The Risks and Rewards of Investing in Small Cap Stocks

The Risks and Rewards of Investing in Small Cap Stocks
When it comes to investing, there are a lot of different options out there. But one option that is often overlooked is investing in small cap stocks. Small cap stocks are stocks of smaller companies that have a market capitalization of $300 million or less. While these stocks come with some risks, they also offer some potential rewards that make them worth considering for your portfolio.
One of the biggest risks of investing in small cap stocks is economic instability. These companies are usually more vulnerable to changes in the economy and can be more volatile. Additionally, small cap stocks...
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When it comes to investing, there are a lot of different options out there. But one option that is often overlooked is investing in small cap stocks. Small cap stocks are stocks of smaller companies that have a market capitalization of $300 million or less. While these stocks come with some risks, they also offer some potential rewards that make them worth considering for your portfolio.
One of the biggest risks of investing in small cap stocks is economic instability. These companies are usually more vulnerable to changes in the economy and can be more volatile. Additionally, small cap stocks often lack analyst coverage, which can make it difficult to get accurate information about them. And finally, small cap stocks tend to be more volatile than large cap stocks, meaning their prices can fluctuate more wildly.
However, there are also some potential rewards to investing in small cap stocks. One is the potential for high growth. Smaller companies often have more room for growth than larger companies, making them an attractive option for investors looking for big returns. Additionally, small cap stocks can help diversify your portfolio since they tend to move differently than large cap stocks. And finally, by investing in small caps, you gain access to niche markets that may be otherwise inaccessible.
So while there are some risks associated with small cap stocks, there are also some potential rewards that make them worth considering for your investment portfolio. Photo by Sam Lion on Pexels The risks of investing in small cap stocks.
Economic instability.
One of the biggest risks of investing in small cap stocks is economic instability. Small companies are often more vulnerable to economic downturns than larger companies. For example, during the 2008 financial crisis, the Russell 2000 Index, which tracks small cap stocks, fell by more than 50%. This was significantly worse than the SP 500 Index, which only fell by about 37%.
Another risk of investing in small cap stocks is that they often have less analyst coverage than larger companies. This can make it more difficult to find information about a company and its prospects. Additionally, small cap stocks are often more volatile than larger stocks. This means that they can experience bigger swings in price, both up and down.
The rewards of investing in small cap stocks.
Potential for high growth.
Small cap stocks offer investors the potential for high growth. While there are no guarantees in the stock market, small cap stocks have historically outperformed large cap stocks over the long term. From 1926 to 2018, small cap stocks have returned an average of 12% per year, while large cap stocks have returned 10% per year.1
Why do small caps tend to outperform? One reason is that small companies are typically more nimble and can adapt to change more quickly than large companies. They may also be less researched by analysts and therefore offer more opportunity for savvy investors to find undiscovered gems.2
Of course, there is no guarantee that any particular stock will outperform the market, and investing in small caps comes with its own set of risks (which we will discuss in the next section). However, for investors who are willing to take on a bit more risk, small cap stocks offer the potential for above-average returns.
Increased diversification.
Another benefit of investing in small cap stocks is that it can help diversify your portfolio. Diversification is important because it helps reduce your overall risk by ensuring that your portfolio is not overly reliant on any one security or sector.3
Investing in small caps can help diversify your portfolio in two ways: first, by giving you exposure to a broader range of companies; and second, by...