Small Caps and Large Caps


Ask SmallIvy:  Please send investing questions to vtsioriginal@yahoo.com or leave in a comment.

Dear SmallIvy,

What is the difference between small caps and large caps and what percent should I own of each?

Thanks,

Scott

Dear Scott,

Small caps are stocks that have a small value, or capitalization.  These are small companies that often have just started within the decade.  These are bigger than the penny stocks, which are listed on their own exchange, but much smaller than the large companies you think of every day.  Specifics of small caps are:

  • Reinvest all of the profits and therefore pay no dividend
  • Can grow earnings very rapidly
  • Are often only operating in a limited number of locations
  • Often operate very efficiently
  • Can grow in share price rapidly
  • Can go out of business after a couple of bad quarters
  • Fluctuate in price a lot

Large caps are big businesses with lots of employees, lots of revenue stream, and many locations.  These companies do billions of dollars worth of business each year, are often international, and have large boards.  Specifics of Large Caps are:

  • Usually pay a dividend since the opportunities for growth are limited
  • Earnings growth is usually limited to single or low double digits each year
  • Operate in many locations and have many business lines – are household names
  • Have large boards adn are slow to change
  • Don’t typically increase in price rapidly
  • Can withstand significant downturns by contracting and using assets
  • Often have significant international exposure

So, small caps can grow in price rapidly, and therefore offer a good return, but are less stable.  Large caps are more stable, often offer a dividend, and are unlikely to go out of business, but generally don’t appreciate very fast.  During some periods (especially bad economies), large caps will perform better.  During others (especially rapid expansions), small caps do better.

In setting up a portfolio, the mix depends on your time frame.  You always want a mix because each sector will perform well at different times.  In general those who have a long time frame (a long time until you need the money) should weight more heavily into small caps (and mid caps) since their return will be better.  Those who will need the money sooner and can’t wait out a long drop, however, should weight more heavily into large caps.  Whatever money will be needed within the next five years should be in a money market fund or bank CD because the risk of owning stocks at all is too great for short periods.

Regards,

SmallIvy

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Disclaimer: This blog is not meant to give financial planning or tax advice.  It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA.  All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

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