Small-cap stocks, or stocks of companies with a market capitalization of under $2 billion, and large-cap stocks, or stocks of companies with a market capitalization of over $10 billion, are two different types of stocks that investors can choose from. Each type of stock has its own unique characteristics and can offer different returns and risks. In this article, we will discuss the long-term performance between small-cap stocks and large-cap stocks.
Historically, small-cap stocks have outperformed large-cap stocks over the long term. According to data from Ibbotson Associates, small-cap stocks have had an average annual return of 12.4% from 1926 to 2018, while large-cap stocks have had an average annual return of 10%. This indicates that small-cap stocks have had a higher potential for returns over the long term.
One reason for this outperformance is that small-cap companies have more room for growth than large-cap companies. Small-cap companies are typically in the early stages of their development and have a higher potential for growth compared to large-cap companies that have already established themselves in the market. Additionally, small-cap companies are less well-known and have less analyst coverage, which can lead to undervaluation and a higher potential for returns.
However, small-cap stocks also tend to be riskier than large-cap stocks. Smaller companies are more vulnerable to market downturns and economic recessions, and their financial performance can be more volatile. Additionally, small-cap companies are more likely to be affected by changes in their industry or by regulatory changes.
Large-cap stocks, on the other hand, tend to be more stable and less risky than stocks with smaller market caps. Large-cap companies are more established and have a track record of consistent financial performance. They also tend to have a more diversified revenue stream and a larger market share, which can provide a buffer against market downturns.
“According to Aswath Damodaran, historically, small-cap stocks have outperformed large-cap stocks during periods of high inflation, such as the 1970s. It appears that small-cap companies have more flexibility to adjust to inflation. In a podcast he explained, “the more established you are as a company, the more your business model has already been set, the more adjustment is involved when inflation hits you, because you got to change the way you do business.”
In conclusion, small-cap stocks have historically outperformed large-cap stocks over the long term but tend to be riskier. Large-cap stocks tend to be more stable and less risky. Investors should consider their risk tolerance and investment goals when deciding whether to invest in small-cap or large-cap stocks. It’s always important to consult with a financial advisor or professional before making any investment decisions.
