Small cap stocks can give big returns but this comes with certain risks. While small cap be multi-baggers, the other side is they can also ruin your investment if not selected appropriately. Small cap stocks are basically not tracked closely and therefore the value remains undiscovered for long. Small cap are those companies, which will take years to become a mid-cap or large cap company. The growth prospects can mostly be realized on a long-term horizon and accordingly the investment is mostly made only from the long-term perspective. That is why they are also called the hidden gems. Moreover, these companies are young to have a very short track record, hence judging their performance is also difficult. Many of them are not in their cash earnings also; the future growth depends on acceptance and growth of the product and services coupled with the company’s ability to capture the market opportunity. However, what can be looked into before investing is, the track records of promoters, their experience, and their stake in the company.
Some of the risks in investing in small caps are that the small cap companies take few years to grow and give handsome return and therefore the investment may become risky if the growth drivers of that company do not materialize. Secondly, the equity capital of these companies is very small, therefore exit from the stock sometimes may not be possible at desire. Some small companies are also weak in governance, dividend policies and professionalism of the board. It is common for small cap to fluctuate 5% or more in a singly trading day, investor must have this risk appetite for such volatility, as small cap is a game from long-term perspective.
Considering these factors, investors still need to gain from an upside potential of such stocks; and in such scenarios, investment in listed investment companies (LIC) can be one ideal choice. Listed investment companies enable an investor to invest in a diverse and professionally managed portfolio of assets, which can include shares, property and interest bearing deposits. Two reasons why one should invest in listed investment companies are as follows:
Diversified portfolio:Investment in listed investment companies can minimize the risk by diversifying across companies and sectors. Small cap companies see sudden rise and fall in stock prices and this is reflected in the net tangible assets or NTA of funds. Because of the diversification, the risk is minimized. At the same time, LICs are also prone to volatility of the stock market. Another point to look at is the performance after fees taken out by the managers. One quality stock to look at becomes Milton Corporation Limited (ASX: MLT) in this regard.
Professionally managed:Listed investment companies are professionally managed and supported by teams of analysts and researchers. They are in better position to select the right stocks, diversify across sectors and companies and react swiftly to changes in equity market conditions. Moreover, LICs are bought and sold on the market just like an ordinary share and investors can decide whether the investment style and underlying investment portfolio suits their investment objectives. Further, many LICs also distribute their income by way of fully franked dividends.
All-in-all, it becomes a game of balanced selection of portfolio with LIC stocks.
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