PROS AND CONS OF MICRO CAPS
There are great returns to be had in micro-cap stocks and the sector is alive with companies poised for growth. Let's consider some pros and cons of the sector:
Pros:
- High returns: micro-caps often move early in a cycle and can grow rapidly
- Value-add opportunities: through dedicated research, portfolio managers can add value to micro-cap portfolios by locating undervalued stocks
- A bright future: the growing superannuation pool means that alternative investments, including micro-cap stocks, are in demand, which should continue as funds grow faster than predicted
- Under-researched: the micro-cap investment universe is vast and under-researched, allowing specialists like Cygnet Capital to take opportunities before the larger institutions do; many investment managers are under-resourced in micro-cap management so a dedicated team provides an edge
- Portfolio diversification: especially for larger investors, placing some of your portfolio in micro-caps provides diversification
Cons:
- Volatility: micro-caps are volatile by nature and while strong on the way up, they can suffer more in a downturn; sector expertise is required to navigate this risk
- Liquidity: micro-caps can have poor liquidity which may require careful management of issues such as market impact when trading
- Misunderstood by investors: not enough investors understand the risks and, conversely, the benefits of micro-caps
- Not sophisticated at investor relations: micro-cap stocks can hold themselves back by underestimating the investor relations role of keeping the investment community informed
- Under-researched: the lack of readily available research compared to large cap stocks can both repel investors and lead them into poor investment choices
