Time to buy midcap Mutual Funds

 

While the small-and-mid-cap funds outperform their large-cap peers during market upturns, don't allocate more than 30% of your portfolio to these

 

After an extended period of lacklustre returns last year, the stock market has made a comeback of sorts, clocking healthy gains this year. The benchmark index, BSE Sensex, has gained 21%, year to date, due to an improvement in the market sentiment after the recent announcement of reforms by the government. This upbeat mood has particularly helped stocks in the smaller market capitalisation categories, with the BSE Mid-cap index surging 29%, and the BSE Small-cap index gaining 27%.

For mutual fund investors, this turnaround has yielded generous returns, though those invested in midcap oriented funds have gained more. According to Value Research, a mutual fund research firm, mid- and small-cap funds have delivered an average three-month returns of 10.4%, beating their large-cap peers, which delivered 8.27%. If you don't have a mid-cap fund in your portfolio, it may be time to consider investing in one. However, be careful about the additional risk associated with such funds.

The advantages

The smaller size of operations for companies in this segment leaves sufficient room for rapid expansion. The company can be expected to grow at a faster pace than a larger and more established firm. The investors who put their money in a company in its nascent stage can participate in its growth as the stock is likely to yield higher returns during this phase of growth. Some of the quality stocks in this segment may also become blue chips in the future, possibly becoming multi-baggers in the process. In a developing economy like ours, the growth potential of smaller companies is extremely high.

Besides, these stocks tend to rise more sharply when the broader markets are on an upswing. While the large-caps typically lead the market at the start of a rally, the mid- and small-caps tend to outperform by a big margin over time. In any sustained uptick in the market, this category can deliver a superior performance.

Take a measured approach

It is easy to be swayed by the performance of mid- and small-cap funds when the market is on a roll. However, these funds are inherently more sensitive to changes in the market sentiment, which makes them a highrisk bet during a downswing. As the table shows, this fund category tends to lose more during such periods. So, you should ideally take limited exposure to these funds, investing in a staggered manner through a systematic investment plan.

Due to their inherent volatility, mid- and small-cap funds are more suited to investors with a slightly higher risk profile, except in the case of dividend yield funds, says Dhruva Raj Chatterji, senior analyst, Morningstar India. As a thumb rule, the core of your fund portfolio (around 70%) should comprise largecap funds or large- and mid-cap funds. The allocation to mid-cap oriented funds should not exceed 30% of the portfolio at any time. Even a conservative allocation to a good mid- and small-cap fund can provide a boost to your portfolio. However, if you already have a large- and mid-cap fund as part of your core holding, you should not take undue exposure to this category.

Portfolio composition

While large-cap funds are similar in several aspects, this is not the case with mid- and small-cap funds. They differ vastly in terms of the investment universe, extent of diversification and investing style. Scheme portfolios can vary starkly across fund houses as the universe of stocks in this segment is huge and fund houses define the space in their own way. This is why, on the one hand, we have a fund like Reliance Equity Opportunities, which has a weighted average market capitalisation of 14,500 crore, while on the other hand, there is ICICI Prudential Mid-cap fund with a weighted average market capitalisation of 1,618 crore. Some schemes may have a distinct mid-cap focus, while others may have a higher allocation to small-caps. Besides, this segment includes dividend yield funds, which invest purely in stocks with a track record of high dividends.

In terms of portfolio diversification, the mid- and small-cap fund category has a much higher number of stocks. Since investing in these stocks is more risky than investing in largecaps, the fund managers prefer to lower the risk by widening the net. They tread more carefully because there is a greater possibility of a company not meeting expectations. As such, the level of concentration in the top holdings of the schemes in this category is much milder than that among large-cap funds.

Choosing the right fund

The peculiar nature of mid- and small-cap funds, as well as the diversity in this category, can make it tough for investors to pick the right one. As explained earlier, such a fund should only complement your core mutual fund holding to add zing to the overall returns. While choosing a fund in this category, ensure that it has a sufficiently long track record of delivering consistent top-quartile performance. Avoid funds with a higher exposure to small-cap stocks.

Once you zero in on the right fund, invest systematically for the long haul and do not pull out your money when the fund stumbles during a downturn. If you already have a mid- and smallcap fund in your portfolio, review its performance at this juncture. If it has failed to perform satisfactorily over the past six months compared with its peers in the same category, you may want to switch over to a better offering.

 

Happy Investing!!

We can help. Call 0 94 8300 8300 (India)

Leave your comment with mail ID and we will answer them

OR

You can write back to us at PrajnaCapital [at] Gmail [dot] Com

---------------------------------------------

Invest in Tax Saving Mutual Funds ( ELSS Mutual Funds ) to upto Rs 1 lakh and Save tax under Section 80C.

Invest Tax Saving Mutual Funds Online

Tax Saving Mutual Funds Online

These links can be used to Purchase Mutual Funds Online that are regular also (Investment, non-tax saving)

Download Tax Saving Mutual Fund Application Forms from all AMCs

Download Tax Saving Mutual Fund Applications

These Application Forms can be used for buying regular mutual funds also

Some of the best Tax Saving Mutual Funds available ( ELSS Mutual Funds )

1. ICICI Prudential Tax Plan Invest Online
2. HDFC TaxSaver Invest Online
3. DSP BlackRock Tax Saver Fund Invest Online
4. Reliance Tax Saver (ELSS) Fund Invest Online
5. Birla Sun Life Tax Relief '96 Invest Online
6. IDFC Tax Advantage (ELSS) Fund Invest Online
7. SBI Magnum Tax Gain Scheme 1993 Invest Online
8. Sundaram Tax Saver Invest Online
9. Edelweiss ELSS Invest Online