How to Handle small cap funds

Mid and small cap funds have been on a free fall. What should you do now?

Here are a few pointers that will help you to navigate these troubled times.

The meltdown in the mid and small cap space is causing a lot of heartburn among investors. With the stock market entering an extremely volatile phase, many dispirited investors are wondering whether they did the right thing by investing in small cap mutual funds. Though it has been an extremely rewarding investment for them, many investors are thinking of abandoning small cap funds. Some investors are also thinking of playing safe by investing in the so-called less-volatile large cap funds. Are these investors on the right track?

The current scenario should serve as a reality check for investors. When the small caps were on top of the pack and there were funds which were up 20 per cent last year, many investors found it difficult to resist the temptation of these funds. Many of these investors claimed at that time they were aggressive investors and they are willing to take risk, but the fact is that they were chasing performance. Now, these investors are feeling the pressure. These investors should remember that the small cap funds have rewarded them handsomely in the last two to three years and they can be hugely rewarding in future.

Here are a few pointers that will help you to navigate these troubled times.

One, always remember that you can do without a small cap fund, especially if you don't have a stomach for the volatility associated with it. You can invest in a multicap fund that invests across market capitalization to benefit from an upside in mid and small cap stocks. Mutlicap funds will have a small allocation to mid cap and small cap stocks.

Two, don't take short-term bets with your investments. If you see your investments go down, don't be in a hurry to get out of them. Sure, it is very unnerving to be in a scenario like in 2008 when there was an erosion of 70 per cent. But you know what happened later. Always remember that mid and small cap cycles take much longer to regain the momentum.

Three, resist the temptation to play safe and bet solely on large cap funds. Be  a strong disbeliever in indexing.( Indexing is a passive investment strategy. An investor can achieve the same risk and return of an index by investing in an index fund. An index fund is a type of mutual fund with a portfolio constructed to match or track the components of a market index, such as the Standard & Poor's 500 Index (S&P 500 ). 

Active management in India still has a long way to go. There will be a big opportunity for investors as many mid cap and small cap companies turn into big companies. Some of these companies may be multi-baggers and you may miss out on the opportunity if you put all your eggs in large cap funds. Also, the large cap space has become very narrow for fund managers to operate in.

Four, don't write off small cap funds in a hurry. On a medium term basis, they still hold out. Look at Franklin Smaller Companies Fund or DSP BlackRock Micro Cap Fund or Reliance Small Cap Fund. If you look at them on a long-term basis and if you look at them from a SIP perspective, these funds turn out to be more rewarding for investors. If you have a long-term orientation, be in high quality small cap and mid cap funds as these funds have demonstrated their capability and strength.

In India, we have a very large listed stock universe and the fund manager is able to bring it down to a universe of about 100-120 stocks and track it closely, validating management. That will be  a significant value addition. If you still need more proof, just look at their three-year returns. They have offered an average return is 27-28 per cent, which is quite substantial.

>