Small Caps’ Unexpected Giddy-up

Sooner or later, the market is going to hit bottom. And when it does, you’ll want to be invested in small caps (companies with capitalizations of around $3.8 billion or less).

Since 1979, according to Ned Davis Research Inc., the small-stock Russell 2000 index has returned 19.6 percent in the first three months after a market bottom, against 13.6 percent for the large-cap Russell 1000.

The superior performance of small caps can last a lot longer than three months, too. When the last bear market ended in 2002, small companies dominated for three years.

Why do small-cap companies rebound better than bigger companies?

1. Small caps do well emerging from a bear market because they get pounded during a bear market. With less financial and market muscle than bigger companies, they have the reputation of not faring as well when the economy slows. Investors consequently flee to bigger and supposedly safer companies. So when the economy and market begin to look up, these maligned small companies need – and get – a bigger bounce just to get back to “normal” valuations.

2. Even modest boosts in sales can have a big impact on the revenues of small companies. That’s not the case with bigger companies.

I like small companies with growing international sales. They shouldn’t fall as much as other small companies during a bear market. Plus, when the market rebounds, they’ll get the benefit of growing domestic and international sales. For a small company, that can be more than enough to grow profits and see share prices rise.

Most stock search engines will let you cull companies by market cap. But to see what they have in international sales (if any), you have to dig a little deeper. Still, it’s not hard. Most companies will mention global sales in their profiles. One place to find a company’s profile is on its main page in Yahoo’s finance section.

[Ed. Note: Yes, the economy is sick and getting sicker. But that doesn’t mean your investments have to suffer. In fact, now’s your chance to get a piece of a $300 billion cash pile looking for a home. Continue reading here…]