We have found in our research on 13F filings from hedge funds and other notable investors that the most popular small cap stocks (which we defined as market capitalization between $1 billion and $5 billion) among hedge funds generate an average excess return of 18 percentage points per year (learn more about our small cap strategy). This shows that small cap stocks can be a rich source of alpha, and we think that this is because these companies tend to be less covered by large institutional investors and by third party analysts. Investors can also look at small cap recommendations from top fund managers to try to identify interesting names for further research. Here are five top small cap stock picks from billionaire David Tepper’s Appaloosa Management as of the end of December (or see the full list of stocks Tepper reported owning)
The fund owned over 14 million shares of The Goodyear Tire & Rubber Company (NASDAQ:GT) as of the end of 2012. In the fourth quarter of the year The Goodyear Tire & Rubber Company (NASDAQ:GT) experienced a double-digit percentage decline in both revenue and earnings versus a year earlier; considering its high pension liabilities, the company is effectively highly leveraged and so this is not a good sign. Wall Street analysts expect much higher net income in 2014, and the forward P/E is only 5, but we would still be cautious here. Billionaire Steve Cohen’s SAC Capital Advisors reported a position of 6.9 million shares in its own 13F (find Cohen’s favorite stocks).
Tepper has been long airlines for some time, and one of his ten largest holdings by market value was US Airways Group, Inc. (NYSE:LCC), whose takeover of American Airlines appears to be on track. There is significant integration risk, but the consolidation of the industry should allow the traditionally money-losing industry to charge higher prices. US Airways Group, Inc. (NYSE:LCC) has roughly doubled in price in the last year, but the forward earnings multiple is still quite low. Billionaire Stanley Druckenmiller initiated a position of over 4 million shares in Q4 (check out more stocks Druckenmiller was buying), though many filers we track seem to be staying away from the company.
Read on for three more of Tepper’s small cap picks: