Introduction
Want steady income with a shot at explosive upside? These under the radar companies offer one of the most compelling combinations in the investment world steady cash payouts with the potential for significant stock price appreciation. Large cap stocks get the headlines but there are plenty of unique advantages that make such smaller players an underrated gem for investors looking to get an edge.
Small Cap Dividend Stocks
Small cap dividend stocks promise an interesting value proposition for investors who want a mix of both income generation and capital appreciation. While the big brothers among the large cap lot may get more eyeballs and these small companies have a few things going for them too—things that set them at a distinct advantage.
High Growth Potential
Small cap companies are generally younger and hungrier. Operating in niche markets or with disruptive technologies and they are better placed to grow explosively compared to established giants. This also goes on to mean that apart from increasing dividend payouts over time there will be significant stock price appreciation as the company gains market share and recognition.
Underrecognized gems
Because of their smaller size and many small cap stocks tend to be overlooked by larger institutions which may result in them trading at lower valuations than comparable large cap companies. The opportunity is created for investors to buy shares at an attractive price to maximize return on investment as that company’s true value is realized by the market.
Agility and Innovation
Unlike large companies and small cap companies are not bound by red tape. Hence they can be more agile and more responsive. They can quickly act on any change in market trends and come up with new ideas thus allowing them to enjoy a rather distinct advantage both in the marketplace and in disrupting whole industries. This type of agility could then be leveraged for higher margins and become fuel for further growth.
Niche Market Domination
Small cap companies very often strive for definite segments of the market. This approach and by focusing on a particular domain gives them in depth knowledge of the customer base and what their needs are. Such specialization could lead to higher brand recognition and customer loyalty and thus improving profitability and the sustained source of dividend payments in the future.
It instills discipline and efficiency
Small cap companies with limited resources are compelled to be more disciplined and efficient in their operations and which could have a leaner cost structure and greater focus on maximizing shareholder value. This efficiency focus reflects itself in higher profit margins that can be used to fund dividend payouts and further growth initiatives.
Yes and there are some risks involved in small cap dividend stocks but the potential rewards outweigh them. Understanding these advantages is key to making a good investment decision concerning if and how to introduce these unknown powerhouses into your portfolio.
Risks of Small Cap Dividend Stocks
While small cap dividend stocks offer an alluring blend of income and growth and one cannot help but be aware of the intrinsic risks involved. These companies are much more volatile than their large cap counterparts and involve a higher level of unpredictability in terms of future profitability. Here and we outline some of these
Higher Volatility
The micro cap market in general is always more volatile. On the one hand and their sizes and lower trading volume cause their prices to move more expansively compared to large cap stocks. This might be hair raising for some investors looking for stability and at times and might even bring gross losses if not managed properly.
Lower Liquidity
This simply means that since the reduced trading volume of small cap stocks may affect the liquidity and it could then imply some challenges entering or exiting positions quickly and especially in times of turmoil. Traders may be forced to hold onto their shares for a long time because selling them would force the price down further due to the lack of buyers than they would want to.
Limited Information
Small capitalization companies have very limited public information compared to large capitalization companies. This fact makes it difficult for investors to find enough research and knowledge about the financial health and prospects and competitive landscape of the company. A good deal more risk is associated with investments in these companies.
Dividend Sustainability
Companies may currently be paying dividends but there is no promise in the future. Small cap companies may have to major in reinvesting profits for growth and traditionally these are the kind of companies that have many cuts and cancellations. This can disappoint investors relying on it as an income stream.
Economic Downturn Susceptibility
In most cases small cap companies feature lesser financial capital and a reduced customer base compared to large caps and which generally places them in a more precarious position against economic downturns. This critically impacts their capacity to be profitable during recessions and therefore their capacity to be able to carry on paying dividends.
With that and after proper consideration of these risks and employing the right tools to limit the exposure to these risks the investor can now proceed to the interesting but dangerous place of small cap dividend stocks.
Small Cap Dividend Investing Strategies
One must have a thought out approach when making investments in small cap dividend stocks in order to make the returns very high with minimized risks. Following are some strategies that will help
Diversification
Geographic Diversification
If possible and broadening the base to invest in small cap dividend stocks of different countries would further diversify the portfolio and
Long term Investment Horizon
This is where patience makes all the difference.
