The Cap Factor

The stock market can seem daunting to most people that are beginning to get more involved in investing or understanding the investments they already have. The financial world has an endless amount of jargon that is used to describe investments and their attributes. Our goal is to make investing approachable to all, beginning by breaking down some of this jargon so you can navigate the financial world with confidence.

Just like everything else in our world from clothes to fruits, stocks are categorized into many different groups based on several different attributes. The size of the company is one of the first groups that stocks are piled into. The size of the company is referred to by the term “market capitalization size” or “cap size” for short. A company’s capitalization is the total value of all the shares of that company that are available to investors. For example, let’s say ABC Co. is a publicly traded company on the stock exchange. ABC Co. has 1,000,000 shares available to investors at a price of $100. By simply multiplying the price by the number of shares, we can conclude that ABC Co. has a market capitalization of $100,000,000.

Now that we know what cap size is, what does it tell us? Companies tend to get placed into one of 3 or 4 different groups based on their size: small cap, mid-cap, large cap, and occasionally mega cap is also used. The significance of these groups is that each group carries different characteristics from the other groups and the companies inside each group tend to have many similar traits. Let’s look at small caps as an example. Most small cap companies are young and still trying to find their path to growth. The uncertainty of their future will often bring larger swings in price than bigger companies, the potential for higher returns if they find a successful growth strategy, but also larger losses if they fail. In contrast, large cap companies tend to be mature, well-known companies that are established in their industry and have found success. They tend to carry less risk and may pay dividends to their shareholders.

There are many ways to evaluate and describe stocks, their market capitalization is just one of them. Although you cannot decide on whether an investment is appropriate based solely on cap size, it is important to take into consideration given the unique characteristics of each group. Over the long run, stocks can help grow your investments, but as always, it is important to analyze your particular financial situation before investing to ensure that an investment is appropriate for you and your plan.

- Shane Fagan, CIMA®, Worley Erhart-Graves Financial Advisors