Choosing the Right Capitalization
Small, mid and large cap stocks all have their individual benefits. But which one is right for you?
One size usually doesn’t fit all, especially when it comes to the stock market. Choosing the right sized company or fund can be a tricky prospect. “How are the different levels defined?” and “What are the pros and cons of each type?” are two major questions many people have. When looking at market capitalization, it can be difficult to decide which size is right. So here’s an overview of all three major categories of market capitalization.
Small cap stocks are companies that typically have a small market capitalization (usually somewhere between $300 million and $2 billion, but definitions vary). Market capitalization, simply put, is the price of the company’s stock, multiplied by the number of shares outstanding. It’s basically the value the market places on a company.
With the potential for growth comes the potential for risk as well. All portfolios should be properly diversified to help reduce overall portfolio risk. Investing in small cap stocks comes with an additional set of risks unique to these types of investments. Consequently, any money you invest in small caps should be money you’re prepared to expose to these risks. Small cap stocks are also more difficult to research and choose precisely because of their obscurity.
The definition of a mid cap varies greatly depending upon whom you ask. Some define mid caps as being companies with a market capitalization between $1.5 billion and $5 billion. Others bump that number up a bit and define them as being between $2 billion and $10 billion. In the end, it depends on exactly whom you ask. Mid caps are generally thought of as having the growth potential of a small cap and some of the stability of a large cap.
Large caps also vary in range, depending on who’s answering. In many cases, large caps, or “blue-chip” stocks, are stocks with a market capitalization between $8 billion and $100-200 billion. This range includes some of the giants. With the larger cap companies, you get more proven stability and less volatility. But in many cases, that means less glamorous returns and a smaller chance for growth.
As with the other two levels of capitalization, it’s not a one size fits all. Some investors want the proven reliability of the big names. Others value the large caps because they’ve already experienced their growing pains and are now established. Many large cap companies also do a great deal of work around the world, which means an added flavor of global diversification. Numerous developing countries are seeing the birth of a middle-class (China, Brazil, etc.), and many large U.S. companies are seizing the day and expanding their reach.
Each type of market capitalization category comes with its own unique risks and rewards. Trying to balance the risks and rewards of all of the assets in your portfolio can be tricky. Consulting with a financial professional can help you identify which investments may be appropriate for your situation. Article by Securities America