In the last year, the TSX Small Cap Index has risen 18%. The stocks in this index have an average market capitalization of $1.5 billion. The index includes stocks such as Blackberry Ltd. (TSX:BB) and Peyto Exploration and Development Corp. (TSX:PEY).
Here’s what we should know about small-cap stocks in 2025.
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Small-cap stocks have a higher risk profile
This is obvious. Clearly, the smaller, less established stocks have a higher risk profile. Maybe their businesses are just getting started, meaning lower earnings and higher expenses. Or maybe they address a small market and have never been able to expand into something more.
Whatever the reason, these stocks are small cap and with this comes extra risk. But the flip side to this is that there’s also extra return potential. This could mean returns of thousands of percentage points.
So, I’ve touched on the performance of the small-cap index in my introduction. Let’s compare this performance to the performance of the TSX Composite Index, which increased 19%, pretty much the same as the small-cap index. In the last 10 years, however, there’s a big difference. The small cap index increased 38% and the TSX Composite Index increased 68%.
In some years, the discrepancy is large, in others it’s negligible. In any case, it’s good information to have.
Is it time for small caps to shine?
The underperformance of small-cap stocks in the last 10 years signals an opportunity. Stocks like Blackberry have been one of the major underperformers. Yet, in recent quarters, it seems like things are finally starting to come together.
In fact, Blackberry stock has rallied 56% so far this year and 137% in the last year. In the company’s latest quarter, earnings before interest, taxes, and depreciation (EBITDA) came in at $23 million, earnings per share (EPS) was $0.02, and free cash flow was finally positive. This was truly a stepping stone. Also, margins were significantly improved, setting the company up for stronger bottom-line results moving forward.
Blackberry is heavily involved in machine-to-machine connectivity, leading the way in the connected car market. This market has taken a while to get up and running, but today, Blackberry’s order book is expanding rapidly.
A natural gas gem
Peyto Exploration is one of the small-cap gems that I believe is likely to have a good year in 2025. In fact, with a market cap of $3.2 billion and a dividend yield of 7.9%, Peyto stock is one of the top small-cap stocks to buy today.
The company has a history of operational excellence that has driven it to survive and thrive in the cyclical ups and downs of the natural gas industry. Despite its attractively high dividend yield, Peyto’s payout ratios are good. In fact, Peyto’s dividend amounts to 60% of its earnings and only 35% of its cash flow. This is very positive, and it’s driven by the company’s high-quality assets base, which is characterized by high recoveries and predictability, and low cost.
The bottom line
Larger-cap stocks have outperformed significantly in the last 10 years, leading me to revisit small-cap stocks. The right small-cap stocks, such as the ones I discussed in this article, can open our portfolio up to a higher return potential in 2025.
