Analysis: Micro-cap stock surge shows investor risk taking, GameStop effect

Esports Entertainment

25/02/2021 15:08

By Lewis Krauskopf
    NEW YORK, Feb 25 (Reuters) - Some of the biggest winners on
U.S. stock exchanges so far this year have been their smallest
members, partly fueled by the GameStop effect, but their gains
could be particularly vulnerable if investors get skittish about
equities. 
    The Russell Microcap index  .RUMIC , whose components have a
median market value of about $350 million, has climbed 26%
nearly two months into 2021. That gain tops the 4.5% rise for
the large-cap S&P 500  .SPX , whose components' median market
value is about $28 billion, and the performance of benchmark
small- and mid-cap stock indexes. 
    The micro-cap gauge ceded some gains during volatility
earlier this week while other indexes held up better. With
relatively few shares available to be traded, micro-cap stocks
favored by individual investors could be hit hard in a downturn.
    “Because they are retail oriented, they are probably going
to be a little more vulnerable with the risk-off days versus the
risk-on days,” said Chuck Carlson, chief executive officer at
Horizon Investment Services.
    Shares of smaller U.S.-based companies, which tend to rely
more on domestic business, are generally benefiting from hopes
for a rebounding U.S. economy fueled by widespread vaccinations.
That economic optimism also lifted micro-cap stocks, according
to investors, after the group long underperformed until last
year.
    A "speculative fever," as one investor put it, symbolized in
wild swings of GameStop Corp  GME.N  shares, also could be
fueling micro caps.
    GameStop shares doubled on Wednesday, lifting their
year-to-date gain to over 380% and the video game chain's market
value to $6.4 billion. That puts GameStop, whose shares are in
the iShares Micro-Cap ETF  IWC.P , above the value of some S&P
500 companies.  urn:newsml:reuters.com:*:nL1N2KU3K7
    There has been a "fundamental basis" supporting micro caps'
strong performance, said Walter Todd, chief investment officer
at Greenwood Capital. But, he added, "historically you would say
that is one of the riskier parts of the market and the fact that
it has moved so aggressively ... is emblematic of high risk
appetite.”
    More than 80% of the components of the iShares Micro-Cap ETF
had posted gains in 2021 as of Tuesday, against over 60% of
those in the SPDR S&P 500 ETF  SPY.P , according to Refintiv
data. 
    Among stocks on the New York Stock Exchange and Nasdaq,
those that started the year with market values of less than $500
million were up an average 34%, triple the gain of those above
$500 million, according to Refinitiv data.
    Big micro-cap gains this year include a 177% rise for shares
of Esports Entertainment Group  GMBL.O  and a 178% surge for
Energous Corp  WATT.O , a wireless charging company. 
    "The speculative fever is out there," said Eric Kuby, chief
investment officer at North Star Investment Management, which
has run a micro-cap fund for over 20 years. As long as that
persists, he said, "it’s good for this class of stocks that are
speculative in their nature."
    Since Pfizer's  PFE.N  breakthrough COVID-19 vaccine news in
early November, the Russell Microcap index has soared 54%
against a nearly 12% rise for the S&P 500.
    Until then, the micro-cap index had fallen 2% in 2020
against the S&P 500's nearly 9% rise, after lagging the S&P in
the prior three years.
    “You are coming out of this incredibly long period of 
historic underperformance going into the pandemic,” Kuby said.
“One could argue after that period of underperformance, a lot of
them had gotten very inexpensive.”
    Small-cap funds, which include micro caps, have seen nearly
$23 billion in net inflows starting in November after six months
of outflows, according to Lipper data.
    “They are cheap stocks, they are getting fund flows, they
fit some of the themes that I think people are interested in,”
said Steven DeSanctis, equity strategist at Jefferies.
    Investors noted that money flowing to micro-cap stocks can
create outsized moves because they have relatively few shares
available to be traded. Micro-cap stocks have an average free
float of about 29 million shares compared with an average of
about 600 million shares for S&P 500 stocks, according to
Refinitiv data.
    “Micro caps are particularly unpredictable," said Joel
Schneider, deputy head of portfolio management at Dimensional,
"but they do go through periods of very strong performance.”

 (Reporting by Lewis Krauskopf; Editing by Megan Davies and
Steve Orlofsky)
 ((lewis.krauskopf@thomsonreuters.com; 646-223-6082; Reuters
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