Investing in small-cap stocks is a great way to gain exposure to undervalued companies
The term “small-cap” is succinctly summarized by Investing Answers as “a company with a market capitalization (calculated by taking a firm’s current share price and multiplying that figure by the total number of shares outstanding) near the low end of the publicly traded spectrum.”
Precise “small-cap” market capitalization ranges vary depending on who you’re asking, but $300 million to $2 billion is a generally accepted window. Below $300 million, you’re in micro-cap territory; above $2 billion, you’re walking with mid-caps.
Why do these definitions matter at all? The short answer is, basically, that stocks in each capitalization class tend to behave differently, and therefore align with different investor goals and risk tolerances. (The long answer is really long.)
Investing in small-cap stocks is a great way to gain exposure to undervalued companies and promising, early-stage growth opportunities alike. For investors seeking exposure to equities that appear to be undervalued relative to their intrinsic worth, small-cap value funds offer tremendous opportunity at acceptable levels of risk. (Though it’s always important to carefully read funds’ prospectuses to determine whether they’re aligned with your specific investing goals.)
Not sure where to begin your small-cap investing strategy? Take a closer look at these five funds, each of which offers a reasonable mix of risk, opportunity, and diversification.
- Third Avenue Small-Cap Value Fund (TASCX)
Third Avenue Small-Cap Value Fund (TASCX) invests in “equity securities of small capitalization companies in the US that [Third Avenue Management] believes to be mispriced by the market,” according to Third Avenue Management’s website. Portfolio managers Chip Rewey and Tim Bui use highly conservative measures of NAV to screen out assets that fail to meet their stringent definition of value — and therefore, “screen in” only those “high quality businesses [trading] at a deep discount.”
TASCX had an excellent 2016. With approximately $315 million in assets under management, the fund appreciated by approximately 16% during the calendar year. It boasts an active share rating north of 95% — a clear indicator of its unique and opportunity-rich management strategy.
- DFA Emerging Markets Small Cap Port (DEMSX)
DFA Emerging Markets Small Cap fund seeks small-cap value opportunities where they’re hardest to find: in emerging markets around the world. Investors seeking exposure to a variety of international economies without sacrificing their preference for small-cap equities would do well to take a closer look at this fund.
- Invesco European Small Company Fund (ESMAX)
Invesco European Small Company Fund focuses largely on Europe-based small companies whose stocks have been substantially mispriced by the market. The fund also invests opportunistically in other areas, with value and small-cap as its guiding suitability criteria. ESMAX is highly rated by impartial observers and has a relatively long track record of market-beating performance, despite recent unevenness in the European economy.
- Vanguard Small Cap Value Index Fund (VISVX)
According to U.S. News, Vanguard Small Cap Value Index Fund “offers low-cost exposure to small U.S. companies that appear undervalued, relative to potential.” For investors that prefer to avoid international exposure while avoiding high expenses, this is an excellent choice that has consistently generated above-average performance.
- Queens Road Small Cap Value Fund (QRSVX)
Queens Road Small Cap Value Fund takes a similar approach to Vanguard Small Cap Value Index Fund. Though its expenses are a bit higher, its long-term performance has been excellent, and independent rating organizations hold it in very high regard.
Of course, investing in small-cap value funds is more complicated than a short article can fully explore. But looking into these funds is a great starting point.
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