“Many retail investors chase past returns. A year back, small cap past returns were high, which led to many investors starting SIPs and allocating lumpsum money,” said Anup Bhaiya, MD, Money Honey Financial Services.
Many financial planners believe small cap funds give a greater degree of freedom to fund managers as there are a larger number of companies to choose from. While a large cap fund needs to have 80% of its portfolio in the top 100 companies by market cap, a mid cap fund needs to have 65% in companies ranked 101-250 by m-cap.
By comparison, a small cap fund needs to have a minimum of 65% in small cap stocks, which are ranked 251 and below by market capitalisation, giving it a larger choice of companies. Small cap funds also have higher allocation to segments like capital goods and manufacturing and lower allocation to financials.
In comparison, the broad indices like the BSE Sensex and Nifty 50 are heavy on financials. Financial planners believe based on their risk appetite investors can allocate 5-20% of their portfolio to small- cap funds.
“A large pool of companies is available in this space. Overlapping of portfolios is low across schemes resulting in good diversification. There is visible value addition by fund managers in terms of outperformance to the small-cap benchmark,” said Shital Shah, founder, AG Financial Services.
Shah believes investors could stagger their investments in the small-cap space over the next six months and recommends Franklin India Smaller Companies Fund, Kotak Small Cap and SBI Small Cap Fund to savers.
Over the past one year, small cap stocks represented by the Nifty Smallcap 250 index have lost 5.1%. However, over two years it gained 30.6% and over a three-year period gained 195%.
This correction and a pick-up in earnings post Covid has now made valuations in the small cap space attractive. Fund managers believe investors should hold on to their investments and also stagger their investments to add more.
“While the Nifty is trading at forward P/E of 18x and the Nifty Smallcap index is trading at 15.4x, the valuation differential between large and small cap indices is in line with historic average on an aggregate basis,” said Trideep Bhattacharya, chief investment officer- equities, Edelweiss Mutual Fund.
