What are common advantages of investing in large cap stocks?
Most investors understand the importance of diversification through asset allocation within a portfolio, which is meant to balance out the risk and reward trade-off between equity, debt and cash holdings. Under the equity or stock positions within a portfolio, however, investors have a wide array of investment options, each with different characteristics, advantages and disadvantages.
A large-cap stock investment, defined as the stock of a company with a market capitalization of $10 billion or more, is common among both growth and value investors as a portion of an overall asset allocation. Large-cap, or big-cap, stocks have unique advantages for investors, including stability in size and tenure, steady dividend payouts to shareholders and clarity in valuations.
The greatest advantage to adding large-cap stocks to an investment portfolio is the stability they can provide. Because large-cap companies are so large and have a well-established reputation with consumers, they are less likely to come across a business or economic circumstance that renders them insolvent or forces them to stop revenue-producing operations completely. Companies that are considered small- or mid-cap do not have the same level of stability, and therefore carry a greater degree of risk than large-cap investments.
Another advantage to investing in large-cap companies is the potential for steady dividend payments. The stock prices for large-cap companies are not typically slated for high rates of growth over time because they are already well-established in the market. This can create a stagnant stock price and little-to-no capital appreciation for investors. However, despite the lack of rapid growth in terms of stock price, large-cap companies often pay dividends to compensate shareholders. These dividends can lead to impressive comprehensive returns for large-cap investors when they are added to the performance calculation over time. Large-cap stocks that pay steady dividends are common among income investors or those seeking income through relatively conservative investing.
Research and Valuation
Because large-cap companies often have a long business tenure, investors and creditors can easily obtain research on company operations and profitability levels. Publicly traded large-cap companies are required to provide shareholders and potential investors with accurate and periodic financial statements, allowing for ease in determining whether a company is worth the investment. In addition to research, company history and financial statements can be used in combination with current business activity to determine accurate valuation. These aspects play an important role in understanding the risk and potential reward of investing in a large-cap company.
Investors can use the Russell 1000 Index to find and evaluate large-cap companies, as this index compiles approximately 1,000 of the largest companies in terms of market capitalization operating within the United States. Large-cap investments can be purchased as individual shares of stock; through an exchange-traded fund (ETF) that tracks a large-cap benchmark; or through one of the hundreds of available mutual funds focused on large-cap investments.
Thank you for your question it is certainly a good one. You may have read or heard about market capitalization (also market cap), which is a the monetary value of a company. It is a simple calculation that involves taking the number outstanding shares, or the number of shares that are available to trade on the stock market, multiplied by the price of the stock. (As of this writing, Apple (AAPL) is the largest company from a market cap standpoint, but I only mention this as an example not as a recommendation.)
Since large cap stock are exactly that, LARGE, there are some advantages of being a large company:
- They are able to weather market turbulence easier due to their size – it’s much harder for a $10 billion company to go out of business than it is a $10 million dollar company, although it can happen
- They are typically diverse, as they usually generate revenue from more than one source
- Sometimes they are dividend payers and a stock holder of the company can receive a dividend payment
- There are instances where they repurchase their own stock (e.g. AAPL uses their funds to purchase their stock in the open market)
- It also can increase your proportionate ownership of the company (simply e.g. – 100 shares outstanding for a company, you own ten, or 10% of the entire company. The company repurchases 10 shares in the open market. Now you own 11% of the company without buying or selling)
- This tactic offsets shareholder dilution from options issued corporate executives (dilution this is the exact opposite of the above example above)
- Wall Street firms (Goldman Sachs, Wells Fargo, Deutsche Bank, Credit Suisse, Morgan Stanley, JP Morgan, etc..) will typically have more analysts covering these companies, as compared to smaller companies. As a shareholder you can read research reports and get news from these firms much more timely than smaller firms
- When the company releases news it is usually released via an official channel (press release) and disseminated to the public equally
Please note all of these statements are generalizations as each large cap company is unique and may or may not do some of the things mentioned. The companies named above are purely listed as examples and should not be viewed as investment recommendations.
If you need any assistance, please do not hesitate to reach out to me.
Robert J Leiphart, CFP®
Large-cap stocks tend to be companies that are established in their markets with long-term histories. Some feel this makes them “safer” to invest in.
Larger company stocks also often pay dividends, allowing you to capture some of the return of your investment, which some investors view as a benefit. Rather than keeping their profits and investing it back into themselves, they may not benefit as much from using the cash, so they distribute it to owners.
Smaller companies have benefits as well. They can add diversification benefits to traditional portfolios which tend to be market-capitalization weighted (they invest more in large-cap stocks to better represent their share in the market).
Smaller companies have more room to grow; an investment that a small company makes may double their revenue. Meanwhile, that same investment by a larger company may not make a noticeable difference.
Overall, you should invest in a mix of stocks that represents your time horizon and tolerance for risk, including both small and large company stocks across the globe.
Large cap stocks are stocks of companies which have large market capitalizations, typically over $10 Billion. They tend to be very established in their line(s) of business and highly diversified in their operations. The advantage which such companies have is that they tend to be less risky and more stable than smaller companies due to their breadth, size, and access to capital. The main disadvantage which these companies have is that they are unable to grow their revenues and earnings as rapidly as small companies. As an investor, having a portfolio which is diversified across many different asset classes is a good strategy to manage the risk of your portfolio. You should consult a financial advisor for assistance in designing and managing a portfolio which is in line with your investment objectives and financial goals.
Mostly stability. Large Cap stocks are stocks that have been around for a long time, have a lot of money, and a very effective business plan. These companies are ideal for laying the foundation of any serious investors portfolio.