One particularly popular strategy used by asset allocation investors is to divide their stock investments into different “piles” based on market capitalization. (If you are a new investor, you may not know what market capitalization is. Market cap, as it is often called, is the price it would take to buy 100% of all of the outstanding stock in a company at the current market price. For instance, Coca-Cola currently trades at $57.68 per share. There are approximately 2,317,267,684 shares of stock in existence. To buy every share at the current market price would cost $133,660,000,000. So, $133.66 billion in the market capitalization of Coca-Cola.)
Small Cap, Mid Cap, Large Cap, Micro Cap … What’s It Matter?
A century of research by esteemed firms such as Ibbotson & Associates shows that smaller capitalization stocks generate far higher returns over long periods of time. Yet, due to their relatively smaller size, they are far less stable, often experiencing higher highs and lower lows than their larger counterparts. That means that most investors don’t have the emotional strength to be exposed to that kind of volatility, even if it means they have a better chance, based on historical evidence, of growing wealthier. So what do they do? They balance the strength of blue chip large cap stocks, strong mid-cap, and high-growth small cap and micro cap stocks.
Although there are no hard and fast rules, most asset allocation experts tend to divide market capitalization asset classes as follows: