Another Case for Small Caps

For my Motivation and Leadership class, I had to read the first chapter of Competitive Advantage Through People by Jeffrey Pfeffer. This chapter helps explain yet another reason that small caps, on average, will outperform the broad market.

Though written in the early 90's, I think the chapter brings up an interesting point. Mr. Pfeffer describes how companies that do well in the markets over periods of time do not succeed for long because of economies of scale (Walmart), technological advantages (Microsoft), or ability to obtain financing (I can't find an example of this anymore). To understand where I am going, I realize that both Microsoft and Walmart still have their competitive advantages - but their stock prices haven't been nearly as successful as, say, Hansen Natural (HANS) or NVR (NVR) in the past 10 years.

One big competitive advantage that small caps have - motivation. People are more easily motivated because small cap stocks tend to be new, and entreprenuerial. Sure, many of these small companies don't do well, but the ones that do are tremendous. The ones that succeed, like Southwest Airlines (LUV) did from 1972 to 1992 - the book says that LUV was the best performing US stock in those 20 years -because the founders were motivated to succeed and inspired its employees to follow the cause.

So now my question is with all of the academic papers that use standard deviation as a measure of risk...I will ask if perhaps small cap companies with great leaders are LESS risky than most of the stocks out there in the market? Consider Panera Bread Co, or Starbucks. I'm sure that when Wal-mart was first growing that its employees were much more movtivated, on average, than they are now. Now it's just so hard to be...it's too big.

Food for thought.

As an aside, a commercial for PetMed Express just flew by me on the TV. Go PETS!