Stocks and stock mutual funds are often grouped according to size, or "market cap," a term that represents the total dollar value of a company's shares.1 Market cap is calculated by multiplying a stock's price by the number of shares outstanding. For instance, if XYZ Corp. had a price of $25 per share and had 10 million shares outstanding, it would have a market cap of $250 million.
Most stocks can be categorized as small-cap, mid-cap, or large-cap. Large-cap stocks tend to be the stocks of well-established companies. They may have long track records and hold dominant positions in their industry. These companies often employee thousands of people and may provide some of the world's best-known products and services.
Although market-cap definitions can vary widely and change over time, Standard & Poor's currently defines large-cap stocks as those with market caps of $5.3 billion or greater.2
Because of their large size and resources, large-cap stocks are typically expected to weather the ups and downs of the business cycle better than smaller companies. This makes them potentially sound "building block" or "core" investment choices for many long-term investors.
Another potential advantage of large-cap stocks is dividend income. Dividends are the portion of a company's profits that are paid out to shareholders. Because total returns are based on not only the price appreciation of an investment, but also the reinvestment of capital gains and dividends, dividend income may help support returns during a declining or flat market.
Large-cap stocks can play a role in any investor's portfolio, but how much of a role will depend on your time horizon and your need for liquidity. If, for instance, you are an older investor, you may allocate more of your portfolio to large-cap stocks because they may offer income and the potential for growth to outpace inflation. Younger investors with longer investment horizons may rely more on small-cap stocks for their long-term growth potential.
While past performance is no guarantee of future results, history shows that small-cap stocks or stock funds have tended to outperform during the early stages of an economic expansion, while large caps have performed better in the later stages. Large caps have also tended to do better in rising rate environments, since they may depend less on external financing.
Mixing It Up
Many investors may want to maintain a mix of market caps in their portfolios. When large caps are declining in value, small caps and mid-caps may be on the way up and could potentially help compensate for any losses - effectively lowering overall portfolio risk and exposure to market shifts.
Of course, you should talk to a financial advisor to determine the best asset allocation for your financial situation.
Although common stocks have historically produced higher returns, they may subject principal to greater risks than other types of investments. The stocks of smaller companies may be subject to greater market-price fluctuations than the stocks of larger companies.
1. Investing in stocks and mutual funds involves risks, including loss of principal. Mutual funds are offered and sold by prospectus only. You should carefully consider the investment objectives, risks, expenses and charges of the investment company before you invest. For more complete information about any mutual fund, including risks, charges and expenses, please contact your financial professional to obtain a prospectus. The prospectus contains this and other information. Read it carefully before you invest.
2. S&P Dow Jones Indices, S&P 500® Fact Sheet, as of August 31, 2015.
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