Small-cap stocks – Beware of stagnant yields and investor sentiments

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Australian Economy, Macro Economics

Small-caps are generally riskier than your average ‘blue-chips’ like Westpac, Telstra or BHP Billiton, but many of them have got the power to explode your wealth in just months, sometimes weeks! Small cap stocks have a market capitalization ranging from $300 million to $2 Billion.

These are all those companies that sit outside of the largest 100 on the ASX by market cap. Companies in this index generally are riskier than their other counterparts who have a market cap higher to a few billion dollars or over.

Let’s consider an example of an IT small-cap here – ReadCloud Limited (ASX: RCL) is an information technology small cap stock with a current market price of $0.355 (as at May 31, 2018) and has seen a change of 20.37% over the past 4 months. It is a complete digital solution for eLearning and management of digital content. RCL is said to have a strong sales pipeline in the history and has expanded its sales team since the IPO to further accelerate the momentum. User number growth has increased more than doubling in 9 months from 21,800 in FY17 to 50,200 in Q3 FY18. However, the stock has no dividend yields to boast about currently.

Another small-cap stock is NetComm Wireless Limited (ASX: NTC), and this stock has a current market price of $1.17 and a performance change of 1.3% over the past 6 months but fell about 16.2% in last three months despite the rise in group’s revenue, EBITDA and NPAT (compared to previous year loss). Strong balance sheet, with good net cash and no debt have been key attributes. On the other hand, we have seen Xero Limited (ASX: XRO) that has transitioned from a small-cap category to a mid-cap category with about 800% rise in stock price since listing.

First factor to keep in mind – Stock movement is many a times driven by investor sentiments

These small-cap stocks are full of huge potential. Some of these stocks can see price rises in excess of 100%, 200%, 500%, and sometimes even more than 1,000% driven only by investor sentiments. While on the flip side one negative news or a tweet from President Trump or any geopolitical movement, can also make these stocks tumble. On the other hand, just a small investment in small-cap stocks could pay off massively. That’s the risk/reward payoff here. Investor sentiment is the biggest swing factor for small caps, thus, an array of comments can pull the stock price in different directions. However, investors should always keep a check and conduct a thorough search while not simply relying on some hyped speculation.

Second factor to keep in mind – Stagnancy needs to be watched out

In general, one may avoid stocks with stagnant yields or earnings, especially if other shareholders are on the register for the yield, and if growth is the key objective. However, ‘Don’t be greedy’ is the most important rule in small caps – don’t let your positions outsize the defined framework. Traditionally, small-cap stocks are associated with growth, not value. Hence, it is important to look for investments that can fit into the portfolio requirements. Investors can thus look for developing a balanced portfolio with exposure to small-cap stocks that can build attractive returns while stocks with stable yields might still be retained when investors try to manage volatile conditions.


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