Because of their history of being associated with high volatility levels, most potential investors avoid the best small cap mutual funds.

However, most extensive and medium-sized companies began as small-cap enterprises, which most people are unaware of. It takes a long time to build a large market capitalization. 

Small-cap stocks are the starting point for all of them. This article will help you better understand small-cap funds before investing in them with your own money.

What Are Small Cap Funds?

Specific regulations are established by the Securities and Exchange Board of India (SEBI). According to them, small-cap funds are required to invest at least 65 percent of their total assets in the stocks of small-cap companies. 

Companies with a market capitalization rating of 251st or lower are considered small-cap companies. 

Most of the time, the value of these businesses is estimated to be lower than 5,000 billion Indian rupees. Companies with a small market capitalization are typically relatively young and have much room to expand rapidly over time. 

Be mindful; however, smaller businesses are more prone to instability and have a higher probability of going bankrupt when the economy is in a downturn. Small-cap funds require investors to have a long-term commitment if they want to participate.

Features of Small-cap Mutual Funds: How Does It Work?

Most of the holdings in a small-cap fund's portfolio are younger and more modestly-sized businesses. 

The portfolio of a small-cap fund will typically consist of somewhere between 65 and 90 percent of small companies that have the potential to expand rapidly. 

The ups and downs of the business have a more significant impact on the performance of smaller companies, which means the price of their stocks is more likely to be volatile. 

Therefore, investors for rapid development should use small-cap funds rather than significant-cap funds. This is important even if the latter carries a higher level of market risk.

20 Best Small-cap Mutual Funds in India

1. Quant Small-Cap Fund

The Quant Small-Cap Fund was first established in 1996. The company in charge of it is Quant Money Managers Ltd. 

The fund has Assets under Management (AUM) totaling Rs 2,206.57 cr and a Net Asset Value (NAV) of Rs 142.90. There is no predetermined termination date for this high-risk mutual fund.

Quant Small-Cap Fund is one of the best-performing small-cap funds based on returns in 2022. It has a compound annual growth rate of 54.62% over the previous three years. 

You can make a one-time investment in this fund with a minimum of Rs 5,000 or recurring investments at Rs 1,000 monthly.

2. Bank of India's Small-Cap Fund

Bank of India Small Cap Fund Direct-Growth was the name of the equity mutual fund scheme launched by BOI AXA Mutual Fund.

The BOI Small-Cap Fund has an asset under management value of Rs 353.51 cr. The fund has had a high compound annual growth rate (CAGR) of 43.24% over the past three years. The current net asset value of the fund is 29.30 rupees. 

You can contribute at least 5,000 rupees to this fund or smaller contributions of 1,000 rupees at intervals.

3. Canara Rob Small-Cap Fund

2019 marked the beginning of operations for the Canara Robeco Small-Cap Fund, a stock mutual fund. Canara Robeco Asset Management Company Ltd. is in charge of running it. 

At this time, the value of the fund's assets under management (AUM) is Rs. 3,455.06 cr., and its NAV is Rs. 26.34.

In addition, the fund's compound annual growth rate over the past three years is 42.62 percent, which places it on the list of the top-performing small-cap funds in 2022. 

You have the option of making an initial investment in this fund with either a one-time payment of at least Rs 5,000. Or you can also choose a systematic investment plan (SIP) of at least Rs 1,000.

4. Nippon India Small-Cap Fund

The Nippon India Small-Cap Fund is managed by Reliance Nippon Life Asset Management (RNAM), one of India's two largest asset management organizations. 

The fund's total assets under management (AUM) of Rs 22,158.38 cr make it the most valuable small-cap mutual fund among those that performed the best in 2022.

The fund was established in 2010, and its current net asset value is 101.63 rupees. The fund has a CAGR over the past three years of 38.09%. 

You have the option of beginning your investment in this fund with either a one-time contribution of at least Rs 5,000. It even allows you to go for the systematic investment plan (SIP) of at least Rs 100.

5. Edelweiss Small-Cap Fund

The Edelweiss Small-Cap Fund is managed by Edelweiss Asset Management Limited (EAML), one of India's most recent and rapidly expanding asset management companies. 

