Is it time to keep away from small cap stocks?
Having observed the markets over the years and the small cap space, in particular, there are a few things I would like to share about how investors should go about investing in small cap stocks.
There is never a good time to buy bad stocks
Investors are attracted to small cap stocks in their search for 'multibagger' investment opportunities. Let me tell you that the small cap space is indeed the right place to seek the big winners. But this does not mean that any small cap stock is going to make you rich. For every single money-multiplying small cap stock, there are dozens of value destroyers that can be a drabon your portfolio. You have to learn to separate the wheat from the chaff. If the business fundamentals of a company don't appear convincing enough, it is best to avoid it.
There is never a good time to buy expensive stocks
Investors, in general, have a tendency to invest when they see rising prices and optimism. And when the markets change course, even for a short while, they start looking the other way. This is classical pain avoidance tendency that causes investors to buy high and sell low. From my experience, I can bet that if the markets start rising again, investors will come back running to the markets. But let me tell you, nobody ever got rich buying expensive stocks. So the best time to buy is when there is mindless selling on the bourses.
Buy businesses, not sentiments
If you are relying on the so-called bull rally to make your millions, you could be heading for trouble. Sooner or later, investors will come back to their senses and dump companies that don't offer value. I have seen small caps skyrocketing in a matter of weeks. And I have seen them tumbling down in a matter of days. So if your small cap stock is not backed by a solid business, then it is something that you should be worried about.
The worst mistake - Portfolio misallocation
If you have been investing for a while, you know that there are going to be mistakes and misjudgments from time to time. Not all your investments are going to be rewarding. Some will be outright value destroyers and it would be best to exit them at the first sign of trouble. Some would be value traps. They wouldn't add much value to your portfolio. And then, there would be the winners. It is these stocks that would be your real wealth creators.
These things will appear crystal clear in hindsight. Until then, you would not know which one will be the hero and which one will be the zero. So the best way to go about investing in small cap stocks is to follow a portfolio approach. Adhere to strict allocation levels.
The last, little secret
Many investors have a tendency to sell their winners prematurely. This phenomenon is known as 'scalping'. At the same time, they hold on to the losers, waiting to 'recover' their cost price.
Do you know what really distinguishes the great investors from the rest? They have the ability to not only hold on to their winners, but also to add more as their conviction grows.
So, what you can do is when you find a prospective investment, don't invest the entire intended allocation all at once. Buy a partial amount first. Then track the business developments for a while. If you think the company is on shaky ground, you may want to exit the stock. But if your confidence about the company's prospects grows, keep making staggered investments when the prices are attractive. Over time, as your understanding of the company deepens even further and you still see value in the stock, you can increase your allocation to such solid companies.
Having observed the markets over the years and the small cap space, in particular, there are a few things I would like to share about how investors should go about investing in small cap stocks.
There is never a good time to buy bad stocks
Investors are attracted to small cap stocks in their search for 'multibagger' investment opportunities. Let me tell you that the small cap space is indeed the right place to seek the big winners. But this does not mean that any small cap stock is going to make you rich. For every single money-multiplying small cap stock, there are dozens of value destroyers that can be a drabon your portfolio. You have to learn to separate the wheat from the chaff. If the business fundamentals of a company don't appear convincing enough, it is best to avoid it.
There is never a good time to buy expensive stocks
Investors, in general, have a tendency to invest when they see rising prices and optimism. And when the markets change course, even for a short while, they start looking the other way. This is classical pain avoidance tendency that causes investors to buy high and sell low. From my experience, I can bet that if the markets start rising again, investors will come back running to the markets. But let me tell you, nobody ever got rich buying expensive stocks. So the best time to buy is when there is mindless selling on the bourses.
Buy businesses, not sentiments
If you are relying on the so-called bull rally to make your millions, you could be heading for trouble. Sooner or later, investors will come back to their senses and dump companies that don't offer value. I have seen small caps skyrocketing in a matter of weeks. And I have seen them tumbling down in a matter of days. So if your small cap stock is not backed by a solid business, then it is something that you should be worried about.
The worst mistake - Portfolio misallocation
If you have been investing for a while, you know that there are going to be mistakes and misjudgments from time to time. Not all your investments are going to be rewarding. Some will be outright value destroyers and it would be best to exit them at the first sign of trouble. Some would be value traps. They wouldn't add much value to your portfolio. And then, there would be the winners. It is these stocks that would be your real wealth creators.
These things will appear crystal clear in hindsight. Until then, you would not know which one will be the hero and which one will be the zero. So the best way to go about investing in small cap stocks is to follow a portfolio approach. Adhere to strict allocation levels.
The last, little secret
Many investors have a tendency to sell their winners prematurely. This phenomenon is known as 'scalping'. At the same time, they hold on to the losers, waiting to 'recover' their cost price.
Do you know what really distinguishes the great investors from the rest? They have the ability to not only hold on to their winners, but also to add more as their conviction grows.
So, what you can do is when you find a prospective investment, don't invest the entire intended allocation all at once. Buy a partial amount first. Then track the business developments for a while. If you think the company is on shaky ground, you may want to exit the stock. But if your confidence about the company's prospects grows, keep making staggered investments when the prices are attractive. Over time, as your understanding of the company deepens even further and you still see value in the stock, you can increase your allocation to such solid companies.
No comments:
Post a Comment