Equity funds are one of the different mutual fund investment options available. They allocate the pooled money to stocks and other equity securities. Equity investments are risky, and you must assess your risk tolerance before investing in these funds. However, like mutual funds, equity funds also come in different types. These variants are categorised according to market capitalisations. One of these equity fund types is small-cap funds.
What are small-cap funds?
The popular types of equity funds are large, mid, and small-cap funds. They allocate funds primarily to the stocks of small-cap businesses. Small-cap stocks belong to unheard businesses beyond the top 250 companies in market capitalisation.
Fund managers select such small-cap stocks performing well and sometimes outperform the benchmark indices. They invest in such stocks of businesses that may become industry leaders and deliver high returns to investors over time. Small-cap funds may deliver better returns than large- or medium-cap funds during a bull market as small-cap businesses might realise their full potential.
Before investing in this fund, compare the small-cap funds offered by different AMCs. After selecting a suitable small-cap mutual fund, determine your investment horizon and amount. You can ascertain your investment amount by using a free online SIP calculator.
What are the features of small-cap funds?
Here are a few features of small-cap mutual funds:
- Small-cap funds must allocate more than 65% of the fund corpus to small stocks according to the SEBI mandate
- They can deliver very high returns because they offer room for growth
- These funds might deliver reasonable returns in the long term
What are the advantages associated with small-cap funds?
Here are the benefits of small-cap equity mutual funds:
- Growth potential
Small-cap funds invest in businesses with a great scope of expansion. These businesses have the potential to grow their operations when compared that fall under large-cap funds.
Adding small-cap stocks to your portfolio containing large-cap stocks and other mutual funds will help you mitigate investment risks. Hence, you can diversify your investments and reduce your overall risk.
- Merger possibility
Small-cap businesses will likely merge with large-cap companies to grow inorganically. Therefore, the share price of small-cap businesses may rise, adding value to the NAV of small-cap funds.
- Low liquidity
Small-cap stocks are traded in the stock market thinly. Although it may look like a drawback, low liquidity might benefit investors foreseeing the company’s potential. Once the small-cap business’s revenue is released, the demand for its shares may rise, increasing the share prices rapidly.
- Undervalued investments
Small-cap companies are usually undiscovered, under-reported, and have low analyst coverage. Undervalued, small-cap equity mutual funds might be a profitable investment opportunity. Investors comfortable with the high-risk levels associated with such companies invest in a small-cap fund.
Who should invest in small-cap funds?
As stated before, people with high-risk appetites are well-suited for small-cap funds. However, before investing in them, you must consider a few factors. Ascertain if you seek capital appreciation, have high-risk tolerance and a long-term investment horizon.