One of the most overlooked and little followed stock classes is beating the market this year.
Micro-cap stocks, minimarket cap stocks which are the lowest rung in the market-cap ladder, are rallying thanks to falling interest rates and comparatively cheaper valuations, strategists say.
The iShares Micro-Cap ETF is up more than 15% year to date, beating the small-cap Russell 2000 index by about 5 percentage points and the S&P MidCap 400 Index by some 10 percentage points. It's also edging out the S&P 500, which is up 14%.
Micro-caps have an even wider lead when you take the measuring tape from the April market lows. The Micro- market cap ETF is up 50%, while the Russell 2000 has climbed 35% and the MidCap 400 is up 25%. The S&P has rebounded 32% in the same time.
One explanation is that valuations are cheaper than for they've been for bigger stocks. The price-to-earnings ratio of the Micro-Cap ETF is less than 15, according to the iShares website. Among larger market cap indexes, the S&P 500, by comparison, has a P/E ratio of about 30 based on the most recent annual earnings. The Midcap 400's P/E ratio is more than 20.
By another measuring stick — last 12 months enterprise value over earnings before interest & taxes — micro-caps are attractively valued, Royce Investment Partners said in a report last month.
Risks Of Micro-Market Cap Stocks
Micro-caps are a fringe class among professional investors, who often prefer the relative safety of big stocks with plenty of visibility on Wall Street. That presents risks for individual investors.
"In general, they're followed by few, if any, analysts, and there tends to be less publicly available information about them than about even larger small caps," Royce said in its report. "They often have more limited trading volumes and are subject to more abrupt or erratic market price moves than bigger small-cap and large-cap stocks."
Some microcap businesses have limited markets, financial resources, or product lines.
Because they are more sensitive to the economy and interest rates, the Federal Reserve's rate cut in September (and plans for further cuts) gave micro-caps a tailwind.
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It's a good time to overweight micro-caps, says Robert Maltbie, president of Singular Research, a firm that specializes in discovering micro-caps. Economic stimulus from interest-rate cuts and the narrower valuation gap (which historically has been higher for micro-caps) makes them good choices today.
"There's some room to go, I think," Maltbie said.
Some of the best-performing micro-caps no longer fit that description. That's because their capitalizations have grown well beyond the under-$1 billion typically associated with micro-caps.
For example, Centrus Energy has ballooned to a market cap of $5.67 billion, according to IBD MarketSurge. The nuclear fuel provider has quintupled in price this year. It's grown into the second-largest component of the Micro-Cap ETF.
TeraWulf, a crypto mining and data center company, has doubled in price this year. Its market cap now tops $4.6 billion, though it trades around 11 per share.
Micro-Cap Stocks Often Lag
Micro-caps often underperformed the general market, making this year an exception. The iShares Micro-Cap ETF lagged the S&P 500 in 2020, 2021, 2023 and 2024, but both lost roughly 20% in the 2022 bear market year.
The $985 million iShares Micro-Cap ETF has more than 1,300 holdings. Nearly one-fourth are in health care, with financials about 21%, techs 16.5% and industrials 14% of the portfolio. Small regional banks are prime beneficiaries of lower interest rates because they boost net interest margins.
Maltbie, who owns the iShares ETF, sees opportunities in uranium, copper and other strategic materials. He likes NioCorp Developments, a company that plans to develop critical minerals such as titanium from a mine in Nebraska. The stock has about doubled in the past four months, to around $6.70 today. Its market cap is $205 million.
Flexible Solutions makes an agricultural chemical to prevent fertilizer loss and is also used in oil fields and cleaning products. It also makes a chemical that prevents water evaporation in pools. The stock has been consolidating for five weeks and has a market cap of $124.7 million.
Cannabis stocks also look attractive on hopes for less regulation. President Donald Trump expressed interest in its health benefits this week and has voiced support for reclassifying it as a less-dangerous drug. That could make it possible for cannabis companies to deduct normal operating expenses, boosting free cash flow and lowering cost of capital, Singular Research said in a report.
Among cannabis stocks he likes, Trulieve Cannabis makes cannabis products under three dozen brands. The stock is forming a pattern as it consolidates under the 10 price level. Its market cap is $1.615 billion.
