When looking for the best stocks to trade, the market cap is a Key benchmark you can consider. You can determine a company’s stock value in many ways. The most basic way is to look at its market value, called market cap. Market cap is a metric that measures the total dollar market value of a company’s outstanding stock shares. It’s simply the product of the number of outstanding shares and the market price per share of a company.
Formula:- Market Capitalization = Outstanding Shares x Current Stock Price
For example; If a company has 1 million outstanding shares, and it has a share price of $ 10, the market cap is $ 10 million.
It’s equally important to note that market capitalization is not similar to equity value or the company’s debt plus its shareholders’ equity. Investors use this figure in place of sales or total asset figures to determine the company’s size.
Market Cap on Stock Prices
For starters, the stock price is integral in calculating market cap. So why is the concept of market cap on stock prices important? Why do you have to care? Because it speaks to what stage a company is in its business development. It also indicates what the market thinks about the prospects of the company in question.
Let’s dive into the impact of market cap on stock prices. We’ll take into consideration the three main market cap categories that generally classify stocks into three groups: large-cap, mid-cap, and small-cap. We’ll take a closer look at each.
Companies with large-cap stocks have a market valuation of more than $10 billion. They’re historically known for producing high-quality goods and services. Such companies have strong brands with helpful resources that help them stay afloat. They have a consistent and steady growth of dividends.
Because of this reason, large-cap stocks are fairly conservative than the smaller ones: thus don’t pose as much risk. In general, they have less drastic stock price drops, and less aggressive price increases. Their growth potential is a lot less aggressive.
They typically have market cap of between $2 billion and $10 billion. Companies with these stocks are established. They operate in sectors experiencing a rapid growth or are potential to experience rapid growth in the near future.
Their performance at this stage is a good indicator of it living up to its full potential. Stocks tend to be midway between the risk-return profiles of large-cap and small-cap stocks. They offer more growth potential in comparison to Large-cap stocks. They have less risk than small-cap but more than large-cap stocks.
Companies with these stocks have a market cap of between $300 million and $2 billion. They are young companies in an emerging industry or a niche market in an established industry. These companies are the most aggressive in growth potential.
They have limited resources, thus vulnerable to downturns in the economy within which they operate. A lot of these companies struggle and have a shorter track record; therefore, you can’t always find a lengthy financial history.
You might think you should avoid these at all costs, right? Not so fast! Most traders hone in on small-cap stocks. While they are risky, they have a high potential for growth and volatility.
Factors Affecting the Determinants of Market Cap
Like we saw in the market cap formula, it’s a product of both the current price of a stock and the outstanding shares of the company. That means anything affecting any of the two, can impact the market cap. Below is a list of factors that can affect the stock’s price:
- The stock’s supply and demand
- The company’s fundamental strength
- Competitor’s performance
- Governmental laws and regulations
The following factors can affect the number of the outstanding number of shares:
- How the company issues new shares
- Whether the company buys back some of its shares
Now you know what market cap is, how to calculate, and it’s impacts on stock prices. While market cap is a great tool do determine a company’s size and its development stage, remember to look at the bigger picture. That way, you can make a better trading decision.