Golfers refer to the sweet spot as the position on the face of the club head that when hit produces the maximum result. A very similar result occurs when investing in mid-cap stocks. those companies with market capitalizations ranging from $2 billion to $10 billion. Most often, they are established businesses sandwiched between slower growth large-cap multinationals and faster growing small-cap businesses. In recent years, mid-cap stocks have outperformed both their large-cap and small-cap peers with very little added risk. It’s as if they have hit the sweet spot of performance. In this article, we examine the key attributes of mid-cap stocks including how to analyze them and why you should consider these often-misunderstood stocks for your portfolio. (For related reading, see What Is A Small Cap Stock? )

Why Include In Your Portfolio

Financial Health

Whatever size stock you’re interested in, it’s important to invest in companies with strong balance sheets. Benjamin Graham used three criteria to assess the financial health of a company:

• Total debt that is less than tangible book value. Tangible book value is defined as total assets less goodwill, other intangible assets and all liabilities.
• A current ratio greater than two. Current ratio is defined as current assets divided by current liabilities. It is an indication of a company’s ability to meet its short-term obligations.
• Total debt less than two times net current asset value. Companies meeting this criterion are able to pay off their debts with cash and other current assets making them far more stable.

Investors interested in mid-cap stocks should consider the quality of revenue growth when investing. If gross and operating margins are increasing at the same time as revenues, it’s a sign the company is developing greater economies of scale resulting in higher profits for shareholders. Another sign of healthy revenue growth is lower total debt and higher free cash flow. The list goes on and while many of the criteria investors use to assess stocks of any size definitely apply here, it’s vitally important with mid-caps that you see progress on the earnings front because that’s what’s going to turn it into a large-cap. Revenue growth is important but earnings growth is vital. (For more, see Earnings: Quality Means Everything. )

Reasonable Price