Why invest in small cap stocks

## Why Invest in Small Cap Stocks?

Small cap stocks are stocks of small companies with a market capitalization of less than $2 billion. They are often overlooked by investors who prefer to invest in larger, more established companies. However, small cap stocks can offer a number of advantages over large cap stocks.

### Potential for Higher Returns

Small cap stocks have the potential to generate higher returns than large cap stocks. This is because they are often more volatile, which can lead to both larger gains and losses. However, over the long term, small cap stocks have outperformed large cap stocks.

According to a study by the Center for Research in Security Prices at the University of Chicago, small cap stocks have returned an average of 11.9% per year since 1926, compared to 10.1% for large cap stocks.

### Growth Potential

Small cap companies are often in the early stages of their development and have the potential to grow rapidly. This can lead to significant gains for investors who buy into these companies early on.

For example, Amazon was once a small cap stock. In 1997, the company’s market capitalization was just $300 million. Today, Amazon is one of the largest companies in the world, with a market capitalization of over $1 trillion.

### Diversification Benefits

Small cap stocks can help to diversify your portfolio. This is because they are not as closely correlated to large cap stocks. As a result, adding small cap stocks to your portfolio can help to reduce your overall risk.

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### Tax Advantages

Small cap stocks may offer tax advantages. For example, if you invest in a small cap stock that is held in a qualified small business investment company (SBIC), you may be able to defer capital gains taxes.

## Risks of Investing in Small Cap Stocks

While small cap stocks can offer a number of advantages, there are also some risks to consider.

### Volatility

Small cap stocks are more volatile than large cap stocks. This means that they can experience larger swings in price, both up and down. This can make it difficult to hold onto small cap stocks for the long term.

### Liquidity

Small cap stocks are often less liquid than large cap stocks. This means that it can be more difficult to buy and sell small cap stocks quickly. This can be a problem if you need to sell your shares quickly, such as in a market downturn.

### Limited Information

Small cap companies often have less information available about them than large cap companies. This can make it difficult to evaluate the risks and rewards of investing in a small cap stock.

## How to Invest in Small Cap Stocks

There are a number of ways to invest in small cap stocks. You can buy individual small cap stocks, invest in a small cap mutual fund, or invest in a small cap exchange-traded fund (ETF).

### Buying Individual Small Cap Stocks

If you are comfortable with the risks involved, you can buy individual small cap stocks. You can do this through a broker or online trading platform.

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When selecting individual small cap stocks, it is important to research the companies thoroughly. You should look for companies with strong fundamentals and a track record of growth.

### Investing in a Small Cap Mutual Fund

Small cap mutual funds invest in a portfolio of small cap stocks. This can be a good way to diversify your investment and reduce your risk.

When selecting a small cap mutual fund, it is important to consider the fund’s investment objective, fees, and past performance.

### Investing in a Small Cap ETF

Small cap ETFs are exchange-traded funds that track a basket of small cap stocks. This can be a good way to get exposure to a large number of small cap stocks without having to buy individual stocks.

When selecting a small cap ETF, it is important to consider the fund’s tracking index, fees, and liquidity.

## Conclusion

Small cap stocks can offer a number of advantages over large cap stocks, including the potential for higher returns, growth potential, diversification benefits, and tax advantages. However, there are also some risks to consider, such as volatility, liquidity, and limited information.

If you are comfortable with the risks involved, investing in small cap stocks can be a good way to boost your portfolio’s returns.

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