Small Cap Mutual Funds

About Small Cap Mutual Funds

Mutual funds that invest primarily in companies with a market capitalisation below Rs. 5000 crore are called small cap mutual funds. Such companies are usually ranked below 250 in terms of market cap on Indian stock exchanges like the NSE and BSE. Many new investors are often attracted to the high returns projected by small cap funds. However, you must remember that small cap companies are often volatile and vulnerable to major downturns in the market. Hence a 3-year or 5-year annualised return may not be able to fully capture the true value of the small cap funds, especially for investors who view their mutual funds as an investment of a 10-15 year timeline or more.

How Do Small Cap Mutual Funds Work?

Small-cap mutual funds are those that work by investing your capital in the equity of companies that have a market capitalisation of under ₹5,000 crore. On the National Stock Exchange and the Bombay Stock Exchange, the two primary stock exchanges of India, small-cap funds are typically ranked at a position of under 250 regarding their market capitalisation. According to SEBI (Securities and Exchange Board of India), small-cap mutual funds are those that allocate at least 65% of investment into small-cap equity. Even with a ranking that may arguably be in the lower range, such funds may yield high rewards. This is based on the assumption that small-cap companies have potentially immense growth prospects and may give you high returns in the future. Nonetheless, investors may possibly be aware of the fact that small-caps may also have the potential to be volatile and result in possible losses. Small-cap funds give you the potential of a 3 to 5-year annualised return, but this may not be sufficient to adequately gauge the value of small-caps.

Features of Small Cap Mutual Funds

As per the Securities and Exchange Board of India, a small cap fund must be investing equal to or more than 65% of their holdings into small cap companies. Such funds have the following features:

1. Volatility and risk - Because the companies are small, their trajectories are affected by both large and small events. A medium-level increase in revenue or profit, whether from market expansion, deregulation or bagging contracts can trigger their share prices to grow by a disproportionately large percentage. Similarly, a small negative event can make their investors lose faith in the company quickly.
2. High returns - Small cap mutual funds may face a higher risk of closure, but if they make it through tough times, they can generate returns comparatively higher than other categories of funds. The best small cap mutual funds can give over 30% in some individual years, although over time the returns flatten out.

Advantages of Small Cap Mutual Funds

Risks Involved in Small Cap Mutual Funds

Even the top small cap mutual funds face the following risks:

1. Market risk - Small cap companies tend to have a lower market share (and are not considered to be too big to fail). They do not have strong networks of suppliers and distributors. Therefore, they are less likely to retain consumers, partners or employees during major economic downturns. This reduces the confidence among its stockholders to not undervalue their shares during negative events, thus making their stock prices vulnerable to temporary downturns.
2. Financial risk - Small cap companies do not have an abundance of high value stocks to use as collateral in order to obtain loans, nor do they necessarily have large cash reserves. Moreover, small cap companies, being new, are less likely to have enough credibility or network with the financial institutions to obtain funding during such downturns.

Factors To Consider Before Investing in Small Cap Mutual Funds

Small-cap company stock may come from companies that are in the stages of growth and show solid fundamentals and performance prospects, but you must be aware of certain factors when you invest in small-cap mutual funds:

• Before you make any investment, you should conduct some due diligence to assist you in making informed decisions. It is essential to familiarise yourself with small-cap company specifics, such as products/services, history, management, fundamentals, and potential for development, before investing in a mutual fund that invests primarily in the equity of small-caps. You might also look at its present performance in its primary industry.
• Something worth considering before you invest in a small-cap mutual fund is to know whether the fund is suited to your unique personal aims and financial needs. You have to realise that small-cap mutual funds have the “high-return/high-risk” quotient so if you have a high-risk tolerance, you may consider such funds. Besides this, small-cap funds may be suited to those investors who wish to balance their portfolios with certain risky prospects in an otherwise stable portfolio of fixed-income or debt instruments.
• A small-cap fund's Net Asset Value (NAV) is particularly susceptible to the changes of its underlying benchmark. As a result, when market circumstances are not favourable, many small-cap funds experience losses. However, it is also an excellent chance for investors who are ready to take a risk and want rapid growth.
• You may also consider how the fund is being managed and find out about how assets are being allocated by the specific fund manager of the mutual fund in question.

Who Should Invest in Small Cap Mutual Funds?

Small cap mutual funds are high-risk, high return investment avenues. The best small cap mutual funds may show massive returns of above 25% annually, but sometimes they may experience negative returns. This is because small cap companies tend to be comparatively more volatile than mid cap or large cap companies, especially during negative downturns in the market, whether in India or abroad. Therefore, these funds are ideal investments for those who wish to invest with an aggressive risk-taking attitude in order to gain more over a shorter time period but may not have the time or expertise to handle all the investments themselves. They can be used by investors to act as a high-risk but high-return component in an otherwise balanced portfolio that may not be giving too high returns.

Taxability of Small Cap Mutual Funds

There are two aspects of income from a small cap fund - dividend and capital appreciation, both of which are taxed. Dividend taxation - The dividends received are added to the taxable income and are taxed as per the income bracket of the investor. In addition to this, there is a 10% TDS on dividend amounts exceeding Rs. 5000 in a financial year. Capital gains taxation - For capital gains taxation, it is important to know the timeline of the investment. A holding of one year or more is considered as a long term investment for equity funds. If the investor withdraws the small cap mutual fund unit after one year from the date of investment, then a 10% tax on gains above Rs. 1 lakh per financial year must be paid. If the gains are below Rs. 1 lakh then no taxes need to be paid. If the investor withdraws the funds before one year from the date of investment, then a capital gains tax of 15% is imposed in addition to any exit load.

How To Invest in Small-Cap Funds?

