The Case For Small Caps

By Gregory S. Davis | August 28, 2008 AAA

Smaller companies with less red tape can make fast and effective decisions, but after a recession they are also expected to perform better than large-capitalization companies with familiar names like AT&T (NYSE:T). Theories to support this notion of enhanced performance of small caps include a lack of analyst coverage and the sway institutional investment action can have on their stock prices. The result is that smaller less well-known companies like coal miners Alpha Natural Resources (NYSE:ANR) or Walter Industries (NYSE:WLT) can perform well, but remain under most investors radar. Taking a closer look at ETFs and a small-cap-focused fund will help investors find their place in the small-cap arena.

Small-Cap Investment Options
- YTD 3 - Year
iShares Russell 2000 Index
(AMEX:IWM)
-4.12% 9.90%
Keeley Small Cap Value Fund
(NASDAQ:KSCVX)
2.42% 12.17%
SPDRS S&P 500 Index
(AMEX:SPY)
-12.36% 4.47%
Data as of market close August 24, 2008



Small Caps Defined
AT&T has a market capitalization of $180 billion, while the less-known Alpha Natural Resources has a market capitalization of $7.03 billion. Investors should not let size alone blind them from seeing a good investment. Both coal miners mentioned above have posted triple digit returns since the beginning of the year. An investor has to take the time to do the research required to unearth similar investment opportunities that traditional media outlets are likely to ignore. (Read Small Cap Research Can Have Big Impact to see how not to rely on Wall Street analysts for information on these stocks.)

Have an interest, but short on time
When interested in an asset class, but crunched for time investors should go with an index. The iShares Russell 2000 Index (AMEX:IWM) gives investors immediate exposure to a wide range of small-cap companies. It's a great way to help investor take the guess work out of figuring out which companies are small caps worthy of their investment capital. (To learn more, read our Index Investing Tutorial.)

Looking for a Small-Cap Money Manager
The Keeley Small Cap Value mutual fund is run by John L. Keeley Jr., who is the founder of Keeley Asset Management. Part of the firm's investment philosophy is to seek out companies that are undergoing internal corporate restructuring. The fund is currently heavily focused in industrial materials and energy. Alpha Natural Resources and Walter Industries are the fund's current top two holdings. The fund has outpaced the iShares Russell 2000 Index and the SPDRS S&P 500 Index over the previous three years. Investors should pay attention to expenses before investing, though, and consider choosing between the load versus the no-load fund options.

Final Thoughts
When building a portfolio, investors should consider making the small cap asset class a part of their investment mix. Besides outpacing the SPY since the beginning of the year, the returns noted above also suggest that small caps can perform well over extended periods of time.

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