Factors to Consider While Investing in Small Cap Funds
By Akhil Chugh
Date May 6, 2021
What are Small Cap Funds?
Small Cap funds are those which invest a major portion of their investible corpus into equity or equity related instruments of small cap companies. As per SEBI, small-cap companies need to invest min 65% in small cap of their total assets in small-cap companies. Small-cap companies are those which are ranked 251 and beyond in terms of market capitalization.
Small Cap funds typically have the highest growth potential since the underlying companies are young and seek to expand aggressively. Quality small caps can be a great investment opportunity in the long run.
Small Cap funds promise to capture the growth stories early on by investing in tomorrow’s mid cap or large cap companies. Being small has its set of advantages; management is active enough to capitalize on business opportunities during the good times. However, when the tide turns, they are also the most vulnerable and volatile.
Small Cap Funds are ideal for aggressive investors who seek higher returns and are comfortable with high volatility.
Relative Performances of Different Small Cap Funds Over Different Time Periods
Disclaimer: Past performance of the scheme / AMC / Mutual Fund is not indicative of future performance of the scheme.
Things to Remember While Investing in Small Cap Funds:
1. High Risk-High Return:
Small-cap Mutual funds face high market risk. Any changes in the market will reflect a change in the fund’s net asset value (NAV). At a point when the market is bearish, the small-cap fund will in general experience a fall. Amid market volatility, smaller and less-established organizations may also leave the business. Then again, when the market is bullish, the small-cap funds have an incredible capacity to deliver more outstanding returns than other mutual fund types. Small-cap funds is suitable for an investor with high risk appetite.
2. Investment Horizon:
Patience is the key virtue for successful investing in small-cap funds. Minimum holding period should be 7 years plus to beat the market volatility & earn returns from small cap funds.
3. Check the P/ E Ratio:
The P/E ratio is useful to understand the fundamental growth ability of the fund. It will give a good idea of how much your fund is overpaying for growth. Small-cap mutual funds having a P/E ratio of above 30x – 40x are inspected as costly.
4. Fund Manager’s Experience:
Check fund managers past performance record of the various other funds managed by him. Investing in small cap funds is extremely challenging – it is about identifying promising companies, taking meaningful stakes well in advance, and hold on to them patiently to make money. Only a very few fund managers have managed to deliver superior reruns over a long period.
5. Fund House Quality:
Don’t invest based on near term or one-year returns. Instead look for consistent and stable funds from reputed fund houses with experienced fund managers.
6. Investment Philosophy:
Investors should be comfortable with the investment philosophy of the funds they are looking at and it should be in line with their portfolio objectives. This is of particular importance during periods of increased volatility when investor patience can be severely tested and it will also help them stay invested to truly benefit in the long term.
7. Don’t Over-invest:
Small-cap funds should ideally be 10-15% of investor’s overall portfolio. Small-cap companies do have great potential for growth but they also carry a significantly higher level of risk. Thus, small-cap funds should not be part of your core portfolio. Net Brokers suggests to take a calculated exposure to small-cap funds.
Before investing in Small-cap mutual funds, one must keep in mind the amount of risk they can handle, their financial objectives, investment horizon and the P/E ratio. These are some parameters one should always keep in mind before deciding to invest in the lucrative, but risky small-cap mutual funds.
Net Brokers believes investing in small-cap funds can boost investor’s portfolio returns significantly. Invest in small-cap mutual funds through a systematic investment plan (SIP). It will average out the cost thus decreasing the impact of volatility.
Invest in right small-cap funds with us.
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Happy Investing!