Investing in the small-cap Mutual Fund is hassle-free when done through your Angel One account. You just have to follow these simple steps: Step 1: Log in to your Angel One account. Note: In case you do not have an account with Angel One, you can open a demat account with us in under a few minutes by submitting the necessary documents.

Step 2: Choose a small-cap fund that suits your needs and risk profile. You can learn more about each small-cap fund on the Angel One app. Things to consider at this stage are:

1. Search for the fund you want to invest in.
2. Analyse the fund’s past performance, tax incidence, and the sectors and companies it invests in. You can also calculate the potential returns using the calculator.
3. Evaluate the fund’s level of risk, its ratings and expense ratio.

Step 3: Once you finalise the small-cap fund(s) you want to invest in, open your Angel One account, go to the Mutual Funds section, and look for it.

1. Decide whether you want to invest via SIP or make a one-time investment
2. Decide your monthly SIP date. Now, enter the amount you want to invest and choose the payment mode.
3. After placing the order, you can create an AutoPay to make hassle-free future instalments in case of SIP investments.

Top 10 Small Cap Mutual Funds

The following are the top Small-Cap Funds in India:

Bandhan Small Cap Fund

Bandhan Small Cap Fund is managed by Manish Gunwani, Ritika Behera, Gaurav Satra, and Kirthi Jain and was launched on 26 February 2020. It is benchmarked against the S&P BSE 500 index. The fund aims to create a diversified portfolio within the small-cap space by following a three-pillar stock selection strategy focused on quality businesses, strong growth potential, and reasonable valuations. It has an expense ratio of 0.47%, indicating moderate fund management costs compared to peers.  
 

ITI Small Cap Fund

ITI Small Cap Fund scheme is managed by Dhimant Shah and Rohan Korde and was launched on 17 February 2020. It is benchmarked against the S&P BSE 500 index. The fund seeks to achieve capital appreciation by mainly investing in equity and equity-related securities of small-cap companies, although there is no guarantee that the investment objective will be met. It charges an expense ratio of 0.42%, which is relatively low and helps improve net investor returns. 
 

Invesco IndiaSmallcapFund

Invesco India Smallcap Fund is managed by Taher Badshah and Aditya Khemani and was launched on 30 October 2018. It is benchmarked against the S&P BSE 500 index. The fund aims to deliver capital appreciation by primarily investing in shares of small-cap companies. It has an expense ratio of 0.40%, making it one of the more cost-efficient options in this category. 

Mahindra Manulife Small Cap Fund

Mahindra Manulife Small Cap Fund is managed by Krishna Sanghavi and Vishal Jajoo and was launched on 14 December 2022. It is benchmarked against the S&P BSE 500 index. The fund aims to achieve long-term capital appreciation by investing in a diversified portfolio of equity and equity-related securities of small-cap companies, though there is no assurance that the objective will be fully realised. It carries an expense ratio of 0.44%, reflecting reasonable management expenses. 

Nippon India Small Cap Fund

Nippon India Small Cap Fund is managed by Samir Rachh, Kinjal Desai, Divya Sharma, and Lokesh Maru and was launched on 16 September 2010. It is benchmarked against the S&P BSE 500 index. The fund’s primary objective is to achieve long-term capital appreciation by mainly investing in equity and equity-related instruments of small-cap companies, while its secondary objective is to generate steady returns through investments in debt and money market securities. It shows a higher expense ratio of 0.64%, which may slightly reduce overall returns despite its large AUM.

Sundaram Small Cap Fund

Sundaram Small Cap Fund is overseen by fund manager Rohit Seksaria and was launched on 1 January 2013. It uses the S&P BSE 500 as its benchmark. The fund aims to generate capital appreciation by primarily investing in a diversified portfolio of companies that are typically classified as small-cap stocks. It has an expense ratio of 0.82%, placing it among the higher-cost funds in the segment.

DSP Small Cap Fund

DSP Small Cap Fund is managed by Vinit Sambre and was launched on 14 June 2007, with the S&P BSE 500 serving as its benchmark. The fund’s main objective is to achieve long-term capital growth by investing largely in equity and equity-related securities of small-cap companies. At times, the fund manager may also invest in other equity or related instruments to help maintain an optimal portfolio structure. It also charges a relatively high expense ratio of 0.80%, which investors should consider alongside performance.

Edelweiss Small Cap Fund

Edelweiss Small Cap Fund is managed by Trideep Bhattacharya, Dhruv Bhatia, and Raj Koradia and was launched on 7 February 2019, with the S&P BSE 500 as its benchmark. Its primary aim is to achieve long-term capital appreciation by investing mainly in equity and equity-related securities of small-cap companies. It maintains a lower expense ratio of 0.42%, supporting better cost efficiency for investors. 

Bank of India Small Cap Fund

Bank of India Small Cap Fund is managed by Alok Singh and Nav Bhardwaj and was launched on 19 December 2018, with the S&P BSE 500 as its benchmark. The fund aims to deliver long-term capital appreciation by investing mainly in equity and equity-related securities of small-cap companies. However, there is no guarantee that the stated investment objective will be achieved. It has an expense ratio of 0.53%, representing moderate management costs. 

Quant Small Cap Fund

Quant Small Cap Fund is managed by Sanjeev Sharma, Ayusha Kumbhat, Ankit A. Pande, Yug Tibrewal, Sameer Kate, Sandeep Tandon, and Varun Pattani, and it was launched on 1 January 2013 with the S&P BSE 500 as its benchmark. The fund’s primary objective is to achieve capital appreciation and offer long-term growth by investing in a portfolio of small-cap companies. However, there is no guarantee that the investment objective will be met. It carries an expense ratio of 0.81%, which is on the higher side within the small-cap fund category.