Why invest in small caps now?
That same principle can be applied to differences in companies' size, small cap versus large cap for example, and on that basis, small cap stocks are due a period of strength. They have underperformed for a while, but over time, they outperform large cap, and that relationship will be restored at some point in time.
High Growth Potential
Small cap funds primarily invest in companies with smaller market capitalisations, which often have significant growth potential. These companies are at an early stage of development and can experience rapid expansion, leading to higher returns for investors.
Consider risk appetite and investment horizon before choosing small cap schemes. ETMutualFunds did some data crunching and found that only Quant Small Cap Fund gave double-digit returns on lumpsum investments in 2024 so far. There were around 27 smallcap schemes in the market during the said period.
The big headwind for small caps was the sudden revival in interest rates in 2022. However, expected higher earnings momentum, the record valuation gap to blue chips, stabilising interest rates and reasonable economic growth speak in favor of small caps in the medium term.
Small-cap stocks may be risky, but they offer the kind of life-changing growth that you won't typically find in large caps. If you've ever wished you could invest in the next Amazon (AMZN 3.43%), then small-cap stocks are probably a good choice for you.
Small-cap mutual funds perform well over a long period of time. However, over a short period of time, they tend to be very volatile. So if you plan on withdrawing/redeeming your money from the mutual fund early, you could suffer losses. Sure, you could also make gains, but there is always the risk.
Small Caps Trail the Market
“We haven't seen a positive inflection higher in earnings, margins, and forecasted growth for small-cap companies as we have for some of the larger growth cohort,” Akullian says. That's not to say they won't ever break out. “They will certainly have their day,” she adds.
Long-Term Investors: Small-cap investments can be volatile in the short run, making them suitable for investors with a time horizon of seven years or more. Over the long duration, small-cap funds have the potential to generate significant returns.
In an analysis of foreign and U.S. investments from December 1998 through June 2023, researchers at index provider MSCI found that small-cap stocks outperformed large firms over 15-year periods about 9 in 10 times.
Reasons for midcap and smallcap fund fall
Valuation Concern: The elevated valuations in the small and midcap segments have been a concern for a while. The valuations are at a much higher valuation, and it is not sustainable. Therefore, a correction was due as there was little scope for further upside.
Why not to invest in small-cap stocks?
Small-caps are also the last to participate in a bull market. So if you own a small-cap heavy portfolio, and a bear market arrives, you may need to hang on for the next 8-9 years to get back to a good return. With large-caps, the losses are shallower and the recovery is much quicker.
Small-cap stocks tend to grow at faster rates than their large-cap counterparts. They can also lose profit more quickly due to their size.
A Risky Proposition
A major risk for low-priced securities is the limited amount of publicly available information. Many of these securities are issued by small or emerging companies, which can make it difficult to find comprehensive information about the company's finances or business model.
This Is Their Real Test. Small stocks have popped in the past few days, outpacing the large-cap S&P 500.
Mid caps may offer more growth potential than large caps, and possibly less risk than small caps. Small-cap stocks tend to be, on average, least developed publicly traded companies, although there are exceptions.
This dispersion of returns has led to small-cap value stocks being extremely cheap compared to the S&P 500. Combined with the narrowness of returns within the S&P 500, such conditions have historically provided an opportunity for strong reversion, with small-cap value stocks outperforming.
Investors who have a high-risk appetite and a long time horizon to invest can choose Small Cap mutual funds. Q5. What is the distinction between small-cap versus mid-cap mutual funds? In India, funds are classified as large-cap, mid-cap, or small-cap based on their market capitalization.
Small, but mighty
Not only have small-cap stocks historically outperformed their larger peers, but they've done so strongly, by an annual average of more than 300 basis points (bps), and consistently, more than 69% of the time (Figure 1).
How much of a portfolio should be in small caps? An average investor may generally want to allocate 20% of their investment portfolio in small caps. This would depend on your risk tolerance, time horizon and goals as an investor. High risk investors may consider a portfolio of 50% in small caps.
Small-cap formatting works by scaling down regular caps. But compared to the other characters in the font, the fake small caps that result are too tall, and their vertical strokes are too light. The color and height of real small caps have been calibrated to blend well with the normal uppercase and lowercase letters.
What is the average annual return for a small-cap fund?
Small Cap mutual funds
And the small cap stocks refer to the scrips of companies ranked lower than the top 250 companies, according to their market capitalisation. The average one-year return for small cap mutual funds stood at 34.29 percent, the MorningStar data shows.
The small cap funds offered an average return of around 17.48% in a five year period. Small cap schemes are benchmarked against Nifty Smallcap 100 - TRI, Nifty Smallcap 250 - TRI, and S&P BSE 250 Small Cap - TRI.
Small Cap Mutual Funds: Up to 2. Given how high the risk is with these mutual funds, it is best to limit yourself to a limited number of small cap mutual funds.
Investing in small caps during recessions has generated superior investment returns, according to our back-testing of the data to the late 1980s (see Table 1, below).
Market Volatility and Risk Management
If a fund consistently underperforms over multiple periods and fails to deliver satisfactory returns, consider exiting the investment. Research and select funds with a similar investment objective but better track records and performance history to redirect your investments.
