Author: Ho KhinwaiKhin Wai is a Year 3 Banking and Financial Services student from the School of Business Management (SBM). He started his foray in finance in 2011 and has his roots in value investing. Archives
December 2013
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Walmart is a large-cap company.
Okay, we know what a stock is already (If you don’t, refer to my previous article below.) Today, we will be looking at what MARKET CAPITALIZATION for a share means. Market Capitalization, or Market Cap for short, is a type of measure used by investors and traders to categorize shares in the market. Market Cap reflects the market value of the particular company, and gives indication to how big the company currently is. In determining what stocks to buy, some traders may use Market Cap to retrieve a list of only those companies that are of a certain size. There are three “sizes” in the market – Small Cap, Mid Cap and Large Cap. First things first, there is a formula for calculating Market Cap. No, it doesn’t involve algebra or calculus! Market Capitalization = Market Price of One Share X Number of Shares Outstanding Three Capitalization Classes Small Caps: Small-cap counters are those stocks whose market values are below US$2 billion. In Singapore, there are many counters that fall within this range. Some of which are Challenger (573.SI), Sheng Siong Group (OV8.SI) and Blumont Group (A33.SI). Small-cap stocks are usually priced less than S$1 per share. However, be mindful that not all small-caps stocks are priced under S$1. One such counter is Boustead Singapore Limited (F9D.SI), with a price of $1.29 as of 6 September 2013. Small-cap shares are generally more price-volatile due to their smaller size. Hence, their share price may rise four- to five-fold within a shorter time period than their peers with a larger market cap. This is one reason why traders and investors who have a larger risk appetite favor small-cap stocks. However, do note that shares like these may also tumble faster and stronger under conditions that prove to be unfavorable to the company. Small-caps may also be favored due to their growth potential. As smaller companies, they may have room to open more outlets, capture more market share and expand overseas. We could probably see these expanding companies earn larger profits and as part-owners of the company, we, too, get a cut of the increased profits in addition to the rising share price. With such a catch, wouldn’t you like to own all of these small caps too? Not so fast. The thing about small-caps is that many don’t do well enough to have the capability to expand overseas. Increased inflation, labor crunches, increased competition and operation costs and bad fundamentals have sapped away much of their earnings. Mid Caps: Middle-Capitalization shares are stocks with market values between US$2 billion and US$10 billion. Some of these shares are Olam (O32.SI), Starhub (CC3.SI) and ComfortDelGro (C52.SI). Mid-cap stocks generally grow faster than large-cap stocks but slightly slower than small-caps. Mid-caps are usually established companies with at least five years in business. Investors and traders may prefer to invest in mid-caps or large-caps due to their long-standing track record or performance. These companies generally have stable and solid business models and sustainable profits, and are favored among those who have the holding power. Large Caps: Large-cap stocks are the big players in the market. Market values of these shares are more than US$10 billion. These solid, sturdy companies are usually the big brothers of their industry. In Singapore, you might be familiar with SingTel (Z74.SI), Keppel Corp (BN4.SI) and SIA (C6L.SI). Not surprisingly, our three local banks, DBS, OCBC and UOB are all in this class too. Many of these large-caps have a good history of earnings and sales and are familiar names in the country. Investors who favor large-cap stocks find themselves sleeping soundly every night as market fluctuations do not affect their share price much. Also, share prices of large-caps are pretty steep (with some as high as S$50), which may turn off investors who do not have that much investment capital. While large-caps are the cream of the crop, investors and traders may not want to own them. Because of their huge size, these companies find it difficult to move into new markets or take advantage of new, profitable ventures as quickly, and as flexibly as the smaller cap companies. Growth is slow and quick, astounding stock returns are unlikely. Using market cap as a stock filter can be very useful when first deciding to invest. This is as the general characteristics of the different classes cater to different profiles of investors, different risk appetites and different investment strategies and horizons. Although using market cap can greatly help in your investment decisions, it pays to ultimately be prudent in your decision, and analyze the company’s fundamentals fully before jumping in.
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