The Best Stocks... Just Got Better
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- Created on Wednesday, 22 February 2012 08:00
- Written by Andrew Snyder, Editorial Director, Inside Investing Daily
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The small-cap sector represents the best of the best. And thanks to the news this week, they just got even better.
What if you could pinpoint the best of the best stocks... and then pick out the very best of those? It sounds confusing, I know, but hear me out.
Since October, small caps have led the bull's rush. As volatility dropped out of the market and stocks surged, the nation's smallest companies were the top movers.
Over the past five months, small caps (as measured by the Russell 2000) are up 36%.
It makes sense.
Because these smaller companies are less liquid, they grow like springtime dandelions when the bulls are in charge. And over the past six months, the bulls have definitely been in charge.
They laughed at me in September when I predicted this would happen...
But if the Russell 2000 represents the best of the best... what's the best of these 2,000 stocks?
Right now, the inside money is on the 400 largest companies in the small-cap realm. Last year, the upper fifth of the index handed investors returns of just over 11%, while the overall indeed finished the year in the red by 5.5%.
The reason why becomes clear when we look at what's propelling these stocks higher.
Small caps are not soaring because of fresh investor demand. In fact... it's just the opposite. Small-cap mutual funds have seen an outflow of $15.9 billion over the past 10 months.
The truth is small caps are moving higher because of one of our favorite moneymakers... share buybacks.
In a zero-interest-rate economy where growth is hard to find and return on investment feels like an antiquated notion, companies are spending their cash on themselves. Instead of building new factories or adding to their headcount, companies are buying their stock... and increasing the value of the shares left on the Street.
They are doing it in a big, big way. According to JPMorgan, the companies in the Russell 2000 boosted their buyback efforts by 46% in 2011's third quarter.
That is essentially $7.8 billion straight into shareholder pockets -- proof the insiders that know these companies best think their shares are cheap.
Remember, these are the folks who understand things like profit margins. They know at their peak in 2006, small-cap margins hit 6.8%, but today they're averaging just 5.4%... proof shares are trading for a discount.
But here's the thing... it's where you can really make some money.
Sometime in the not-so-distant future, the herd is going to realize what's happening. It's going to jump back into the small-cap game.
And when it does, the movement is going to accelerate exponentially.
It will happen much sooner than most investors expect. It is especially true now that we are seeing positive news out of Greece.
The euro is still in a dire situation... but the truth rarely stops the herd.
Remember, $7.8 billion in buybacks helped boost the index by over 30% in the past five months. Imagine when that $15 billion worth of cash that has flowed out of mutual funds starts flowing in the right direction.
Your opportunity to make money is right now.
Buy small caps before the herd pushes its way through the gate... and sell as the sector goes parabolic.
Editor's Note: My favorite small cap is no longer a small cap. It fit the definition when I recommended shares in December. But now that shares have soared by 59%, it's in a whole new class.
Don't worry, though, there's still big money to be made... this one is destined to be a blue chip.
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