EML is also one of the youngest AMCs in the country. It was first offered for sale in 2019 for 10 rupees. The current net asset value of the fund is 27.03 rupees.

The fund's total assets under management come to Rs 1,333.64 cr. It has a hazardous grade and a compound annual growth rate (CAGR) for the past three years of 36.83%. 

You have the option of beginning your investment in this fund with either a one-time payment of Rs 5,000 or with a systematic investment plan (SIP) payment of Rs 500.

6. Kotak Small-Cap Fund

The Kotak Small-Cap Fund is managed by Kotak Mahindra Asset Management Company Ltd., an Kotak Bank affiliate. 

It is a mutual fund that does not place any boundaries on the amount that can be invested. Currently, the fund has an AUM totaling 8,468.99 cr. and a NAV of 190.02 cr.

The fund has had a CAGR over the past three years of 36.70%. Compared to other high-risk funds, the fund's profitability ranks higher than its competitors. 

You can make a one-time investment of 5,000 rupees or a systematic acquisition of 1,000 rupees each month.

7. Union Small-Cap Fund 

Union Asset Management Company Pvt. Ltd. is in charge of managing the Union Small-Cap Fund. The investment vehicle went live in 2014 and currently has an AUM totaling 1,096.12 cr. 

The current value of the NAV is 33.17. It is a fund that does not have an expiration date and carries a high-risk rating.

The fund has had a CAGR of over the past three years of 35.07%. You can invest Rs. 1,000 all at once in this fund, or you may choose to participate in a systematic investment plan (SIP) and invest Rs.1 000 each month.

In addition to that, the fund comes with a weekly SIP investment option. You can contribute as little as Rs 500 (about $10) per week to the fund.

8. Tata Small-Cap Fund

Tata Asset Management Private Ltd. (TAMPL), a subsidiary of the Tata Group, is in charge of managing the Tata Small-Cap Fund. 

The fund was established in 2018. It currently has a total asset under management (AUM) of 2,571.50 cr and a NAV of 24.82 cr.

The fund has had a CAGR of 35.04% during the past three years. You have various options available to you for investing in the fund. 

Thus, you can begin with either a one-time payment of Rs 5,000 or a systematic investment plan (SIP) of at least Rs 150 every day, week, or month.

9. DSP Small-Cap Fund

DSP Small Cap Direct Plan-Growth is a mutual fund investment option from DSP Mutual Fund. The fund invests in small-cap companies. The fund opened its doors in 2013 and currently has an AUM of 9,065.86 cr. and a NAV of 122.88 cr. I

The fund has a CAGR over the past three years of 33.68%. You have the option of making a one-time investment into this fund for Rs 500.

10. Sundaram Emerging Small-Cap Fund

One of the funds offered by the Sundaram Mutual Fund Equity – Small cap Fund is called Sundaram Emerging Small Cap. The fund was established in 2018 and currently has a total asset under management (AUM) of 146.22 cr and a NAV of 23.54 cr.

The fund has had a CAGR of 33.52% during the past three years. A SIP investment cannot be made with this fund.

11. SBI Small Cap Fund

The SBI small-cap fund has done well over the past few years. That's why it is one of the top three funds in its category. In the last five years, it has given the highest average returns.

It sounds like ratings show that the SBI small-cap fund has always done better than its benchmark and the average returns for its category by a large margin.

For long-term investments, a small SBI cap can be a good choice. If you had put away 10,000 in December 2015, you would have about 19,800.

Since January 2016, 1,000 put into a monthly SIP would have grown to about 91,000.

12. Axis Small Cap Fund

Since its start in 2013, the Axis Small Cap Fund has consistently done better than its benchmark by large margins.

The fund made it into the Top 5 because it did well against the benchmark, had a high capture ratio, an excellent risk-adjusted score, and was consistent, according to ZFunds Ratings.

Axis Small Cap Fund is also an excellent choice for long-term investments because it can give investors high returns compared to the amount of risk they are taking.

If you had put away 10,000 in December 2015, you would have about 19,600.

Since January 2016, 1,000 put into a monthly SIP would have grown to about 89,000.

13. HDFC Small Cap Fund

The HDFC Small Cap Fund is one of the top five funds in its category because it has always given good returns.

