Financial Focus, Pets, Places, & Things

Market Capitalization: A Tool for Understanding a Stock’s Risk

Financial Focus

Market cap typically is not altered as the result of a stock split or a dividend.

Learning about stocks? Find out how companies can be segmented and compared by market capitalization.

Market cap — or market capitalization — allows investors to understand the relative size of one company versus another. Market cap measures what a company is worth on the open market as well as the market’s perception of its future prospects, because it reflects what investors are willing to pay for its stock. It is calculated by multiplying the price of a stock by its total number of outstanding shares. For example, a company with 50 million shares selling at $30 a share would have a market cap of $1.5 billion.

Large-cap companies are typically firms with a market value of $10 billion or more. They often have a reputation for producing quality goods and services, a history of consistent dividend payments, and steady growth. As a result, investments in large-cap stocks may be considered more conservative than investments in small-cap or midcap stocks, potentially posing less risk in exchange for less aggressive growth potential.

Midcap companies are typically businesses with a market value between $2 billion and $10 billion. These are typically established companies in industries experiencing or expected to experience rapid growth. These medium-sized companies may be in the process of increasing market share and improving overall competitiveness. Midcaps may offer more growth potential than large caps, and possibly less risk than small caps.

Small-cap companies are typically those with a market value of $300 million to $2 billion. These are generally young companies that serve niche markets or emerging industries. Small caps are considered more aggressive and risky. The relatively limited resources of small companies can potentially make them more susceptible to a business or economic downturn. They may also be vulnerable to the intense competition and uncertainties characteristic of untried, burgeoning markets.

Micro-cap companies have a market capitalization of between $50 million to $300 million. The upward potential of these companies is similar to the downside potential, so they do not offer the safest investment, and a great deal of research should be done before entering into such a position.

What Impacts a Company’s Market Cap?

There are several factors that could impact a company’s market cap. Significant changes in the value of the shares — either up or down — could impact it, as could changes in the number of shares issued. Any exercise of warrants on a company’s stock will increase the number of outstanding shares, thereby diluting its existing value. As the exercise of the warrants is typically done below the market price of the shares, it could potentially impact its market cap.

But market cap typically is not altered as the result of a stock split or a dividend. After a split, the stock price will be reduced since the number of shares outstanding has increased. For example, in a 2-for-1 split, the share price will be halved. Although the number of outstanding shares and the stock price change, a company’s market cap remains constant. The same applies for a dividend. If a company issues a dividend, its price usually drops as the number of shares increases.

To build a portfolio with a proper mix of stocks, you’ll need to evaluate your financial goals, risk tolerance, and time horizon. A diversified portfolio that contains a variety of market caps may help reduce investment risk in any one area and support the pursuit of your long-term financial goals.1

~ Written by: Carl Trevison and Stephen Bearce


1Diversification does not assure a profit or protect against a loss.

Required Attribution

Because of the possibility of human or mechanical error by S&P Capital IQ Financial Communications or its sources, neither S&P Capital IQ Financial Communications nor its sources guarantees the accuracy, adequacy, completeness or availability of any information and is not responsible for any errors or omissions or for the results obtained from the use of such information. In no event shall S&P Capital IQ Financial Communications be liable for any indirect, special or consequential damages in connection with subscriber’s or others’ use of the content.

© 2013 S&P Capital IQ Financial Communications. All rights reserved.

This column is provided through the Financial Planning Association, the membership organization for the financial planning community, and is brought to you by Carl M. Trevisan, a local member of FPA and Stephen M. Bearce.

McLaughlin Ryder Investments, Inc. and McLaughlin Ryder Advisory Services, LLC and their employees are not in the business of providing tax or legal advice.  These materials and any tax-related statements are not intended or written to be used, and cannot be used or relied upon, by any such taxpayer for the purpose of avoiding tax penalties.  Tax-based statements, if any, may have been written in connection with the promotion or marketing of the transaction (s) or matter(s) addressed by these materials, to the extent allowed by applicable law.  Any such taxpayer should seek advice based on the taxpayer’s particular circumstances from an independent tax advisor.

Securities offered by McLaughlin Ryder Investments, Inc. and investment advisory services offered by McLaughlin Ryder Advisory Services, LLC.

0.00 avg. rating (0% score) - 0 votes