1. What are Best Small Cap Mutual Funds?
The size of the company is an important criterion when selecting equity portfolios. This is because, depending on the size of the company, the portfolio would have its unique set of opportunities and risks. Best Small Cap Mutual Funds invest predominantly in stocks of small companies that have the potential for growth. These stock can double or triple in a short span of time of just a few years, but this also implies that the return from these funds is subject to high volatility.
2. Who should invest in Best Small Cap Mutual Funds?
Small cap funds are known for their high return potential. During market highs, these funds have higher probability of outperforming the benchmark. However, when market enters the slump phase, then the fund NAV may vary considerably. If you are a risk seeker and want to boost your portfolio returns, then you may try these funds. Invest a small portion of portfolio in small cap funds for long-term wealth accumulation.
As an investor, if you are not averse to taking high or moderate risks, you can consider investing in other funds which are more stable like large cap funds for a period of 5 to 10 years.
3. Things an investor should consider when investing in Best Small Cap Mutual Funds
Best Small Cap Mutual Funds are subject to risk and as an investor, you must weigh in the various components that affect the performance of these funds. You should take into consideration your
age, your tolerance for risk, the objective of your investment and your investment horizon, etc.
Enlisted are few other things to take into account before investing in these funds.
a. The construction of the portfolio
Pick best Small Cap Mutual Funds that balance your portfolio. Try investing in funds that are invested in small cap stocks across sectors. It is wise to avoid funds that are concentrated in only a few stocks. You need to also look into the frequency of trading activity going on in the fund. It is noted that successful funds tend to have a lower portfolio turnover ratios of about less than 30 percent.
b. The past performance of the small-cap fund
Note that when deciding, you can’t rely on just the very recent performance of the funds, no matter how well it did. You must take into consideration the performance of the fund across the bullish and the bearish market cycle. Get hold of the past 5 year returns of the fund and compare its performance with peer funds. If a fund has been consistent in all market conditions and cycles, it can be considered.
c. Check the P/E Ratio
Looking at the P/E ratio will give you an idea about the underlying growth potential of the fund. It will also tell you by how much your fund is overpaying for growth. Best Small Cap Mutual Funds that have a P/E ratio of above 30x are considered expensive.
d. The Choice of a quality fund house
Do your research and pick those fund houses that carry a record of beating benchmark performances in both the high and the low market cycles. The ideal fund house must have an impeccable investment process along with technique to manage risk, an expert research team and good coverage. If you seek further information on the same, reach out to ClearTax and our expert advisors will guide you.
e. Know what your options are
You must decide between risk and reward. Explore options that allow your small-cap fund the flexibility to hold high cash or even invest in the mid and large-cap stock. Doing this will no doubt slower the returns on your fund as compared to the returns with the small cap, but you will get to hold more cash.
f. Get an experienced Fund Manager
Seek the advice of an experienced and expert fund manager as choosing small-cap funds requires qualitative analysis. The fund manager must also have a strong performance record.
g. The returns must be risk-adjusted
There is no doubt that small-cap funds carry risk but there are funds that can manage risk better than their peers. Seek out options and the potential of garnering good returns from various schemes with low volatility.
4. How to evaluate your Best Small Cap Mutual Funds?
As an investor, you must look at certain financial ratios to evaluate your funds. Some of the important ratios to be considered are as follows:
a. Standard Deviation
Standard deviation measures the dispersion of a set of data from its mean or average. In finance, standard deviation denotes the annual rate of return on any investment and also highlights the volatility of the investment. A stock with a higher standard deviation has a larger price range and indicates higher volatility as compared to a stock with a low standard deviation.
b. Sharpe Ratio
This ratio measures the risk-adjusted rerun of a portfolio. A financial portfolio that has a higher Sharpe ratio is seen as a relatively superior portfolio as compared to its peers.
Sharpe Ratio = (Average Fund return – Risk-free Rate)/ Standard deviation of the fund returns
R-Square shows the percentage of fund returns that are in line with the benchmark returns. The value of R-Square lies between 0 and 1 and is reflected as percentages from 0 to 100 percent. If a fund has an R-Square of 100 percent it means that its securities’ movements are explained by the movements in the index. A higher value of R-squared indicates a far more useful beta figure.
A fund is said to be offering a higher risk-adjusted return if it has an R-Square value that is close to 100 percent but its Beta is below 1.
Beta is indicative of a funds sensitivity to the correlated movements of a benchmark. If a fund has a Beta of 1.0 it means that is exactly as volatile as the benchmark. If a fund has a Beta of say, 0.70 or less, it means that it is 30 percent less volatile and if the Beta is 1.30, it shows that the fund is 30 percent more sensitive than the benchmark.
Alpha is a measure of an asset manager’s ability to make a profit when a benchmark is also registering a profit. Alpha can be either less than, equal to or more than 1.0. The higher this number, greater is the ability of the manager to make profits from the movements in the benchmark.
5. Advantages and Disadvantages of Best Small Cap Mutual Funds
A. Advantages of investing in best small cap mutual funds
Historically Best Small Cap Mutual Funds have shown to provide exponential growth and return if they pick up the right stocks. Given that these stocks are relatively less scrutinized and traded by large investors, there is also a good chance of discovering some undervalued stocks among small-cap companies for small-cap funds.
B. Disadvantages of investing in small-cap funds
Small-cap funds are highly risky and volatile instruments as compared to ELSS or large cap equity-oriented funds. Considering the risk factor, small-cap funds are not suited for the novice investor but is ideal for a seasoned investor or those that have a high-risk appetite. It is also hard to find dividends among small-cap funds because smaller companies tend to reinvest any profits on growing their business, unlike larger companies.
6. Ranking of top 10 Best Small Cap Mutual Funds 2018
Based on small Cap fund performance indicator values, listed below are some of the top equity funds. The rankings done here are for a consolidated list of small-cap equity funds on a 1,3 and 5 years return basis.
Note: This is a representative list based on key metrics, dated April 23, 2018. It does not serve as a recommendation of funds, nor does it claim to be the only correct way to rank funds.