Ultimately, the small-cap becomes the mid-cap, the mid-cap becomes the large caps, purely on the basis of a few factors like corporate governance, growth of the company etc.
Small cap mutual funds have on average generated more than 100 per cent over the last 12 months. Yes, you heard it right, some small-cap schemes have doubled investment in just 12 months. But, is it the right way to look at the returns that appears spectacular over the 1-year period? While the 1-year return has been between 100 and 200 percent for most of the funds in the small-cap category, the 3-year average return of Small-Cap funds is around 12 percent annualized.
Therefore, looking at only the 1-year return may not be the right approach. Here’s a better perspective from Rachit Chawla, Founder and CEO of Finway FSC, “It is wrong to say that in one year they gave 100 to 200 per cent returns. Actually, they got eroded by 50 per cent and they went back to their original position so they are still giving generic 12 percent annualized on an average.”
Also, it won’t be wrong to say that not many investors would have invested almost a year back especially at a time when the Covid-19 pandemic has impacted the economy. “One-year returns should not be considered because there are hardly any people who would have bought at the bottom because there is so much fear at that point of time,” adds Chawla.
But, should investors jump onto the small-cap bandwagon? “Performance of small cap funds still, I feel there is a long way to go. If you see the history’s 5 to 6 years pattern, I still feel that they are yet to show their good performance in the long run,” says Chawla.
As an investor, there should be realistic expectations in line with one’s own risk profile and the MF scheme’s risk. Even if the last year’s return has been a sort of aberration, the reason to invest and how much to invest in small-cap schemes should be planned well. To jump from one asset class, one scheme to other without a proper plan is the last thing that you should do.
As per SEBI’s definition, large-cap funds are those which invest in top 100 companies in terms of full market capitalization, while the midcap schemes can invest in 101st to 250th company in terms of full market capitalization.
The small-cap universe is, therefore, huge and represents 251st company onwards in terms of full market capitalization. Remember, these are companies yet to be identified by the market on a larger scale. “Ultimately, the small-cap becomes the mid-cap, the mid-cap becomes the large caps, purely on the basis of a few factors like corporate governance, growth of the company, profitability of the company, valuation of the shareholding etc.”
Therefore, going overboard in small-cap MFs should not be the way forward even if the return expectation is high in the years ahead. “In case of small caps, one should have 30% because I feel these are very high risk, high reward kind of companies. There are multi-baggers that will become mid or large caps in times to come. However, a lot of small caps also shut down and faced a lot of turmoil so I guess 30% could be invested in small caps and 35% in mid-cap, and 35% again in large-cap funds,” says Chawla.
According to Rachit Chawla, Founder and CEO of Finway FSC, some top small-cap funds are:
1. Axis small cap fund
2. SBI small cap fund
3. Nippon India small cap fund
4. Kotak small cap fund
5. HDFC small cap fund
6. ICICI Prudential small cap fund
7. DSP small cap fund
8. L&T Emerging business fund
9. Aditya Birla Sun Life small-capfund
10. Franklin Smaller companies’ fund