Over the last week or two, CNBC coverage has focused a lot of its time on the large cap versus small cap debate. Dozens of professionals have been dragged on air to give the arguments for why they think large caps will outperform in 2006, and an equal number to make the opposite case for small caps.
Please ignore these conversations. Investing in equities should not focus on such a debate. The point of investing in public companies (or any company for that matter) is to get a good deal; to buy something that you feel is undervalued now and will ultimately be worth more in the future. Looking at company-specific issues is how you should go about doing this.
Focusing on how big a company is has nothing to do with the potential for it to be a good investment. Now I know many investors are of the “passive” type and only buy indexes. In determining how to allocate their funds, they will try and figure out which of the many asset classes they should overweight and underweight, small cap value, large cap growth, and the list goes on.
Passive investors will spend time looking at the valuation disparity between large cap and small cap stocks, compare their growth outlooks on the whole, and try to figure out which one is the relative bargain. Rather than simply guess how well a set of hundreds of companies are going to fare collectively, I think it’s a much better use of one’s time to get to know a handful of companies really well and determine if they represent good value.
Whether we’re talking about micro caps, small caps, mid caps, or large caps, there are always going to be great investment opportunities in each segment of the market. Buying an entire asset class is really nothing more than speculating, given that you aren’t really analyzing whether or not any of the companies in that large subset are actually good investments or not. I’d be willing to bet you’ll be more accurate predicting relative value of individual companies than you will entire indexes based on company size.