Microcaps have explosive wealth-generating potential … but their volatility requires caution. Here are the numbers behind everything

 

A big thanks to everyone who joined Matt McCall this past Wednesday at his Microcap Millionaire event.

We had an amazing turnout — over 10,000 people — to hear Matt discuss one of the most potentially-lucrative, overlooked corners of the stock market. Matt shared details on his Microcap Millionaire Portfolio — his nine favorite microcap investment ideas for 2020.

We’ve had lots of follow-up interest in microcaps, so today, I want to pull back the curtain a bit more.

You see, no other area of the stock market offers the potential for such huge gains. At the same time, investors need to tread carefully. That’s because the microcap sector is filled with tiny companies, some of which won’t go anywhere … or could even lose money.

Stepping back, I’m a conservative investor at heart, so when I hear about the potential for huge gains, my kneejerk reaction is “what’s the catch?”

The microcap space is absolutely where to turn for huge gains, so today, let’s tackle the “catch” part of the equation. If you’re like me, I suspect you’ll conclude that there is absolutely a place in your portfolio for hand-selected, top-tier microcaps.

***How to construct your team

 

Let’s say you’re a baseball manager looking to draft a team.

You’re trying to decide between Player A and Player B.

More times than not, Player A gets a hit when he’s up to bat. But the hit usually just gets him to first base. Maybe second base every now and then.

Player B? He strikes out more than Player A. But when he connects with the ball, watch out. It’s usually homerun — or at least a triple.

As a manager, which player do you want?

As an extension, as the manager of your portfolio, which stock do you want? The 6%-7% per year single, or the 100%+ homerun? (Or 1,000%+ homerun?)

Well, we don’t have to choose one or the other.

One of the basic tenants of wise investing is to construct a balanced portfolio. For example, you have some offensive positions, some defensive positions, one asset class that zigs when a different asset class zags, some safe haven investments, blue chips, a few swing-for-the-fences smart speculations …

The right mix of these various portfolio ingredients is relative to the specific investor and his/her unique financial situation. But for most average investors, it makes sense to anchor our portfolios in solid, proven stocks that should grow at a modest, but healthy pace over the years — these are our singles and some doubles.

But that in no way means we shouldn’t swing for a few homeruns, since nothing has the potential to transform a portfolio like, say, an early Microsoft investment.

Early investors who saw the potential there could have made over 9,000% during the 1990s. That type of gain turns every $5,000 invested into $450,000.

But as noted earlier, investors must navigate the microcap area with respect. That’s because many microcaps won’t go anywhere — or may even lose value. And that’s the tradeoff — while some top-tier microcaps will turn into the next Microsoft, making their investors literal fortunes, a great many other microcaps won’t go anywhere.

That’s your catch. It’s also why it’s so important to have some help when navigating the microcap space — someone who has done the research to determine which microcaps have the best potential for massive gains.

But enough vague, theoretical rambling from me. Let’s dive into some numbers so you can see for yourself.

***The math behind microcap homerun potential

 

A study from Decoding Markets compared microcaps (using the Russell Microcap Index) to the S&P 500, and S&P 1500 over the period from summer 2008 through January 2019.

What the study revealed was that the average microcap return trailed the average S&P 500 and S&P 1500 returns.

Here are those details:

Russell Microcap — 43.33%

S&P 1500 — 114.29%

S&P 500 — 123.67%

So, what’s behind this underperformance?

Well, as we noted earlier, many of the stocks in the microcap space were flat, or actually lost money. That pulled down the average.

And that’s the reality when you’re dealing with tiny companies, many of which are still trying to establish market share, or bring a new product to market.

To get a better feel for this underperformance, let’s look at each index’s “win rate” — in other words, how many stocks in the index were profitable during the studied period.

Here’s what we find …

Russell Microcap — 44.52%

S&P 1500 — 70.80%

S&P 500 — 73.88%

Now, you might look at this and say “less than half of microcaps were even up? Why would I want to invest here?”

Because of the homerun potential …

 

***The staggering outperformance of elite microcaps

 

In the study, the biggest winner from the microcap universe was Pharmacyclics (PCYC). It produced a staggering return of 19,396.27%.

The tiny biotech was bought out by AbbVie in 2015 for $21 billion.

Investors who took a $10,000 gamble on PCYC in July 2009 would have ended up with almost $2 million by the time the company was bought out in 2015.

According to the study, there were nearly 20 microcap stocks that gained more than 1,000% during the period, as you can see below.

 

***We saw this same microcap outperformance repeated last year

 

Though the study above ended in 2019, the microcap outperformance didn’t.

Below is a chart Matt recently sent to his subscribers. It shows the highest-returning stocks of 2019. With one exception, they’re all microcaps.

Be sure to note how they compare to the top-returning Dow, S&P, and Nasdaq stocks.

 

 

So, back to the tradeoff …

Do you want a greater certainty of owning a stock that’s going to have a positive return — call it, a single? Or are you willing to accept a lower certainty of “getting on base,” but the tradeoff is you could be getting that homerun?

Again, it’s not an either/or situation. With wise asset allocation, investors can have both.

 

***Plus, there’s an additional step that wise microcap investors take to increase their safety — using the “basket” approach

 

With the basket approach, you spread your investment capital over a broad portfolio of microcaps, rather than just two or three. When you do this, just one monster return can more than make up for all the other not-so-great investments.

Let’s look at an exaggerated example …

Say it’s January 1 of last year. You pick a basket of 10 microcaps.

Five of the 10 return nothing — so, 0%. Four of the remaining microcaps actually lose everything. Done and done — your investment capital is destroyed.

But your 10th pick was AXSM, which as you know from above, returned 3,565% last year.

What would be the total return for this basket of microcaps?

More than 215% — even though every stock except AXSM either went nowhere or lost everything.

 

 

Now, one of the takeaways you’re likely arriving at as you look this over is that finding the big winners is important. And that’s where Matt can help. He has the track record that proves it.

There’s Ulta Beauty (ULTA), climbing 2,043%.

Stamps.​com (STMP) jumping 2,772% …

There was Advanced Micro Devices (AMD) growing 2,235%.

And Office Depot (ODP), coming in at 1,502%.

If you’re interested in learning more about microcaps and their potential for life-changing wealth, click here to view a replay of Wednesday’s event. Feel free simply to watch and learn — there’s no obligation. Either way, as you consider your portfolio for 2020, ask yourself whether you want any potential homerun hitters in your lineup.

Have a good evening,

Jeff Remsburg