Many market watchers think now is the right time to invest in small and mid-cap mutual funds. According to data released by the Association of Mutual Funds in India, the mid-cap fund category rose from Rs.491 crore in April to Rs.1272.68 crore in May. Whereas, the small-cap mutual fund category hiked from Rs.955.83 crore in April to Rs.1415.86 crore in May. Experts also believe that due to the one-year forward price-to-earnings ratio below the historical averages, the valuations in small-cap and mid-cap segments have become more appealing for investors.
Choosing small-cap and mid-cap funds with growth opportunities
New opportunities in both these mutual fund segments seem to be emerging as an increasing number of fund managers are accepting fresh flows. However, they are still restricting the amount through Systematic Investment Plans (SIP) which hints that investors need to exercise caution when they invest in mutual funds.
A popular choice for investors
When you look at the historical performance of both the mutual fund segments in a bullish market, they have outperformed the larger sector by a significant margin. For example, the average returns from the top five funds in the small-cap category were 45% higher than the large-cap category in the bull market of 2017. Over the five-year and seven-year investment horizons too, the large-cap segment has lost to the small-cap and mid-cap segments in terms of returns.
The best environment for investing
Mutual fund investment in small-cap and mid-cap segments have a higher probability of performing well during the economic recovery phase when interest rates are low. During this phase there are more growth opportunities and the smaller size of these segments makes them more responsive. Even during sluggish periods, the small-cap and mid-cap segments are known to bounce back quickly. If you are a long-term investor, you can continue with SIP investments and Systematic Transfer Plans to invest in small-cap mutual funds.
However, it is essential to note that small-cap funds carry a higher risk rate as compared to mid-cap funds and large-cap funds to commensurate with the higher returns. Thus, if you are planning for mutual fund investment in that segment, having a longer time frame of seven to ten years can make sense. Investing at different points in the market cycle lets you enjoy the benefit of rupee cost averaging and gives your investment time to grow. Furthermore, some experts recommend investing not more than 2% to 3% in small-cap funds and 5% in mid-cap funds for a balanced portfolio.
If you are a new investor, you can start by understanding what is a mutual fund and how do SIPs in mutual fund work. Once you know how to invest in SIP, you can invest in small and mid-cap mutual funds based on your risk appetite. A good time to start investing is when the economy begins to emerge from recession, and there are plenty of growth opportunities to exploit.