Investors who take a chance on micro cap stocks can either reap huge rewards or lose their shirts by investing in higher risk play. Investing in this area is a tempting strategy, but it is not for everyone.

IN PICTURES: 20 Tools For Building Up Your Portfolio

It's hard to believe that less than a decade ago some of the household names in the exploration and production sector, including Southwestern Energy (NYSE:SWN) and XTO Energy (NYSE:XTO), were small cap names. Investors who bought these companies in the early days were rewarded greatly for their research. Several micro cap names, currently in the early stages of development, may represent home run stocks for investors who have the stomach for this type of higher risk investing. Although most of these stocks are up strongly since the market bottom in March 2009, they still have much room to run to get back to 52-week highs. (Read more in our Oil And Gas Industry Primer.)

Northern Oil & Gas (NYSE:NOG) is headquartered in Wayzata, Minnesota, a town that is not exactly known for being the epicenter of the energy industry. However, Northern Oil & Gas performs just fine for a company with acreage next door in North Dakota. The company has 70,000 net acres and, like so many other operators, targets the Bakken Shale, an oil bearing shale that is becoming very popular in the industry. The company just reported a loss in the quarter due to lower production and realized prices for crude oil. Northern Oil & Gas just secured a $25 million credit line and believes it is fully funded to develop its acreage in the Bakken Shale.

Kodiak Oil & Gas (NYSE:KOG) is active in the Williston Basin, which targets the Bakken Shale, and in the Green River basin in Wyoming, where the company is developing the Baxter Shale. The company is jointly developing its acreage with Devon Energy (NYSE:DVN), a larger exploration and production company with extensive North American assets. Joint development is a common strategy for smaller companies in the sector that may lack the financial and other resources to develop properties on their own. Kodiak drilled four wells with Devon Energy in 2008, but is delaying completion until prices recover. Kodiak just issued equity in a secondary offering and raised $7.15 million with which to develop its properties. The company reported a loss in the first quarter of 2009, but had no debt. (For more, read Become An Oil And Gas Futures Detective.)

Rex Energy (Nasdaq:REXX) has 65,000 net acres in the Marcellus Shale in Pennsylvania and will commit 70% of its $49 million capital budget to this area in 2009. Rex Energy recently had its borrowing base of $80 million reaffirmed by its lenders. This means that the banks investigated the company's reserves in the context of a future price of oil and gas and decided to maintain the previous credit line. Rex has to pay a higher interest rate, but it presently has only $5 million borrowed.

Bottom Line
The micro cap stocks of today may one day become the large caps of tomorrow, with the key obviously being picking the right ones. Investors can start the search by focusing on micro caps that aren't overly leveraged, with properties in well-known resource basins that are being developed by their larger cap peers. (For more, see Fueling Futures In The Energy Market.)

Related Articles
  1. Investing Basics

    What is the Theory of Backwardation?

    Backwardation occurs when the futures price of a commodity is lower than its market price today.
  2. Mutual Funds & ETFs

    ETF Analysis: U.S 12 Month Natural Gas

    Learn about the United States 12 Month Natural Gas Fund, an exchange-traded fund that invests in 12-month futures contracts for natural gas.
  3. Mutual Funds & ETFs

    ETF Analysis: PowerShares DB Commodity Tracking

    Find out about the PowerShares DB Commodity Tracking ETF, and explore a detailed analysis of the fund that tracks 14 distinct commodities using futures contracts.
  4. Insurance

    5 Ways to Lower Life Insurance Premiums

    Learn several effective methods for lowering life insurance premiums. These include quitting smoking and considering term life insurance.
  5. Budgeting

    The 7 Best Ways to Get Out of Debt

    Obtain information on how to put together and execute a plan to get out of debt, including the various steps and methods people use to become debt-free.
  6. Stock Analysis

    Net Neutrality: Pros and Cons

    The fight over net neutrality has become an amazing spectacle. But at its core, it's yet another skirmish in cable television's war to remain relevant.
  7. Investing Basics

    Understanding the Spot Market

    A spot market is a market where a commodity or security is bought or sold and then delivered immediately.
  8. Personal Finance

    A Day in the Life of an Equity Research Analyst

    What does an equity research analyst do on an everyday basis?
  9. Mutual Funds & ETFs

    ETF Analysis: PowerShares S&P 500 Downside Hedged

    Find out about the PowerShares S&P 500 Downside Hedged ETF, and learn detailed information about characteristics, suitability and recommendations of it.
  10. Mutual Funds & ETFs

    ETF Analysis: ProShares Large Cap Core Plus

    Learn information about the ProShares Large Cap Core Plus ETF, and explore detailed analysis of its characteristics, suitability and recommendations.
RELATED TERMS
  1. Implied Volatility - IV

    The estimated volatility of a security's price.
  2. Plain Vanilla

    The most basic or standard version of a financial instrument, ...
  3. Cost Accounting

    A type of accounting process that aims to capture a company's ...
  4. Equity

    The value of an asset less the value of all liabilities on that ...
  5. Derivative

    A security with a price that is dependent upon or derived from ...
  6. Internal Rate Of Return - IRR

    A metric used in capital budgeting measuring the profitability ...
RELATED FAQS
  1. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  2. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  3. How do futures contracts roll over?

    Traders roll over futures contracts to switch from the front month contract that is close to expiration to another contract ... Read Full Answer >>
  4. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  5. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  6. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>

You May Also Like

COMPANIES IN THIS ARTICLE
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!