Another Reason to Be Cautious About Large-Cap Stocks

A lot of companies are reporting their fourth-quarter and year-end financial results as we speak. On a cursory level, I’ve noticed that smaller companies tend to be reporting better-than-expected numbers — more so than the larger-cap companies are.

It’s kind of odd. Large-cap stocks were some of the best performers last year, with the Dow Jones Industrial Average setting all kinds of new records.

With solid earnings results coming from so many small- and mid- cap companies, perhaps we can surmise that 2007 will see smaller companies outperform larger companies. At the very least, we can use this trend to be even more cautious about large-cap investments.

Large companies are great at consolidating acquisitions, developing synergies (cutting costs), and gaining market share. Small companies, however, are more nimble at adapting to changes in the economy, and they are often more innovative in terms of the products or services they offer.

Of course, small companies have to be more innovative. They have to come up with a better way of doing business — their products and services have to be better than the current products and services offered by large companies.

Throughout my career, I’ve always been biased towards investing in small-cap companies. Perhaps it’s in my genes. I’m not saying that you can’t make money from large-cap companies; you can. It’s just more exciting following a smaller company and seeing it grow into a mid-sized company. And, this growth is where small- cap investors see strong profits.

For a business owner or CEO, an enterprise is his or her artistic expression. Most top-level executives really are trying to grow a business, help their customers, and reward their employees all at the same time.

Nothing lasts forever, however, so what we’re trying to do as investors is find great companies that are in the “sweet spot.” This is the point in time when a company is enjoying great success; it has found its niche in the marketplace and it’s making a lot of money doing what it does best.

It isn’t easy finding great companies. It isn’t easy getting the right entry point on the stock market. The best place to start looking, however, is within the small-cap sector of the marketplace.