Small-cap stocks, especially microcap stocks with market caps of less than $300 million, offer traders the largest potential gains and come with the greatest potential risk. But there are several ways traders can limit that risk.
One way is to find low-beta small caps and another is to trade stocks that are included in major stock market indexes and have to be owned by ETFs and mutual funds that track that index. Fund ownership helps limits the potential of large sell-offs in individual microcap stocks.
Today's stock offers both a low beta and fund ownership, plus it has a dividend yield of about 2.6%.
Almost all stocks move in the same general direction as the overall market. Beta describes that relationship. If a stock or ETF moves exactly as much as the stock market, measured with a broad index like the S&P 500, the beta would be equal to 1. A stock that is more volatile than the broad market has a beta greater than 1 and a less volatile stock would have a beta less than 1. If the stock market declines, low-beta stocks are expected to fall less than the market. This stock has a beta of 0.42, making it a great position for traders concerned about a decline.
Low beta typically means slow moving, but that's not the case with MicroFinancial (Nasdaq: MFI). This company has a history of profitability dating back to 2006, and has paid a dividend since 2005. MFI is a finance company that offers equipment leases to small businesses. It leases cash registers to small stores, food service equipment to restaurants, salon equipment for hair stylists, and health care and fitness equipment for gyms among other items. These leases make it possible for businesses to open their doors without needing a large amount of cash.
MFI reports that its average transaction size is $5,000-6,000 and covers a 44-month period. Leases are secured and come with a high margin. Throughout its operating history, MFI has funded $1.3 billion in leases and collected $1.83 billion on that amount, a 41% average profit on each lease.
This is a small company with a market cap of only $134 million, but there is a lot of room for growth. The Small Business Administration estimates that more than 600,000 small businesses are formed in a typical year, and MFI management said in a recent presentation that about 80% of those businesses will enter into a lease. An industry group, Equipment Leasing and Finance Association, estimates the market for leases in equipment costing less than $25,000, MFI's business segment, is about $13 billion.
After years of steady growth, the company enjoyed a surge of applications this year with a 33% increase in the most recent quarter. Increased demand for leases will fuel growth. The company is expected to make $0.73 a share next year and is trading at a price-to-earnings (P/E) ratio of about 12.8 based on that estimate.
This is a 12.5% discount to the typical stock in the Russell 3000 Index, a major index that MFI was recently added to. About a third of the outstanding shares are now held by funds that index or specialize in microcaps. Intuitional holdings should provide some support if bad news hits.
The chart below shows the stock just broke out of a triangle:
Based on the triangle, a target of $11 a share can be established for the stock, a potential gain of about 18%. If it reaches this price in 12 months, the potential 2.6% dividend will make the total return more than 20%.
MFI is one of the strongest stocks in the market with a relative strength of 90, indicating that it has outperformed about 90% of other available investments. An additional bullish indicator is the stochastics, which just signaled a buy.
With these bullish factors, MFI looks like a relatively safe trade. Support at $8.60 provides a close stop that risks about 8%. It is a small company with big potential and could turn into a long-term holding.
Action to Take –> Buy MFI at $9.40 or below. Set stop-loss at $8.60. Set initial price target at $11.
This article originally appeared on TradingAuthority.com:
This article originally appeared on StreetAuthority
Author: Michael Carr
Chart Pattern Signaling Big Potential in This Small Company