Small Firm Effect
Categories: Incorporation
The small firm effect is the theory that small companies have a higher growth ceiling than their larger company counterparts. Did you know that, within small-caps, there are even micro-caps (between $50 million and $2 billion) and nano-caps (less than $50 million)? The smallest of the small in market capitalization.
The returns of a company depends on how you set the timeframe: how long, and when. While some highly successful small firms are attributed to the small firm effect, it’s still more theory than anything else. For instance, large-cap stocks typically outperform small-cap stocks during recessions...one of the many reasons smaller companies are considered riskier than behemoths.
Still, it’s true that it’s easier for small firms to double their size than for giant firms to do the same. On the flip-side, it’s much easier for these small firms to turn into dust, and become insolvent. The tradeoffs you get with large-cap and small-cap firms are risk, potential returns, and stability.
