Number Two Cap Section May Surprise You

Small Cap Value Investments – With a Focus

Our largest investments are in large cap value stocks. But our second-largest investment is in small cap value stocks. This is a portion of the market that is not captured if you focus on large cap index stocks like those in the S&P 500 index.

There are a couple of reasons that I believe having only a large-cap focus is short-sighted. First of all, there are many good mid-cap and small-cap and even micro-cap stocks. Secondly, large-cap stocks can and do grow, but the potential for faster growth is to be found in smaller companies. Those companies not only can grow, but they are often attractive targets of larger companies that want to beef up their product and service offerings. When that happens, the price received for my shares can and often does bounce significantly higher.

Small and micro-cap investing does involve more risk. Therefore, many just buy a small-cap ETF to cover that portion of the market in their portfolio. There are a couple of downsides to this approach. The first is that you will be paying the ETF manager every year for their work. The second is that the ETFs and mutual funds may contain rather undesirable investments. The plus is that you will have greater diversification but you will generally have to settle for a much smaller dividend yield.

Value, Blend, and Growth

Just like large-cap stocks and ETFs, there are small cap stocks that fit the value, blend, and growth models. And again, growth companies in this section of the stock market often do not pay a dividend. However, there are some value stocks that pay a remarkable dividend yield.

Small Cap Value Stock Analysis

Frequent readers know that I have often spoken about BDCs. As a reminder, BDCs are business development companies in the financial sector of the overall market. One thing to remember about these companies is that they invest in other companies, so they are almost like mini-ETFs or mini-mutual funds. They don’t charge an expense ratio, and often their investments are in companies that are not publicly traded.

Another risk associated with BDCs is that recessions and depressions are usually tough for smaller companies, including BDCs and the companies they work with. With greater risk, however, comes the potential for greater rewards.

Our Top Ten Small Cap Value Investments

Here are a couple of images to help you see our holdings in the small cap value realm. One shows all of the investments that meet the criteria I have set, and the second gives you a more focused view of the top ten. The top five are MAIN, CSWC, ABR (a REIT), GAIN, and OBDC.

Our Small Cap Value Investments sorted by amount invested.
Our Top Ten Small Cap Investments focus primarily on BDCs

Seeking Alpha Ratings and Metrics

If you examine the BDC investments using a watch list in Seeking Alpha, you will see that the QUANT ratings are quite positive for most of our BDC investments. If you have a weak stomach for market volatility, then stay away from these investments.

Seeking Alpha’s QUANT Rating is not a guarantee of success. But it helps with successful investing choices.
This is the Seeking Alpha view of the BDCs with Dividend Characteristics

Fidelity Watch Lists

If you don’t already know it, you can also create watch lists on the Fidelity website. I created one for the BDCs, and some illustrations follow.

Source: Fidelity Investment Watch List – notice the yields are very high.
Because of their very nature, most BDCs are Micro Cap or Small Cap companies.

Summary

A focus on large cap stocks and good quality bonds is often the advice some investment advisors give. They don’t want to introduce too much risk into a client’s portfolio. That means they often ignore REITs and BDCs. I think that is a mistake. However, be careful about your allocations. Just because small cap value stocks make up a significant portion of our retirement portfolio doesn’t mean you should do the same.