Tiny Titans
An aggressive investing strategy for micro cap stocks

In his 2006 book, Predicting the Markets of Tomorrow, James O’Shaughnessy unveils Tiny Titans - a micro cap strategy that includes both a value component and a momentum component. It is a simple investing strategy, has published results, and requires minimal data.

In previous books, O’Shaughnessy avoided micro cap strategies but developed this one for the following reasons:

  • Micro-cap stocks have little or no analyst coverage so are often overlooked or ignored
  • Micro-cap stocks have low correlation with the S&P (0.66) so they can be included in a diversified investment strategy

If you are interested in micro cap stocks, Tiny Titans requires minimal data for screening and has a published historical performance.

Historical performance

From 1951 through 2004 the strategy had a real average annual return of almost 19%. Keep in mind that a real return is the return above and beyond inflation. Not too shabby.

The downside to that kind of performance is volatility. The standard deviation from the average return (24.6% when not adjusted for inflation) is about 39%. This means 95% of the time the returns were between a loss of 53% and a gain of 102%. Not a strategy for the rent money.

AAII Stock Investor Pro offers a variation of the Titans as one of their pre-defined screens (one of the major differences is the refresh rate). The published performance of the AAII screen since 1998 is the highest of all their pre-defined screens. It has the highest return even with a 33% drawdown from July 2007 to June 2008. View the historical performance of the monthly AAII screen here.

In October 2010, Stock Screening 101 began publishing a Tiny Titans folio (Tiny Titans 101) on Folio Investing. Like the AAII screen, this has a regular refresh but uses a proprietary ranking system to select the 25 micro cap stocks. This is a traded folio with real performance to give some idea of what is possible.

As expected: good performance, high volatility. Sometimes it is the best performing strategy in its class; sometimes near the bottom. You can view the actual performance at Folio Investing. Select the "Ready-To-Go Folios" and then look for "Strategy Folios" to locate Tiny Titans 101.

Note that the Folio Investing implementation may be in cash during adverse market conditions.

Screening requirements for Tiny Titans

The data requirements are as follows:

 Data Requirement

 Operator

 Parameter

 Market Capitalization

 >=

 US $25 million

 Market Capitalization

 <=

 US $250 million

 Price/Sales Ratio

 <=

 1.0

 1 Year Relative Strength

 Maximum

 

 Exchange

 Not Equal

 Over the counter

The published strategy selects the top 25 companies with the highest price appreciation over the last year. From a screening perspective, this could be percent gain or relative strength.

The published holding period (and the basis for the published performance) is one year.

O’Shaughnessy places value on trading liquidity. When describing the universe of liquid stocks, he suggests that a minimum of $500,000 of the stock trade per day. We will stretch this a little and insist instead that a minimum of 100,000 shares of the stock trade per day. This is partly because many free screeners do not offer dollar volume as a data field.

 Data Requirement

 Operator

 Parameter

 Average trading volume

 >

 100,000

Variations on a theme

Academic research (Lakonishok et al) supports the idea that a relative valuation works as well as an absolute valuation. For example, if Price/Book ratio less than 1 is the desired valuation, it is just as valid to seek a Price/Book ratio less than Industry Price/Book ratio.

The same is true for Price Earnings, Price/Sales and High Yield. In the case of the Tiny Titans, you may want to consider Price/Sales less than Industry Price/Sales. We will note if this is an option when considering the various screeners.

If you decide to use relative P/S instead of absolute P/S, the data requirements for the Price/Sales parameter would become:

 Data Requirement

 Operator

 Parameter

 Price/Sales Ratio

 <

 Industry P/S Ratio

Can you diversify with this strategy?

A diversified investment strategy often includes a micro cap component. If this is a goal for you, please consider the following.

Even if you stick with a 1 year holding period for 25 stocks, round trip trading costs could force a large commitment of capital. For example, suppose the round trip trade costs $15 for each of the stocks. To keep trading costs below 1%, each position would be $1500.

Therefore, for 25 stocks, the minimum total capital required would be $37,500. But since an aggressive strategy is only a small part of most portfolios (say 10%), the total portfolio would be $375,000 at a minimum.

Using micro cap mutual funds is a realistic alternative for smaller portfolios desiring a micro cap component. Save the time and effort required to manage a micro cap stock component until you have both the capital and the time. Just remember to find a mutual fund (or ETF) with the appropriate market cap.

Another alternative, is to use Folio Investing or Motif, where partial shares are a possibility. For example, you could set up a Folio with $100 instead of $37,500.

Implementing the strategy

There are free stock screeners as well as fee-based screeners that can be used to implement the Tiny Titans strategy. Continue to see the complete discussion

We offer a pdf on stock screening for Tiny Titans. Click here.

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