According to the ZFunds ratings, HDFC Small Cap Fund has an excellent overall score and is among the top funds for performance against benchmark, capture ratio, volatility, and valuations score.

HDFC Smallcap could be a good choice for long-term investments in this category because it has the potential to do better in the coming years.

If you had put away 10,000 in December 2015, you would now have about 15,900. Since January 2016, 1,000 put into a monthly SIP would have grown to about 75,300.

14. Emerald Growth A (HSPGX) 

This small-cap fund puts a lot of its money into common stocks, preferred stocks, and other securities that can be turned into cash. 

The fund also buys other equity instruments and puts money into companies of all sizes. Thus, the average return of this small-cap mutual fund over the past three years is 25.89% per year.

The minimum initial investment in the small-cap mutual fund is $2,000. It has an expense ratio of 1.29%. This is lower than the average expense ratio of 1.46% for its category.

15. Kinetics Small Cap Opportunities No Load (KSCOX)

The goal of Kinetics Small Cap Opportunities No Load (KSCOX) is long-term capital growth. The fund puts most of its money into undervalued small companies in the United States and other countries. The average return on this small-cap mutual fund over the past three years is 17.92%.

This small-cap mutual fund is run by Peter B. Doyle, who has been in charge of it since 2000.

16. Legg Mason ClearBridge Small Cap Growth A (SASMX)

Legg Mason ClearBridge Small Cap Growth (SASMX) puts much of its net assets into small-cap companies and related instruments. 

The fund focuses on small companies in the U.S. and has an investment style geared toward growth. Thus, the average annual return of this small-cap mutual fund over the past three years is 25.42%.

As of March 2012, this small-cap mutual fund owned 86 stocks. Sourcefire, Inc. made up 3.05% of the fund's total assets.

17. Oppenheimer Discovery A (OPOCX)

Oppenheimer Discovery (OPOCX) is looking for growth in its capital. The fund puts most of its money into small companies focused on development. 

Its main goal is to buy common stocks from companies with less than $3 billion market capitalization. The average return of this small-cap mutual fund over the past three years is 25.84% per year.

The minimum initial investment in the small-cap mutual fund is $1,000. It has an expense ratio of 1.30 percent, which is lower than the average of 1.46 percent for its category.

18. AllianceBernstein Small Cap Growth A (QUASX)

AllianceBernstein Small Cap Growth (QUASX) puts a lot of its money into equity securities of companies with market capitalizations in the bottom 20% of all U.S. stocks. 

The fund puts money into 95 and 125 companies at any given time. Thus, the average return of this small-cap mutual fund over the past three years is 29.07% per year.

Wen-Tse Tseng is in charge of this small-cap mutual fund. He has been in order since 2006.

19. Davenport Small Cap Focus Fund 

This small-cap fund puts most of its money, plus any money it borrows, into common stocks of small-cap companies that its advisor thinks have a good chance of making a lot of money. 

DSCPX also buys shares of registered investment companies primarily investing in small-cap stocks.

The average return over three years for the Davenport Small Cap Focus Fund is 12.7%. Thus, the average expense ratio for this type of fund is 1.03%, but DSCPX's is only 0.97%.

20. Thrivent small-cap stock fund

Most of the money in the Thrivent Small Cap Stock Fund, along with any borrowings, is put into equity securities of small U.S. companies with market capitalizations similar to those in the Russell 2000 Index and S&P SmallCap 600 Index. 

AASMX also puts money into smaller companies that Lipper, Inc. has categorized by market capitalization.

The average return on the Thrivent Small Cap Stock Fund over the past three years is 14.0%. As of April 2022, AASMX had 89 issues and put 3.60 percent of its net assets into Lantheus Holding Incorporated.

Benefits of Investing in Small-cap Funds

Many benefits come along with investing in small-cap funds. A few of the significant benefits are:

1. Targeting less well-known start-up businesses 

Small-cap funds are investment vehicles that target less well-known categories of start-up businesses with significant expansion potential. These companies are only in their infancy at this point. Therefore, there is much room for them to expand into. 

Most small-cap funds can outperform their large-cap counterparts, which is a phenomenon that is frequently observed. 

2. The returns are favourable

Adding a small-cap fund to your portfolio can help increase its overall returns. However, this is only the case if you continue to invest your money in the market for a very long time.

