2020 has been a year full of uncertainty, and the stock market has reflected that. Some stocks have skyrocketed while others plummeted, and overall performance has proved difficult to predict. While this uncertainty persists, small caps have emerged as a potential safe haven for investors.
Small cap stocks are those with a market cap of $300 million to $2 billion. Since they represent smaller companies, you may be uncertain of their future, especially given the ongoing pandemic. Despite this risk, recent signs suggest that it may be a good time to invest in small caps.
Here’s a closer look at why small caps could help investors right now.
Growth Disproportionately Benefits Small Caps
The stock market has suffered throughout 2020, but it’s shown bullish performance lately. As elections results became more conclusive, investing has risen, fueling growth that had declined amid previous uncertainty. The Dow Jones and S&P 500 both reached record highs as Pfizer announced a 90% effective COVID-19 vaccine.
Strong market growth like this benefits all stocks, and small caps typically benefit more than most. An identical monetary change will affect small caps more since they’re smaller. So even as the overall market increases at the same rate, that growth represents a more substantial change in small caps.
Historically, small caps outperformed large caps by 15% in the first year of a bull market. These stocks recover faster than larger ones, so as the economy improves, they’ll grow first. As markets emerge from the COVID recession, small caps will rebound sharply, offering needed early growth.
Political Shifts Might Favor Small Caps
You can’t discuss the stock market’s recent performance without mentioning the election. As mentioned earlier, clearer results improved investing confidence, but that’s not the only way the election affects stocks. Joe Biden’s victory could lead to better small cap performance, and markets are already reacting accordingly.
A shift towards Democratic control could likely mean increased government spending on economic recovery. While Donald Trump and fellow Republicans have recently postponed talks over a second stimulus bill, Democrats have voiced favor for quicker action and more spending. This trend suggests that a second wave of stimulus actions is coming, which would help support smaller businesses.
These government stimulus packages affect small companies more substantially than larger ones, fueling small cap stock growth. You can already see this trend starting to take place as investors anticipate increased government spending. The Russell 2000, which tracks small cap stocks, recently rose by 3.6% while the S&P 500 fell 1.6% during the same timeframe.
Prolonged Uncertainty Emphasizes the Importance of Diversification
Overall, the future of the stock market remains uncertain. During a potentially volatile time, your best resource as an investor is a diversified portfolio. Small caps can provide that diversification, offering resilience amid ongoing uncertainty.
Small and large cap stocks have complementary strengths and weaknesses. Smaller businesses have advantageslike being able to delay tax payments but are also more volatile. Large corporations can weather substantial economic changes better but may offer comparatively smaller returns.
By investing in both, you ensure that you’ll stay safe no matter what market conditions look like. Since 2020 has been such a tumultuous year, it emphasizes the need for this diversification. Small caps, especially given their recent performance, may be an ideal option for diversifying your portfolio.
Investing in 2020 Can Be Challenging
Investing has never been an easy undertaking, but this year has been more challenging than most. As the pandemic continues and political bodies change, 2020’s uncertainty will likely remain in 2021. As an investor, you need a safe haven amid these questions, and small caps can offer one.
The future is still unclear, but it looks bright for small caps. It may be time to add a few to your portfolio.
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