Small-cap stocks refer to companies with a smaller market capitalization compared to large-cap or mid-cap stock companies. These companies typically have market capitalization below $2 billion and are usually lesser-known companies. Investing in small-cap stocks can offer tremendous growth potential as these companies typically have a lot of room for growth and expansion.
Small-cap companies tend to be overlooked by Wall Street due to the limited amount of information available and the lower trading volume. This leads to a higher level of volatility, which may result in higher returns if the investment is successful. Investing in small-cap stocks requires a lot of research and due diligence to identify companies with strong fundamentals, especially if you are considering investing in less-known companies.
One of the key benefits of investing in small-cap stocks is the potential for outsized returns compared to large-cap stocks. A small-cap company with good management, a solid business model, and sound financials is likely to grow more quickly than a larger company with more significant market saturation.
However, investing in small-cap stocks is not without risk. Smaller companies are often more vulnerable to market downturns, and liquidity can be an issue with lower trading volumes, leading to larger price fluctuations.
Criteria for selecting small-cap stocks
Investing in small-cap stocks requires thorough research and analysis. Here are some key criteria to consider before investing in a small-cap stock:
- Financials: Review the company’s financials, including cash flow, revenue growth, profit margins, and sales growth, to see if they are stable and improving year-over-year.
- Market position: Understand the company’s position in the market and evaluate if it has a sustainable competitive advantage.
- Management: Assess the management team’s performance and experience. Look for a strong track record of success and transparency.
- Valuation: Evaluate the stock’s valuation and compare it to peers in the industry.
- Industry outlook: Assess the industry outlook to determine if the company’s business model and product offerings are aligned with current market trends.
- Risks: Consider any risks the company may face, including market competition, regulatory concerns, or legal liabilities.
By considering these criteria, investors can identify promising small-cap companies with strong growth potential. Keep in mind that investing in small-cap stocks requires a long-term view, and patience is essential to allow for growth and earnings expansion.
Top 10 small-cap stocks to watch in 2023
Identifying promising small-cap stocks can be challenging, but keeping an eye on companies with solid fundamentals and growth potential is key to investing success. Here are 10 small-cap stocks worth considering for your portfolio:
Triton International Limited (TRTN): This company leases shipping containers worldwide, which benefits from increasing global trade. Triton has solid financials and a low price-to-earnings ratio (P/E), making it a possible undervalued stock.
Tactile Systems Technology Inc. (TCMD): Tactile Systems manufactures devices that help with lymphedema therapy, an area of growing demand. The company has seen significant revenue growth in recent years and has a solid balance sheet.
Calix Inc. (CALX): Calix provides broadband equipment to communication service providers and has a growing customer base. The company has a favorable valuation, and the shift towards remote work and learning may drive further demand.
Alteryx Inc. (AYX): Alteryx delivers an analytics platform that enables users to access data and gain insights without complex coding. The company has demonstrated strong revenue growth and increasing productivity gains.
Veritone Inc. (VERI): Veritone uses artificial intelligence and machine learning to provide insights to media and entertainment companies. The company has a strong customer base and a diverse product offering.
Schneider National Inc. (SNDR): Schneider National provides transportation and logistics services, which enables transportation of goods across the country. The company has a strong balance sheet and solid management.
BrightView Holdings Inc. (BV): BrightView delivers landscaping and horticultural services to commercial and residential customers. The company has demonstrated strong top-line growth and has a growing customer base.
Kinsale Capital Group Inc. (KNSL): Kinsale Capital Group provides specialty insurance products to clients in the U.S. The company has a competitive advantage and has demonstrated strong underwriting profitability.
Glu Mobile Inc. (GLUU): Glu Mobile develops mobile games and applications in a fast-growing industry. The company has a solid product line and experienced management.
Landec Corporation (LNDC): Landec delivers healthy food products using plant-based ingredients and patented production technology. The company has a growing customer base and solid financials.
Company analysis: Key financials and future prospects
When assessing small-cap stocks, it’s important to evaluate the company’s key financials to determine its potential for growth and profitability. Here are some key financial metrics to consider when analyzing small-cap stocks:
- Revenue growth: Look for companies that have strong revenue growth year-over-year. This indicates that the company is expanding its market share and is well-positioned for future growth.
- Profit margins: Evaluate the company’s profit margins to determine if it is operating efficiently. The higher the profit margins, the more profitable the company.
- Cash flow: Assess the company’s cash flow to ensure that it has enough liquidity to fund its operations and future growth.
- Debt: Consider the company’s debt levels and whether they are manageable given the company’s financial position.
- Valuation: Evaluate the company’s valuation to determine if it is undervalued or overvalued relative to its peers in the industry.
Small-cap stocks can be volatile, but they also offer the potential for significant growth and returns. By combining financial analysis with an assessment of future prospects, investors can identify small-cap stocks with promising growth potential.
Risks to consider when investing in small-cap stocks
Investing in small-cap stocks can offer significant growth potential, but it’s important to consider the potential risks. Here are some risks to keep in mind before investing in small-cap stocks:
- Volatility: Small-cap stocks tend to be more volatile than large-cap stocks due to lower liquidity and greater market uncertainty.
- Lack of information: Lesser-known companies often have limited financial information available, making it challenging to assess the company’s financial health.
- Industry-specific risks: Some industries are more volatile and cyclical than others, which can increase risk for small-cap companies in those industries.
- Lack of diversification: Investors who invest solely in small-cap stocks may face a lack of diversification, which can increase risk.
It’s essential to diversify your portfolio and not rely solely on small-cap stocks, as this can significantly increase risk. By maintaining a well-rounded portfolio, investors can minimize the risk associated with small-cap stocks.
Conclusion: Potential for big rewards in small-cap investing if you do your research
Small-cap stocks can be an excellent addition to a well-diversified portfolio, offering tremendous potential for growth and outsized returns. However, like all investments, investing in small-cap stocks carries risks that should be carefully considered.
The key to successfully investing in small-cap stocks is to conduct thorough research and analysis, keeping in mind the company’s financials and future prospects. Consider investing in small-cap stocks with a steady revenue and earnings growth track record, a solid balance sheet, and management with a proven ability to execute growth strategies.
Remember, investing in small-cap stocks requires a long-term view, patience, and diversification. The potential for big rewards exists when investing in small-cap stocks, but it pays to do your research and keep an eye on the risks involved. With the right investment strategy and an understanding of the market, small-cap investing can be a profitable and valuable addition to any investment portfolio.