The changes in the market has provided investors an ideal opportunity to rethink their allocations. So regardless of whether you’re re-evaluating your portfolio or starting fresh, you will be thinking about how to allocate your funds among small cap, mid cap or large cap schemes. In this article we will look at how to go about this decision.

What are large, mid and small cap schemes?

Many new investors may not know the underlying difference between the three types of schemes. Equity mutual funds are generally categorised on the basis of the market capitalisation of the companies they invest in. 

1. Large cap: These are funds in which at least 80% is made up of stocks from large cap companies. Large cap companies are seen to be more trustworthy and generally come with a strong track record. Among the three categories, large caps funds come with the least risk.
2. Mid cap: In this category of funds, approximately 65% of their total assets are allocated towards equity and equity related instruments of mid cap companies. Over time, the companies in the mid cap section could become large cap companies. In that case, they are very good investments for people looking for growth opportunities with controlled risks. 
3. Small cap: These are funds where around 65% of the total assets are invested in stocks of small cap companies. Small cap companies are generally newer entrants into the market or comparatively smaller in size than companies of the other two categories. While they have potential for growth, they come with a high amount of risk and are suitable for investors with a high risk tolerance. 

How to go about making allocations?

In an ideal scenario, you expect your equity portfolio to provide stable returns over the long term, which is around a 7-10 year period. Mutual funds are the perfect instruments to make use of in this case. Although returns from some funds in the small and mid cap category have seen sharp rises during periods when the markets are rallying, there is no evidence to show that in a long term situation, these types of funds outperform large cap funds. While you may be able to reap higher benefits in the short term, where you are able to capture the high return and exit, these come with higher risks. 

Then, a better metric to decide how to go about making your allocations is based on the funds’ diversification and looking for consistency in performance across market highs and lows. By looking at these factors you will be able to choose funds that have a higher probability of delivering your expected inflation plus return in any long term period, regardless of whether they are small cap, mid cap or large cap schemes. This will also give you an idea about the capabilities of the fund manager, which can be extremely pertinent to the fund’s success. Once you have shortlisted a few schemes to invest in, then you can make allocations in accordance with your risk profile. 

Takeaway

When it comes to thinking about how to organise your mutual fund allocations, market capitalisation – small cap, mid cap or large cap schemes – may not be the most optimal way to go about it. Make choices based on diversification and past performance instead. However, make sure you consult a professional financial advisor to ensure that your choice of funds fit your portfolio’s risk tolerance and asset allocation strategy before you finalise on your decision.