Small Firm Effect

AAA

DEFINITION of 'Small Firm Effect'

A theory that holds that smaller firms, or those companies with a small market capitalization, outperform larger companies. This market anomaly is a factor used to explain superior returns in the Three Factor Model, created by Gene Fama and Kenneth French - the three factors being the market return, companies with high book-to-market values, and small stock capitalization.

INVESTOPEDIA EXPLAINS 'Small Firm Effect'

The theory holds that smaller companies have a greater amount of growth opportunities than larger companies. Small cap companies also tend to have a more volatile business environment, and the correction of problems - such as the correction of a funding deficiency - can lead to a large price appreciation. Finally, small cap stocks tend to have lower stock prices, and these lower prices mean that price appreciations tend to be larger than those found among large cap stocks.

RELATED TERMS
  1. Fama And French Three Factor Model

    A factor model that expands on the capital asset pricing model ...
  2. Market Capitalization

    The total dollar market value of all of a company's outstanding ...
  3. Book-To-Market Ratio

    A ratio used to find the value of a company by comparing the ...
  4. Return

    The gain or loss of a security in a particular period. The return ...
  5. Small Cap

    Refers to stocks with a relatively small market capitalization. ...
  6. Ankle Biter

    Slang term for a stock with low market capitalization. An ankle ...
Related Articles
  1. Seven Market Anomalies Investors Should ...
    Investing Basics

    Seven Market Anomalies Investors Should ...

  2. Understanding Small- And Big-Cap Stocks
    Markets

    Understanding Small- And Big-Cap Stocks

  3. Market Capitalization Defined
    Insurance

    Market Capitalization Defined

  4. An Introduction To Small Cap Stocks
    Markets

    An Introduction To Small Cap Stocks

comments powered by Disqus
Hot Definitions
  1. Elasticity

    A measure of a variable's sensitivity to a change in another variable. In economics, elasticity refers the degree to which ...
  2. Tangible Common Equity - TCE

    A measure of a company's capital, which is used to evaluate a financial institution's ability to deal with potential losses. ...
  3. Yield To Maturity (YTM)

    The rate of return anticipated on a bond if held until the maturity date. YTM is considered a long-term bond yield expressed ...
  4. Net Present Value Of Growth Opportunities - NPVGO

    A calculation of the net present value of all future cash flows involved with an additional acquisition, or potential acquisition. ...
  5. Gresham's Law

    A monetary principle stating that "bad money drives out good." In currency valuation, Gresham's Law states that if a new ...
  6. Limit-On-Open Order - LOO

    A type of limit order to buy or sell shares at the market open if the market price meets the limit condition. This type of ...
Trading Center