In a long term investment however small cap stocks can often shine. By holding onto your investments long term and you smooth out the bumps in the market and jump on the compounding returns bandwagon.
Smoothing Volatility
Dollar cost averaging requires a fixed dollar amount of investment at regular intervals and independent of levels of share prices. This can significantly reduce the long term impacts on your investments and can be especially valuable when investing in small cap stocks.
Utilize Financial Advisors
Second and find an expert
You may want to hire an independent investment advisor who is an expert in small cap companies. These experts will help you understand and conduct detailed research and establish a broadly diversified portfolio that fits within your financial goals and risk tolerance.
Power of Reinvestment
Dividend investors have the ability to reinvest those dividends received back into the stock which and in due course and increase their holdings. This would considerably accelerate the process of building wealth with the option to compound returns.
Due Diligence
Before any investment in a small cap stock and carry out your own personal homework concerning the company’s current financial position and business model and competition and past history of dividends. Be aware of the risks and evaluate the company’s potential in terms of long term growth.
Set Stop Loss Orders
Stop loss orders can arguably be set to prevent massive loss if the stock price takes a considerable beating.
Rebalance Regularly
Revisit and rebalance your portfolio when needed to stay within your intended asset allocation.
By applying the above strategies and the chances of success will be very good for any investor in small cap dividend investing. However always remember that past performance does not guarantee future results and investment is always subject to some amount of risk.
Alternatives to Small Cap Dividend Stocks
Small cap dividend stocks are unique in their potential opportunities and that in no way makes them the only choice for any investor who is seeking both income and growth. Various other investment choices offer comparable or different benefits.
Large Cap Dividend Stocks
Less Volatility
Large cap companies are often more mature and financially stable and translate to less movement in price.
Predictable Dividends
Most large cap firms have paid dividends consistently for many years and translated to a more predictable stream of income.
Diversification
Instant diversification across a number of companies brings down the risk of investment.
Lower Costs
The expense ratios are usually lower when compared with mutual funds for most of the ETFs.
Liquidity
Since these are traded on exchanges and there is higher liquidity when compared with individual stocks.
Diversification
Mutual funds diversify across stocks similar to ETFs.
Higher Fees
The expense ratios of mutual funds are comparably higher than those for ETFs.
Real Estate Investment Trusts
Income Generation REITs offer an avenue for the production of regular dividend income.
Diversification
REITs will further diversify the portfolio beyond stocks and bonds.
Preferred Stocks
Higher Dividend Yields
Preferred stocks generally have a higher dividend yield than common shares.
Hybrid Security
One of the main characteristics of preferred shares is that it borrows from both stocks and bonds.
Less Volatile
Preferred shares tend to become less volatile as compared to ordinary shares.
Preservation of Capital
The investment in bonds is regarded as less risky as compared to stocks.
Income Focused Annuities
Guaranteed Income
Some annuities offer guaranteed income for life.
Tax Deferral
Contributions to annuities can grow tax deferred.
Early Withdrawal Penalties
There may be penalties associated with early withdrawals.
It is extremely important to weigh all pros and cons of each available option very carefully before deciding on the best one.
Conclusion
The small cap dividend stock space offers a very compelling case for investors seeking yield and growth. Beaten down in many cases and they offer robust return potential that may not always be on the radar of bigger investors and yet come at a cost investors are taking on extra risk.
While these stocks offer high returns it is important to view them with a long term approach and a well diversified portfolio. Factors such as volatility and liquidity and information availability come into the forefront. For the conservative investor it may be helpful to turn to large cap dividends and ETFs and or bonds.
Ultimately investing in small cap dividend stocks is a personal choice rooted in one’s individual financial goals and risk tolerance and investment horizon. Correct research and selection and discipline are definite things needed to be able to maximize the potential benefits while mitigating the associated risks of such an asset class.
Only by understanding the pros and cons can investors be better positioned to make informed decisions about the appropriateness of small cap dividend stocks within one’s overall investment strategy.
