Rough Quarter for Micro-cap Stocks

10/02/2015 9:00 am EST

Focus: STOCKS

Matt McCall

Founder and President, Penn Financial Group

Matt McCall, of Penn Financial Group, thinks long-term investors should take advantage of the volatility in the US equity arena and buy into micro-cap stocks that have long-term stories when the asset class is underperforming; Matt also shares a pair of names to consider.

Major stock indices around the globe suffered above-average losses during the third quarter sell-off as investors' concerns over China and the Federal Reserve heightened. With the US equity arena, one of the hardest hit asset classes were the micro-cap stocks as represented by the iShares Russell Microcap Index ETF (IWC). The ETF was down 14.5%, well below the loss of 6.9% for the SPDR S&P 500 ETF (SPY).

Of the over 1,400 stocks that make up the index, only 329 were able to close positive for the quarter and 521 stocks fell at least 20% during the last three months. The underperformance of the micro-cap stocks has been a trend that goes back a few years. Since the beginning of 2014 the SPY has outperformed IWC by nearly 10%.

With all the negative news surrounding the micro-cap asset class there could be an opportunity to gain exposure to the sector while it is out of favor. There is obviously the route of buying a micro-cap ETFs such as IWC or one of its peers. And then there is also the option of buying individual micro-cap stocks that will move based on their fundamentals and not rely on the entire 1,400-plus index.

When buying into micro-cap stocks it is often based on a story or a long-term theme that can drive revenue and eventually earnings growth. Due to the unknown time frame of when the story will come to fruition, it often requires investors to be patient as the underlying performance of the stock unfolds. That being said, micro-cap stocks can exhibit high volatility from quarter-to-quarter.

Long-term investors should take advantage of this volatility and buy into micro-cap stocks that have long-term stories when the asset class is underperforming. A couple names to consider are below.

Primo Water Corporations (PRMW) is a $190 million company that provided multi-gallon purified bottled water and water dispensers in North America. Earnings have been growing rapidly since it had its first profitable quarter last year. After losing $0.03 last year, the company is expected to make $0.07 in 2015 and $0.14 the following year. The stock is up on the quarter, but is volatile and the dips could be considered buying opportunities.

Bassett Furniture Industries (BSET) is a manufacturer of home furnishings in the United States. The stock was down 2% in the third quarter, but is down 25% from its all-time high set in early July. The most recent earnings report beat both the top and bottom line and the stock is sitting on major support at the $26 area, making it a high reward buying opportunity.

Matt McCall, Founder and President, Penn Financial Group

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