INVESTING TERMS
What is
SMALL
Small cap is an investing term used to classify companies with a market capitalization between $300 million and $2 billion.
Deeper definition
At the most basic level, there are two kinds of stock: preferred and common. Preferred stock is rarer than common stock, generally comprising a small proportion of all shares. It’s often more expensive, and can come with a minimum purchase amount.
Example of small cap
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SMALL CAP?
One of the biggest benefits of small-cap stocks is the advantage they offer individual investors compared with institutional investors. Because mutual funds have such large portfolios, they need to invest large blocks of money to meaningfully impact their portfolio.
SHORT-TERM
CAPITAL GAINS
Profits made from selling assets owned for one year or less.
LONG-TERM
CAPITAL GAINS
Profits made from selling assets owned for more than one year.
Jeff bought a vacation home for $100,000 and used it as a rental property for five years before selling it for $150,000, giving him a capital gain of $50,000.
Since he owned the property for more than one year, he calculated his long-term capital gain based on his tax bracket.
Since his annual income placed him in the 15 percent tax bracket ($37,651 to $91,150 for a single person in 2016), he didn’t have to pay any taxes on the profit.
If Susan pays only the minimum payment of $20 per month, it will take her 11 months to pay off her balance.
EBITDA doesn’t need to be measured by the Securities and Exchange Commission’s accounting standards, the Generally Accepted Accounting Principles (GAAP), so it is not a required line item on a company’s financial statement. EBITDA has become much more common in recent years, although many firms list an adjusted EBITDA figure.
A corporation that produces virtual reality equipment has 30 million outstanding shares and the current share price is $41 per share. Therefore, its market capitalization is $1.23 billion. Most brokerages would consider the company a small-cap corporation. Because this small-cap company is still relatively small, it has the potential to increase its earnings per share at a much faster rate than its large-cap competitors. However, it also has less cash than its large-cap competitors to get through difficult times.
Before the proliferation of
inexpensive computer
technology, it had been very
difficult to create and price
complicated derivative contracts, but this problem was more or less solved by the 1990s, thanks also to the Black-Scholes equation. Mortgage-backed securities became very common investment products. Instead of using derivatives to effectively balance risk, institutional traders began buying them up as ways to create leverage and take on much more risk. When the U.S. housing market began to crumble in 2006 and 2007, MBS investments spread throughout the banking system began to rapidly lose value, precipitating the crisis.
MARKET CAP
VALUE
OUTSTANDING SHARES
SHARE PRICE
OF THE STOCK
When a company issues more shares, the price of an individual share falls. Anti-dilutive preferred stock allows investors to receive more shares of a stock than he original paid for in the event that his are worth less as a result of a dilution.
The measure can be calculated by taking a company’s net income and adding back interest expense, taxes, depreciation, and amortization. Alternatively, it can be calculated by taking a company’s operating profit — EBIT, or earnings before interest and taxes — and adding depreciation and amortization.
Susan opens a credit card with a $1,000 credit limit and an interest rate of 14.99.
She makes a purchase of $200.
Susan understands she will pay interest on the balance until she pays it off, but she decides to carry a revolving balance.
If Susan pays only the minimum payment of $20 per month, it will take her 11 months to pay off her balance.
If shares of Dynaco rise
above $150, the buyer of
the options wins and
Englebert is obligated to
sell 100 shares to the
holder for $150. But if they
never hit the strike price of $150, Englebert wins and gets to keep the $200 premium the buyer paid. If shares of Dynaco get closer to the strike price of $150, the buyer can resell the option and make a profit off his speculative bet, but if shares of Dynaco decline — widening the spread between the strike price and the underlying asset price — the price of the option falls.
$100 million
$2
$20 million
$10 million
– Minus
PRICE PER SHARE
EXPENSES
Equals =
$30 million
NET PROFIT
>$10B
A company’s market capitalization is determined by the value of its outstanding shares. Multiplying the company’s current share price by its outstanding shares equals its market capitalization.
x
=
$10 Billion
PRICE/SHARE
MARKET CAP VALUE
NOT A LARGE CAP COMPANY
OUTSTANDING SHARES
PRICE/SHARE
MARKET CAP VALUE
A LARGE CAP COMPANY
=
63,000,000
$200
$12.6 Billion
Convertible preferred stock can be exchanged for common stock, but not vice versa.
Convertibility:
Anti-dilution:
Small-cap companies have
fewer outstanding shares
than large-cap companies.
When mutual funds initiate
the purchase of a large
percentage of a small-cap
company’s stock, this often
triggers SEC filings, which
becomes public record. When the public learns about the mutual fund’s intention to purchase the stock, more people buy the stocks, making the stock less attractive to the mutual fund.
The shareholder has the right to redeem her shares for a predetermined amount called a call price.
Callability:
SMALL
CAP?
$300M–$2B
MARKET CAP
VALUE
OUTSTANDING SHARES
SHARE PRICE
OF THE STOCK
Small-cap stocks offer a high risk/high reward profile. It’s much easier for small-cap stocks to increase their profits at a higher rate than large-cap companies. While these stocks have historically outperformed large-cap stocks, small-cap stocks can be more volatile and often lack the economic resources to endure downturns. Because small-cap stocks have fewer shares in the market, price movements can sometimes be exaggerated compared with large-cap stocks. Small-cap stocks may appeal to investors who have a higher tolerance for volatility.
OUTSTANDING SHARES
PRICE/SHARE
MARKET CAP VALUE
A SMALL CAP COMPANY
=
30,000,000
$41
$1.23 Billion
