Caroline Ritchie explains market capitalisation, so you can decide which type of equity investment is right for you.

Market capitalisation, known in the investment business as ‘cap’, is the number of outstanding shares a company has, multiplied by the price at which those shares are trading. It gives investors a snapshot of the overall size of a company. Market capitalisation is also a measure used by investment analysts to describe the overall value of a company.

The different market cap levels

The table below summarises the market cap levels.

If the cap fits

Different cap levels offer investors varying opportunities and risks. At face value, huge values could suggest lots of success and low values a lack of it. But there is more to market capitalisation than just a number. Always remember that the cap reflects the company’s share price – one of the most subjective things on earth! However, as a rule the various caps do have some characteristics and attractions that distinguish them.

What large caps offer

Large companies, for example, are traditionally stable, offer good dividend flows, and are well covered by research companies.

They may have been in business a long while and they’ve shown they can stand the test of time and survive the highs and lows. Think Microsoft, Johnson & Johnson, or Coca-Cola. Local examples of large caps are Contact Energy, Fletcher Building, and Auckland International Airport.

Large companies are more likely to be household names and provide goods or services that have become everyday staples. For these traditional industries, having a large cap has been associated with less risk and a more conservative investment. However, the tech sector is the best example of the exception to that rule.

The appeal of small caps to investors

Owning small cap companies is usually associated with higher risk, but potentially higher rewards. The small businesses, like the large, are that size for a reason. Is it because they are a new start-up, with recently issued shares? Or are they at the bottom of the ladder for a reason – bad decisions or poor business models?

The consideration for investors is that many monster success stories start as minnows. So we want all the future winners, but not the losers. Welcome to the share market!

Small caps can offer faster growth than may be found in the mature businesses that occupy the upper end of the market. They are also more likely to be in niche sectors or emerging business areas where the large caps are not present.

New Zealand is a drop in the ocean

The entire New Zealand share market – all 177 listed items – is worth just NZ$119 billion.

Our biggest listed company is Spark New Zealand Limited, valued at around NZ$6.65 billion, and substantial in Kiwi terms. In comparison, Apple and Alphabet in the US are currently fighting it out to be the world’s largest company.

In New Zealand, it’s critical we encourage small caps to list and thrive. The New Zealand Stock Exchange (NZX), which manages our ‘main board’ (share market for mid and large caps), has set up a separate exchange called the NXT. This is a marketplace that encourages small and emerging companies to go public by reducing the complexity usually associated with listing.

A robust portfolio will contain a mix of cap sizes, depending on the risk tolerance of the investor.

MICRO & SMALL CAPS

• Can offer the highest future growth in newest industries.

• But may be risky new start-ups or unproven businesses.

• Prices can be volatile, and liquidity may be thin, meaning a smaller number of traders and transactions. So shares can be hard to buy or sell.

• Often ignored or not covered by analysts.

• Unlikely to pay dividends.

New Zealand examples: Trilogy International, Comvita, Vista Group

MID CAPS

• Often overlooked, can be the ‘sweet spot’ for share investors.

• Can offer lower volatility than small caps, but higher growth than large caps.

• Analysts and banks, having seen the track records, are more interested.

• Less coverage from analysts than on very big stocks, which can mean more opportunity.

• Higher survival rate than micro and small caps.

New Zealand examples: Metlife Care, Z Energy, SKYCITY

LARGE CAPS

• Mature industries, more stable businesses, and proven cash flows.

• Well covered by analysts.

• Have access to investment funding to fuel growth.

• Likely to pay dividends.

• Raising further capital much easier at this size.

• Household names, lower risk investments.

New Zealand examples: Auckland Airport, Spark New Zealand, Fletcher Building

MEGA CAPS

• Global reach, world-beating. When only the biggest stocks will do.

• Technology features heavily.

• There for a reason – usually have a big, sustainable competitive advantage.

• Massive visibility and everything you could want to know is in the public domain.

• But beware… the higher they rise, the harder they fall! (Think Enron.)

New Zealand examples: None. So in the US, Facebook, Amazon, General Electric

First published 18 November, 2016

By Caroline Ritchie

The editorial below reflects the views of the editorial contributor only and content may be out of date. This article is sourced from a previous JUNO issue. JUNO’s content comes from sources that it considers accurate, but we do not guarantee that the content is accurate. Charts are visually indicative only. JUNO does not contain financial advice as defined by the Financial Advisers Act 2008. Consult a suitably qualified financial adviser before making investment decisions.