The mutual fund industry is eagerly waiting for the revamp of the existing classification norms that govern specific investment mandates for large, mid, and small cap equity schemes given a sharp rise in the market cap of small cap stocks seen from 2017 when these regulations were put in place.
Earlier this month, Motilal Oswal Asset Management Company paused the acceptance of fresh inflows into the Motilal Oswal Nifty Microcap 250 Index Fund following its consultations with Securities & Exchange Board of India (Sebi) regarding alignment of the scheme with prevailing mutual fund categorisation norms, under which micro-cap is not recognised as a separate category.
The scheme was launched with approval from Sebi in June 2023 and managed assets of around Rs 2,600 crore as of early January. It invests in 250 stocks beyond the top 500 companies (Nifty 500) by market capitalisation.
Concerns Over Market Liquidity
According to an industry participant, the regulator’s concern is luring investors in the name of microcap stocks, that look very good when they go up but when the market falls, volume in stocks below the top 500 in terms of market capitalisation dries up drastically.
Currently, Sebi classifies the top 100 companies by market capitalization as large caps, 101 to 250thas midcaps companies from 251th rank onwards as small caps.
Replying to a post on X, Pratik Oswal, head of ETFs and Index Funds said: “It’s worth noting that today’s microcaps are significantly larger and more liquid than small caps were 5–7 years ago. From a portfolio-management perspective, the fund can comfortably be more than 2x its current size without any liquidity concerns.”
Rapid Market Cap Growth
A study by Ventura found out that companies in the lower deciles of the listed universe have exhibited the fastest compounding in median market capitalization. Between June 2020 to June 2025, the 251st rank has increased in market capitalization by 4.4 times, the 500th by 6.1 times, and 750th by 7.3 times.
It also found out that approximately 83% of small-cap fund portfolios are invested within the top 750 stocks as of November 2025, with the core small-cap segment—comprising stocks ranking 251-750 by market cap— accounting for 63%.
The allocation to stocks ranked 751–1000 stands at 7%, about 20% is allocated to large and mid-caps, and about 6% is held in cash and debt for liquidity purposes.
According to Juzer Gabajiwala, Director at Ventura, many stocks perceived as large- and mid-cap are actually small-cap stocks for fund managers as per AMFI classification.
He cited examples of companies like CDSL, Gillette India, NBCC, PNB Housing Finance, Wockhardt, East India Hotels, Angel One, and Tata Chemicals, which are officially classified as small caps even though investors often think of them as mid-cap–like.
In addition, he said between December 2024 and November 2025, small-cap funds delivered negative returns of roughly 2.4%, yet the category saw net inflows of Rs 53,165 crore. “Patience is the key for any portfolio investing and to create “alpha” one must have smallcaps in the portfolio,” Gabajiwala said.
According to reports, Sebi Executive Director Manoj Kumar said in an event that the challenge is how to categorise small-cap, mid-cap and large-cap stocks in a manner that remains feasible over the long term. “Some have suggested introducing a micro-cap category, but you would have seen that we recently had to intervene in one such case,” he said.
He added that while the final framework may not find immediate acceptance among all industry players, but it is expected to bring long-term stability.
Another industry participant said that SEBI‘s market cap categorisation criteria should not be based on the number of stocks but the percentile method of MCAP. Percentile cutoff for large, mid, small and microcap could be decided based on international best practices, he added.