The microcap market is anchoring hedge funds and mutual fund offering looking to capitalize on potential outsized returns. The key is finding companies with strong balance sheets that are just under the radar.

“I play in a market mix that doesn’t have a lot of competition, which is the microcap market,” said Mark Spiegel, managing member of Stanphyl Capital, which manages $7.5 million. “I try to buy revenue cheaply. If I can buy cheap revenue, even if the company isn’t a big money maker, at some point a strategic acquirer will buy the company for its revenue and will justify it by the elimination of a lot of SG&A. My favorite metric to look at is enterprise value to revenue, combined with the P&L.”

Prior to forming Stanphyl in 2011, Spiegel worked on Wall Street financing microcap public companies via private placement transactions in companies with market caps of $50 million to $500 million. He’s an inveterate reader of all things financial: fundamental stock screens, economic statistics, SEC filings, and Seeking Alpha, to which he contributes frequently.

“I spend a lot of time studying the macro environment because the macro environment sets the table for the micro environment,” he said.

Stanphyl’s average holding period is six months to two years. “I typically try to buy something that is immediately worth 50% more than what it’s selling for, and hopefully 100% more. Sometimes the company reaches my price target quickly and sometimes it takes several years. I’ve had a short position in the yen since 2012 and might have it for several more years,” he said.

He’s taken a short position in Japanese yen via ETFs. “I don’t short-term trade currencies. In the case of the yen, the BOJ currently constitutes almost all of the Japanese bond market, and that’s a boiler that could explode at any time. I don’t see any long-term downside in holding a yen short position,” he said.

Perritt Capital Management’s Perritt Ultra MicroCap Fund seeks to find next generation’s winners during their earliest growth stage. The Fund only invests in the smallest companies listed on the exchanges – those with a market capitalization between $10 million and $300 million at the time of initial purchase.

“We believe the fund is truly a distinct offering because it invests in the smallest of the small companies – companies that Wall Street ignores,” said Michael Corbett, portfolio manager of the fund since its 2004 inception.

Perritt has been investing in micro-cap for twenty-five years within its traditional MicroCap Opportunities Fund. “Most micro-cap asset managers decide to go up-market and launch a small-cap product, but Perritt has taken the opposite approach with the Ultra MicroCap Fund,” said Corbett. “We go after companies that are even smaller.”

Spiegel operates Stanphyl with no leverage but has never had less than a 30-40% cash position in a company. “If I don’t see something that I think is very cheap, I don’t buy it,” he said. “Occasionally I do something that’s binary– one of my current positions is a drug approval story with 500% upside and 70% downside. But that’s rare for me. Usually I’m a value guy looking for something that’s turning around, or a fallen angel that the big funds have forgotten about.”

“I take concentrated positions,” he continued. “My typical position size is 10% of assets, but if something is incredibly undervalued I may take it up to 20%. My equity shorts tend to be much smaller– generally 1% to 3% of assets.”