Small caps are often overlooked due to perceived risk — but there are many advantages to participating in the sector, says Vic Patel, head trader and analyst at educational site Forex Training Group.

There are many benefits to adding small cap stocks to your portfolio and he outlined three important reasons for investing in small cap companies.

1. Greater Potential Returns

Mr Patel says that small cap stocks tend to offer investors a higher return on their equity investment.

“As many solid small cap companies are growing at a relatively rapid rate, there exists an opportunity to earn higher returns compared to large cap stocks. These small cap companies can be more nimble in the marketplace because of their size, and they can often be first to market versus their larger competitors.”

He also says that positive news and earnings related to these activities will be reflected more sharply in its share price.

“With this added volatility, there will also be the potential for outsized losses as well. But the prudent small cap investor who understands and addresses these risks can be well rewarded for their efforts.”

2. Hidden Gems in the Making

Small and micro cap stocks offer huge opportunities for early investors.

“If you are able to spot an emerging company that is positioning itself to gain a sizable percentage of market share in a particular niche or industry, it can pay off many times over. This, however is easier said than done. You must be diligent in your efforts to undercover hidden gems in the market.”

“This is especially true of small caps since there is often little to no analyst coverage on many of these high flying stocks. But when you consider the risk to reward and potential payoff, the additional due diligence is often worth it,” says Mr Patel.

3. Provides Diversification

Mr Patel argues that it’s of the upmost importance that investors properly diversify their portfolios.

“Anything and everything can happen in the share market. As such you have to protect yourself as much as you possibly can.”

“Many share investors tend to focus on larger well-known companies. These investors often feel more secure by doing this. But by adding small cap stocks to your portfolio, you can actually help smooth out your equity curve.”

“A well-balanced portfolio with a mix of large and small caps across various sectors can provide for better risk adjusted returns.”

Read the full story and get Mr Patel’s advice on how to spot opportunities in small caps.