3. Discounted rates 

Since small-cap stocks are relatively new and have uncertain futures, they are probably undervalued. As a result, you should be able to negotiate a lower price for them.

Risks of Investing in Small-cap Funds

• Small-cap funds are inherently hazardous investments, which implies that the market will experience sharp price swings and volatility in the near term. Because of this, the portfolio is somewhat unstable.

• There has been a high level of danger associated with small-cap funds. Thus, the only type of investors who should consider purchasing these funds is those who are not only willing but also able to commit to long-term investments.

• All of the stocks that make up small-cap funds are growth stocks. Consequently, the corporations that own those stocks typically retain 100 percent of their profits or reinvest them in the company. Due to this factor, small-cap companies do not frequently make dividend payments.

• Cash on hand is typically in short supply at companies with a small market capitalization. Because of this, the ease with which the fund manager can purchase and sell the fund's equities will alter.

How Are Small-cap Mutual Funds Taxed in India?

Two different approaches can be utilised to deduct taxes from small-cap funds.

Tax on the Profit Made from Investments If you profit from an investment, you must pay tax on your money!

The amount of tax you owe is proportional to the amount of time your money has been invested in the fund. The following are the many forms of capital gains tax:

• A short-term capital gain tax is levied against shareholders who have only been holding their investments for a year or less. The STCG for small-cap funds is set at 15%.

• Long-term capital gains are available to shareholders of small-cap funds who have maintained their investment for more than a year. No long-term capital gains tax is imposed on small-cap funds if the aggregate LTCG is less than one lakh rupees. Any long-term capital gain (LTCG) on small-cap funds higher than Rs 1 lakh in a financial year is subject to an additional tax of 10%, in addition to any applicable cess.

Why Are Small-cap Funds Different From Large-cap Funds?

Small-cap equities have historically performed better than large-cap stocks throughout their entire market cycles.

The following is a list of some of the long-term reasons for the success of small-size funds:

• Companies with a smaller market capitalization typically have lower capital requirements, which allow them to achieve a higher return on equity (ROEs). Small-cap companies with a higher ROE usually provide investors with a better investment return throughout an entire investment cycle.

• Most small-size stocks have not been well researched so that fund managers can identify them and purchase them at a discount. Some individuals refer to equities like these as "alpha stocks."

• When viewed over a longer time horizon, small-cap stocks provide investors access to a greater variety of options than their more extensive and larger-cap counterparts. Due to this change, the Nifty 500 will now consist of 100 large-cap stocks, 150 mid-cap stocks, and 250 small-cap stocks.

• During this period of economic recovery, tiny caps perform exceptionally well. For instance, following the events surrounding Covid, the value of small-cap stocks increased.

  
  

Both large-cap and small-cap funds will typically behave in the same manner as the equities in which they have invested. 

Much like small-cap equities, large-cap funds tend to be more stable than small-cap funds, which tend to be more volatile. 

Therefore, it might make sense to understand what distinguishes one form of stock from another.

Characteristics of Small-cap Mutual Funds

• Small caps are equities with a market capitalization of between a few hundred million dollars and a few billion dollars. 

• Microcaps are stocks with a market value of less than a billion dollars.

• Over time, small caps have performed better than large caps overall. Because they are not particularly large, they typically have more room for development.

• Smaller businesses typically have fewer financial resources and are not as robust as their larger counterparts.

• The stocks of smaller companies have a greater propensity to be subject to greater volatility levels than those of giant corporations.

• Small caps typically have less overall business strength than their larger counterparts.

• Smaller companies do not pay dividends as frequently as larger ones do. Thus, the former have a greater need to reinvest their profits to continue expanding.

Essential Characteristics of Large-cap Mutual Funds

• Stocks are referred to as "big caps" if they have a market value greater than $10 billion. The term "mega-caps" occasionally refers to stocks with a market capitalization of more than $200 billion.

• People generally perceive that larger caps are more secure than smaller caps. And this perception has served them well over time.

• The growth potential of large caps is typically lower than that of smaller caps. This is because large caps tend to operate in already well-developed industries.

• These stocks have a significant amount of money and are often healthy from a financial standpoint.

