Once again the media hype machine for growth stocks causes financial pain for small cap retail investors.

Is it a ground hog year again? Oh yes.

Every year it repeats: A herd of small cap investors who purchase shares of small cap growth stocks flying high in momentum from the hype by investment bankers, analyst calls, stock newsletters and portfolio managers’ picks in the media.

This year we highlight Reliq Health Technologies. Small cap investors who purchased shares in this company earlier in the year are feeling a lot of financial pain today. The share price is currently down significantly in value from its high and, hence, this small cap stock favourite is no longer in favour. The Investorfile blog is not about to analyze the operational issues of the aforementioned company but, rather, hype from the small cap investment community that propelled this stock to unsustainable valuation levels.

Good information and analysis is critical for small cap investments. But, acting on the information from a consensus view from others can be precarious for investing in small cap stocks. We feel that buy recommendations by small cap fund managers in the media and newsletter writers often induce others to follow and cause stock prices to jump. This is when a share price will deviate far from the small cap stock’s true fundamental value.

To compound the issue, we are also of the opinion that most fund managers do not have any better insight into determining the long-term success of small and microcap stocks. But some small cap fund managers use the media for their own agenda to communicate their stock picking thoughts and that’s where the problem begins.

The emphasis for most small cap top picks by fund managers in the media is on liquidity, not value. They pick small cap stocks which are more liquid (higher daily trading volumes) and have many millions of shares outstanding and therefore trade at a higher market capitalization. The current market valuations and trading multiples of these top pick stocks are usually unjustified when they are recommended but it creates trading momentum which unfortunately attracts retail investors to buy.

One must understand that fund managers can often leverage their small cap buy recommendations in the media to create liquidity for stocks they do own to lock in a gain on their investment(s). Most small cap stock positions acquired by money managers are through a financing or block trade and at a big discounts to the market price. They appear on TV as having a have long-term view on their top picks stocks but they rarely hold on to a small cap stock for the long-term if a trading opportunity exists. They maybe selling their position when retail investors are buying.

As for Reliq Health Technologies, when the hype for this stock cooled, its trading multiples fell and, compounded with the millions of shares issued, the stock price came crashing down.

We say why pay for this hype? Buy small cap growth stock when its valuation is still reasonable, which allows the Company to generate positive surprises and exceed on lower expectations to outperform and avoid making buying decisions solely based on a recommendation in the media.

Unfortunately this lesson is never learned and we will be able share another example next time. It will be a ground hog year again for some small cap investors.

Read Disclaimer:

This article is for informational purposes only. This article is based on the author's independent analysis and judgment and does not guarantee the information's accuracy or completeness. The information contained in this article is subject to change without notice, and the author assumes no responsibility to update the information contained in this article. The information contained within this article should not be construed as offering of investment advice. Those seeking direct investment advice, should consult a qualified, registered, investment professional. This is not a direct or implied solicitation to buy or sell securities. Readers are advised to conduct their own due diligence prior to considering buying or selling any stock.