Multi-cap mutual funds are equity mutual fund schemes which invest in stocks across different market capitalization segments. Market capitalization of a stock is the share price of the stock multiplied by the number of shares outstanding. The market regulator, SEBI, has defined three market capitalization segments. The top 100 largest stocks by market capitalization are classified as large cap stocks, the next 150 stocks based on market capitalization are classified as midcap and the remaining stocks are classified as small cap. There are no minimum or maximum limits placed by SEBI on multi-cap fund’s exposures to different market capitalization segments e.g. large cap, midcap and small cap.
With an optimal mix of large, mid and small cap stocks in the portfolio multi-cap mutual funds have the potential of generating superior long term returns while providing a degree of stability in volatile markets. In this blog post, we will discuss different benefits of investing in multi-cap mutual funds.
Most versatile equity funds: Multi-cap funds have the freedom of investing in stocks best suited to their investment objectives irrespective of their market cap size. Other equity funds like large cap funds, large and midcap funds, midcap funds, small cap funds etc. have market cap specific exposure limits. Since multi-cap funds are not restrained by market cap limits, they have wider scope of identifying good investment opportunities across the market cap spectrum. Multi-cap funds provide richer diversification across industry sectors, particularly fast growth sectors where large cap stocks do not have any presence. Multi-cap fund managers dynamically manage their portfolio mix depending on market conditions (risks and opportunities) making these funds ideal for those investors who do not want to follow the market regularly and actively make changes to their mutual fund portfolio on a regular basis.
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Strong performance across market cycles: Different market cap segments have different risk / return characteristics. Large cap stocks tend to outperform midcap and small cap stocks in market corrections (bear markets) and in early stages of recovery. Midcap and small cap stocks outperform large cap stocks in bull market rallies. As per SEBI’s mandate, large cap funds have to invest at least 80% of their portfolio assets in large cap stocks, but since there are no such restrictions on multi-cap funds, they have the potential to outperform large cap fund market cycles in the long term. Over the last 10 years multi-cap funds (CAGR 13.3% returns) outperformed large cap funds (CAGR 12.1% returns).
Risk limitation in volatile markets: The flexible mandate of multi-cap funds enables them to limit downside risks for investors in volatile markets by altering the market cap mix depending on market conditions. Midcap and small cap funds must have at least 65% of their assets invested in mid and small cap stocks respectively. Even large and midcap funds must have at least minimum 35% exposure to midcap stocks in their portfolio. Since multi-cap funds have no such market cap related constraints,they can dynamically alter portfolio risks to reduce risks. In the last one year multi-cap funds gave positive returns (category average 2.8% returns), when midcap (category average -3.2% returns) and small cap (category average -6.2% returns) gave negative returns.Large cap funds like multi-cap funds gave positive returns (category average 4.9% return).
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Better positioned to respond to emerging risks and opportunities: Superior performance of a mutual fund scheme depends on the fund manager’s ability to spot emerging risks and opportunities early. The flexible mandate of multi-cap funds make their fund managers better positioned to respond to changing market conditions early. For example, when midcap and small cap valuations get overheated, multi-cap funds can react to imminent correction by positioning their portfolio towards large cap and reduce risk. Similarly, in deep market corrections, multi-cap funds can take advantage of attractive investment opportunities in certain market segments to generate superior alphas for investors in the long term.
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Ideally suited for investment through SIPs: Multi-caps give the best returns over long investment tenures. Systematic Investment Plans are ideal investment options because investors can start early with a small monthly amount from their regular savings and keep investing for long periods of time leveraging the power of compounding. The mid and small cap allocations of multi-cap funds are volatile and SIP investors can take advantage of volatility through Rupee Cost Averaging. Rupee cost averaging will lower the cost of acquisition and provide superior returns to investors in the long term.
In this blog post, we discussed several benefits of investing in multi-cap funds. Multi-cap funds are considered all weather funds and ideal investment options for new investors who want to create wealth in the long term.Less experienced investors are often confused whether they should invest in large, mid or small cap funds because each has their own advantages and disadvantages. Multi-cap funds combine aspects of different equity fund categories to provide high potential risk adjusted returns for investors in the long term. Investors should havea moderately high to high risk appetite and long investment tenures for multi-cap mutual funds. Investors should consult their financial advisors if multi-cap funds are suitable for their investment needs.
Mutual Fund Investments are subject to market risk, read all scheme related documents carefully.