The advantages of investing in microcaps

Although past returns never guarantee futures ones, several studies (1) have shown that microcaps tend to outperform large capitalisation companies over the long term. We identify two main reasons for this outperformance:

  • First of all, given their small size, microcaps are structurally less accessible to professional investors with large sums of money to invest. Indeed, most investment funds must invest in mid and large capitalisations because they are the only market segments where they can invest large amounts. The result is a more inefficient microcaps market segment in which the competition is less fierce.
  • Then, microcaps stocks generally offer little liquidity. Liquidity is the ability to buy or sell securities quickly, inexpensively and without having a significant effect on their price. This characteristic is generally sought by stock investors. Therefore, there is a yield premium to compensate investors who choose to invest in less liquid securities such as microcaps.

These two characteristics represent for us great advantages and they can allow us to find exceptional opportunities well before other actors in the market do consider them.

(1)  For example, the following studies: Liquidity as an Investment Style – Roger G. Ibbotson, Zhiwu Chen, Daniel Y.-J. Kim, and Wendy Y. Hu (2016) et Common risk factors in the returns of stocks and bonds – Eugene F. Fama and Kenneth R. French (1993)