• Large organizations are often more secure than their smaller competitors. They tend to exhibit lower levels of volatility.

• Large corporations typically operate a diverse range of business divisions. This contributes to the overall strength and resiliency of their stock markets.

• Large-cap stocks typically pay out a substantial portion of their profits through dividends. They do require a smaller percentage of their income to maintain their growth.

Things to Consider Before Investing in The Best Small-cap Funds

Considerations to make before investing in the stock of small-cap fund are:

1. Net asset value (NAV)

The underlying benchmark significantly impacts small-cap funds' net asset value (NAV). Thus, when the market as a whole is performing poorly, small-cap funds are the ones that suffer the most. 

This is the perfect moment to invest if you are willing to take some risks and want your money to grow over the long term.

2. The low relative expense to earnings

The expense ratio measures the overall costs of operating and managing a mutual fund. Whether the unitholder made money or lost, it will be paid out of the fund's net asset value (NAV). 

The Securities and Exchange Board of India (SEBI) has stated that the maximum percentage points fund companies can charge for fees is 2.50. 

You are already aware that the fee will be subtracted from the NAV of your fund. This indicates that if you wish to invest your money in a small-cap fund, you should ensure that the expense ratio is as low as possible.

3. Risk-adjusted return

Small-cap funds are characterized by high levels of both risk and volatility. On the other hand, some small-cap funds are more adept at risk management than their competitors in the market. 

You can locate the funds that have strong returns concerning the amount of risk they take on with the use of several ratios. This can include the Sharpe ratio and the Sorting ratio.

4. Time horizon

When purchasing shares of a small-cap mutual fund, you should do so with a long-term strategy in mind. The range of seven to ten years is the most helpful time frame to consider.

5. What a portfolio manager knows

Your portfolio's long-term performance is heavily dependent on several factors. This will include your fund manager's expertise, market understanding, and research efforts, among other things. 

When deciding on a small-cap fund to invest in, it is essential to consider the fund manager's past performance. This needs to be particularly during periods of market volatility.

Who Should Invest in Small-cap Funds?

Small-cap funds have only one objective: to amass significant wealth over many years. 

Compared to funds that focus on large caps or mid-caps, small-cap funds are characterized by higher levels of volatility and return-to-risk ratios.

After understanding the benefits and drawbacks of small-cap funds, you will be able to start investing in those funds. But only if you are prepared to accept risks and have the ability to support for a protracted period. 

Before you get started in the investment world, you need to know everything about small-cap funds. Before investing, you should ensure that you have done the proper research on your end.

How to Choose The Correct Small-cap Funds to Invest in?

You must keep the following factors in mind when investing in small-cap funds:

1. High-Risk Factor

Small-cap enterprises have a greater degree of risk than their larger counterparts. They are typically incapable of coping with insufficient financial resources or a general economic slowdown. 

Because they cannot compete successfully with their contemporaries, many companies with a market capitalization of less than $1 billion go out of business. 

Small-cap funds that invest in businesses like this risk suffering significant value losses! Therefore, potential investors who are unwilling to accept changes should refrain from putting their money into them.

2. When to make an investment

Market volatility is the primary factor in determining whether a small-cap mutual fund should be bought or sold. 

A small-cap fund's success or failure can be determined in a relatively short period by the ups and downs of the market.

3. A negative shift in market sentiment 

When there is a negative shift in sentiment within the market, this might impact the stocks of small-cap companies. When the market is volatile, small-cap schemes frequently suffer financial losses. 

During periods like this, it is more likely for the prices of small-cap stocks to go up and down.

4. Refrain from paying dividends

Companies with a modest market capitalization are typically very young, so they do not usually pay dividends. Because they want their company to flourish, they typically reinvest their profits in the company itself. 

Therefore, dividends from small-cap funds are not a reliable source of income and should not be relied upon.

5. There is a need for additional investigation

Because there are many small-cap companies, there are also many small-cap funds. It is difficult to determine which will increase your investment's value and which will not return enough money to satisfy your needs. 

You need to complete the appropriate study to pick the best small-cap fund and identify the ones with the most potential for investment returns.

How Should Investors Evaluate Small-cap Mutual Funds?

