"UNCOVERING HIDDEN GEMS: SMALL CAP FUNDS AND THE ROAD TO THE WEALTH"
If you are an adventurer and you are fond of taking big bets then this ‘Small-cap fund’ scheme might surprise you. In the vast landscape of investment opportunities, small cap funds stand out as a light of growth potential. These funds offer investors a chance to tap into the dynamism of smaller companies with promising prospects. Understanding Small-cap Funds Small cap funds are mutual funds or exchange-traded funds (ETFs) that primarily invest in the stocks of companies with relatively small market capitalizations. Market capitalization refers to the total value of a company’s outstanding shares of stock. Small cap companies typically have market capitalizations ranging from a few hundred million to a few billion dollars. ‘Small cap funds’ are those equity oriented funds which invest in small-cap companies which have a market capitalization less than Rs. 5,000 crores. In the short to medium term, these funds are riskier and more volatile than other equity funds, but they offer larger long term returns
Characteristics of Small-Cap Funds
You see, People have a strong belief that investing in a ‘Small-Cap-Fund’ scheme will lose their money but on the other hand, investing in this scheme also has numerous advantages. They are as follows :
1. Growth Potential: Small cap companies are often in their early stages of growth, with innovative business models or products that have the potential to disrupt industries and generate substantial returns for investors.
2. Volatility: Due to their smaller size and less-established nature, small cap stocks tend to be more volatile than large cap stocks. This volatility can lead to significant fluctuations in the value of small cap funds over short periods.
3. Diversification: Small cap funds typically invest in a diversified portfolio of small cap stocks across various sectors, reducing the risk of individual company failures impacting the overall fund performance.
4. Long-Term Investment Horizon: Investing in small cap funds requires a long-term perspective to weather the short-term volatility and benefit from the growth potential of these companies over time.
Benefits of Small-Cap Funds
1. Potential for Higher Returns: Historically, small cap stocks have outperformed large cap stocks over the long term, offering investors the potential for higher returns.
2. Portfolio Diversification: Including small cap funds in a diversified investment portfolio can help spread risk and potentially enhance overall portfolio returns.
3. Exposure to Emerging Trends: Small cap companies are often at the forefront of innovation and can provide exposure to emerging trends and industries that may not be fully represented in larger companies.
4. Market Inefficiencies: Your money is managed by professional fund managers. You see, Small-cap stocks are often less followed by analysts and institutional investors, leading to pricing inefficiencies. They can capitalise on these price inefficiencies through in-depth research and active management.
Risks of Small-Cap Funds
While small-cap funds offer attractive growth potential, they also come with inherent risks that investors should be aware of. They are as follows :
1. Volatility: The higher volatility of small cap stocks can lead to larger fluctuations in the value of small cap funds, which may not be suitable for all investors, particularly those with a low risk tolerance.
2. Liquidity Risk: Small cap stocks may have lower trading volumes compared to larger, more established companies, making it more difficult to buy or sell shares at desired prices, especially during periods of market stress.
3. Business Risk: Smaller companies may face higher business risk due to factors such as limited financial resources, competition, and dependency on key personnel or products.
Considerations for Investors
1. Risk Tolerance: Investors should assess their risk tolerance and investment objectives before allocating funds to small cap investments.
2. Time Horizon: Small cap funds are best suited for investors with a long-term investment horizon who can withstand short-term fluctuations in value.
3. Diversification: Small cap funds should be part of a well-diversified investment portfolio that includes a mix of asset classes to mitigate risk. So, it is advisable to research the fund's investment strategy, historical performance and portfolio holdings before investing.
How to identify the best small cap stocks/funds to buy ? Before getting into identifying the best amongst the lot, let’s spend some time in understanding the small cap equity fund definition. Simply put these are funds which comprise of small cap stocks we discussed above. These are generally managed funds which charge a fee for active management. This benchmark, groups together selected small cap stocks to measure and understand the market movement. Benchmark index is useful to compare performance of a portfolio against the larger market; generally the portfolio should outperform the benchmark.
There are quite a few small cap indexes in India to pick from:
Nifty Small Cap 100 Index
BSE Small Cap Index
BSE Small Cap 250 Index
BSE Small Cap Select Index and more.
The BSE Small Cap Index is the best benchmark among these to measure the performance of small cap stocks since it represents a broader group of companies and is therefore a better indicator. The BSE Small Cap Index hosts 898 companies versus 250 companies in BSE Small Cap 250 Index. This benchmark has also posed a higher hurdle for fund managers to beat. The best measure of a good small cap equity fund is its performance against the BSE Small Cap Index benchmark. The best small cap mutual funds to invest in is the one that beats the benchmark significantly.
Want to know how to invest in small cap stocks without researching companies and with well-rounded risk mitigation? Buying the index is a great way for investors to invest in the small cap basket and achieve a diversified portfolio within the small cap space. This could be a good alternative to researching the best small cap stocks to invest in or checking for the best performing small cap stocks.
Some of the prominent examples with providing best results of ‘Small Cap funds’ scheme are as follows -
1. ‘Franklin India Smaller Companies Fund’ has provided 24.54%; 25.51%; 34.41% in the last 10 years, 5 years and 3 years respectively.
2. ‘Edelweiss Small Cap Fund’ has provided 33.94%; 24.53%; 49.73% in the last 3 years, 2 years and 1 year respectively.
3. ‘Nippon India Small Cap Fund’ has provided 29.84%; 32.27%; 40.28% in the last 10 years, 5 years and 3 years respectively.
CONCLUSION
Small cap funds offer investors an opportunity to tap into the growth potential of smaller, emerging companies. While they come with higher volatility and risks compared to larger companies, small cap funds can potentially deliver higher returns over the long term. However, investors should carefully assess their risk tolerance and investment objectives before allocating funds to small cap investments and ensure proper diversification within their overall portfolio. By understanding the characteristics, benefits, risks, and considerations associated with small cap funds, investors can make informed decisions to unlock growth potential in their investment portfolios.
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