Can mid- and small-cap MFs weather the storm?

Mid-cap and small-cap schemes are utilizing a combination of cash and large-caps to manage any potential redemption pressures. Most funds are doing a pretty decent job in maintaining adequate cushion in terms of catering to this liquidity need. NIRAV R. KARKERA, head of research, Fisdom

Investors must have realistic expectations, which means knowing that if a fund/market segment has done well in the past, it may not continue to do so with the same magnitude in the near future. KAUSTUBH BELAPURKAR Director (fund research), Morningstar

Amid the rage for mid- and small-cap investments in recent years, a sense of nervousness is palpable. Impressive returns in the past have led to frenzied interest from retail investors in this space. As a result, the segment is showing some signs of overheating, which some fear could trigger a correction in the near term. Taking cognizance of the situation, the Association of Mutual Funds in India (Amfi) has requested fund houses and managers to take pre-emptive steps to safeguard investors. Some have already started implementing corrective measures. Mint takes stock of the mid- and small-cap mutual fund (MF) schemes and examines how they are placed for the time when the tide turns.

Problem of plenty

Mid-cap and small-cap funds have lately been a prime destination for retail money invested through equity schemes. Such funds received 42% of the total inflows into domestic equity MFs in the first 10 months of 2023-24, up from 30% in 2022-23.

Frothy valuations

Amid this euphoria, fund managers have their task cut out to spot the gems. In their search for newer investments, they have been lapping up more small-cap stocks than mid-caps. Yet, limited information about the small-cap space leaves a very limited basket available for investment. With all the money chasing a limited set of stocks, rising inflows have set valuations soaring in some pockets, which could get worrisome going ahead.

Pressure points

Inflows have also fed into the prices of mid-cap and small-cap stocks. Both the Nifty Midcap 150 and Smallcap 250 indices have risen stupendously, by over 50% in the fiscal year so far. However, the big gainers in these categories have often been the ones with inadequate free float component (i.e. a small pool of shares available for trading by the public). This could put fund houses at liquidity risk in the event of any steep redemption pressure. % share of free float component in top-gaining stocks in mid-cap/small-cap category in past year