Whether you are a retail investor, an avid saver looking at diversifying your basket of eggs, or new to investment altogether, terms like small-cap and mid-cap are bound to catch your attention.
In this article, we dive deeper into understanding what these terms mean and whether you should opt to invest in large-cap or small-cap stocks.
In India, the Securities and Exchange Board of India (SEBI), the financial markets regulator, has classified large-cap, mid-cap and small-cap companies as follows:
a. Large Cap: 1st – 100th company listed on the stock exchange in terms of full market capitalization*
b. Mid Cap: 101st – 250th company listed on the stock exchange in terms of full market capitalization*
c. Small Cap: 251st company onwards listed on the stock exchange in terms of full market capitalization*
*Market capitalization is a component that helps you determine how large a company is.
Overview of Small-Cap and Large-Cap Stocks
| Parameters | Small-cap stocks | Large-cap stocks |
| Nature of Co. | Smaller companies (in terms of market valuation) with smaller stocks | Mature and established companies with larger stocks |
| Track Record | Relatively short track record | Good track records |
| Market Value | Negligible market presence, thus relatively low market value | Significantly high market value/ cap and market presence. |
| Market Cap | Companies with a market cap of > INR 5,000 crores | Companies with a market cap of < INR 20,000 crores |
| Risk & Return | Higher risk with the potential for growth and good returns | Lower risk with consistent returns |
| Volatility & Liquidity | More volatile & less liquid | Less volatile & more liquid |
Investment Objectives and Risk Tolerance
When it comes to investing in financial markets, research comes first. Then comes the acknowledgement of your risk tolerance and understanding of your financial goals.
For instance, while small-cap stocks are more volatile, large-cap stocks are stable and mature. Small-cap stocks seek aggressive growth when compared to large-cap companies. While small-cap stocks pose a greater risk, large-cap stocks are not risk-averse.
Note: Small-cap investors generally invest in these stocks strictly after undertaking extensive research on the company in question.
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Historical Performance
Specifically, since April 2023, the Nifty Small-Cap index has been on a consistent upward trend. In fact, both Nifty Small-Cap and Nifty Mid-Cap indexes reached their record highs in September 2023.
Due to their high volatility, general focus on growth, bullish momentum in the market, and other factors, small-cap stocks have garnered greater retail investor interest. In recent times, as India’s large-cap indices showed plateauing returns, it is observed that investor interest has been piqued to diversify their portfolios by investing in small-cap stocks.
However, as a mature investor, analysing historical data and understanding the cyclical nature of the market is important. In the present case, while small and mid-caps are outperforming the larger indices now, it is not a guaranteed continuation and, hence, may see a role reversal in the coming months.
Combination of Large-Caps & Small-Caps: Benefits of Diversifying your Portfolio
Financial markets are a battleground of analysis. Hence, putting all your eggs in one basket is not the best idea. This general guide below along with a clear understanding of your personal risk tolerance can help you diversify your stock holding:
- Large-cap – 40% – 50%
- Mid-cap – 30% – 40%
- Small-cap – 30% – 40% (or lower if you want to further diversify into international stocks and bond market)
Research Guidelines to help you invest
- The What-When-Where-How
Develop an understanding of what the company does and its sources of revenue generation.
- Financials – The key metric
Numbers will show you the mirror in black and white. Undertaking a thorough analysis of the financials can solidify your decision.
- What’s Trending
Price charts and stock trends could be a great way to develop a deeper understanding of the stock performance in question.
- Beyond the Numbers Game
The company’s competitive advantage, its expansion plans, the prevailing economic conditions, etc., could make your investment decision more definitive.
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Investment Strategies: Long-term vs. Short-term
Let’s find out whether your choice of investment is beneficial in the short-term or long-term.
| Parameters | Short-term investment strategy | Long-term investment strategy |
| Time period | Aimed at making quick gains; assets held for shorter periods (days/ months) | Gradual building of wealth involving holding of assets for elongated periods, even decades |
| Focus of investment | Rooted on technical analysis thus focused on capitalising on current market fluctuations | Rooted on fundamental analysis where investors evaluate the financial health, expansion plans, and competitive advantages of the company |
| Short-term fluctuations | Investors are required to make rapid decisions since investments are based on short-term price movements | Investment decisions based on long-term perspective instead of short-term market fluctuations |
| Tax implications | Depending on the country’s tax regime, oftentimes, short-term capital gains (STCG) can attract higher taxes (In India, STCG is 15%) | Depending on the country’s tax regime, oftentimes, long-term capital gains (LTCG) may have favourable tax treatment (In India, LTCG is 10%) |
| Suitability | Suitable for investors with more experience and risk appetite | Suitable for conservative investors aiming to build retirement funds, save for major events/ future generations, etc. |
Conclusion
In this article, we delved into the basics of large-cap and small-cap stocks, the risks involved in both, and the benefits of diversifying your portfolio into a mix of both.
While large caps are known to be more secure, there’s one person that does come to mind when dealing in small-cap stocks. Porinju Veliyath, the founder of Equity Intelligence. One of the most successful small-cap investors in recent times, also known to be the small-cap king, Porinju believes that to solve the riddle of how small-cap stocks can help you build a successful portfolio, well-done research coupled with knowing when to exit is crucial instead of ‘getting greedy.’
Your success in financial markets depends on your alignment with two key aspects. Your risk tolerance and your financial goals, i.e., the objective of your investment.
Don’t be greedy, spend time on research, be vigilant with your choice of investments, and be honest about your risk appetite.
This article has been written by Shlok Srivastav, Co-founder and COO, Appreciate, a fintech platform for Savings and investment.
Disclaimer: Views expressed above are those of the author. They do not reflect the views of financialexpress.com. Please do your own research and consult a SEBI-registered investment advisor before investing in any market-linked instrument.