Investors can evaluate the small-cap mutual funds through the below points:

1. The Sharpe ratio

The Sharpe ratio is a widely utilized method for determining how returns relate to risk in investment portfolios.

You can calculate the Sharpe ratio by dividing the return on investment and risk-free return by dividing it by the investment's standard deviation.

The amount of success a portfolio has had about the amount of risk it has taken on can be measured using the Sharpe ratio. The higher it is on the list, the more successful it has been. 

Put another way; it demonstrates how effectively the return on the asset has compensated for the assumed risk level.

2. The Treynor ratio

The Treynor ratio illustrates how much additional money was made compared to what would have been made with an investment that carried no risk. 

It calculates the portfolio's return for each additional unit of risk it was exposed to.

The formula for the Treynor Ratio is as follows: (Portfolio Return - Risk-Free Return)/100 (Portfolio Beta)

The Sharpe ratio demonstrates to investors how the return on investment compares to its risk. But the Treynor ratio analyses the amount of additional return generated by each other unit of risk within a portfolio.

3. Jensen alpha

In its most basic form, Jensen alpha can be considered the difference between the actual return and the return on the benchmark. 

It evaluates the fund management based on its ability to achieve higher returns than the benchmark. When comparing two portfolios, it is only helpful if both portfolios have the same beta value.

Is It Possible to Invest in Small-cap Funds Without Risk?

No, investing in small-size stocks involves significant short- to medium-term risks. 

On the other hand, if they are included in a diversified and well-balanced investment portfolio, they can be a source of long-term financial gain for their owners. Always ensure a solid market understanding before investing money in small-size funds.

How Long Does The Money Stay in Small-cap Mutual Funds?

An excellent rule of thumb is that the longer you invest your money in top small-cap funds, the better off you will be. 

If you want more benefits from your investment, you should consider keeping your money in these businesses for at least five to seven years.

Is It Wise to Put Money into Small-cap Mutual Funds?

Well, it depends. You should consider investing in small-cap funds if you are OK with taking on a high level of risk. It can maintain your investment for at least five to seven years. 

It is recommended that you do not have an excessive number of small-cap funds in your portfolio to reduce the amount of fluctuation in performance over the short term.

Which Costs Are Associated With Small-cap Funds?

Similar to other mutual funds, small-cap equity funds are subject to an annual fee, sometimes known as an expense ratio. 

This is because qualified individuals manage them. In the long run, you will have more money in your pocket if your expense ratio is lower.

Related Questions: FAQs

1. What does it mean to invest in small-cap mutual funds?

Small-cap mutual funds invest in businesses with market capitalizations lower than the top 250 firms on the exchange. Mutual funds that invest in small companies are becoming increasingly popular for putting money to work because of their high returns.

2. Should you invest your money in funds that focus on small-cap companies?

Small-cap funds have the potential to achieve excellent returns during periods of market appreciation. However, these funds are susceptible to experiencing volatile market conditions, precipitating a steep return decline. Investors need to exercise extreme caution when investing their money in these funds.

3. Which is better: small-cap or large-cap stocks?

Large market capitalization companies are typically more established, making it less probable for their stock prices to fluctuate wildly when the market is volatile. This is because investors tend to shift their investments toward stocks with lower levels of risk. 

Although small and mid-cap companies may be more accessible to investors financially than large-cap stocks, the values of small stocks have a greater propensity to be more volatile.

4. How can I choose a decent fund that caters to small businesses?

Choose a small-cap fund that has performed well over several different market cycles and has good risk-adjusted returns if you want to invest in them. 

You should pick a fund that has routinely outperformed its benchmark throughout history. A positive indicator is market outperformance for the past three to five years.

Final Thoughts: Should I Invest in Small Cap Mutual Funds?

Small-cap funds can provide investors access to a diverse selection of small-cap equities. They do have the potential to generate positive returns over the long run. On the other hand, this is not a sufficient reason to invest money in them.

The stage of life you are in, your attitude toward risk, and the amount of available money will determine whether or not small-cap funds are a good fit for you.

The diversification of your investments can be accomplished by using small-cap mutual funds. You should consider your long-term financial requirements before investing money in these schemes. 

However, before you invest any money in the fund, you need to get as much information as possible about it. Consider everything that contributes to the high risk associated with these funds.