Akriti, a young lawyer, sees many people around her investing in equity mutual funds by way of SIP or lump sum. Some directly invest in stocks and others in mutual fund schemes, as recommended by their advisers, while only a few do their own research. She realises that equity shares or mutual funds are typically categorised as large cap, mid cap or small cap. In order to decide which one she should invest in, she would like to understand the basis of such categorisation, how risky the investment is likely to be and what sort of return she can expect? She is looking at equity investments to help her with some goals – like retirement, buying a car and funding her marriage.
Stocks in each category (large, mid, and small) have identifiable risk and return characteristics. These categories can be considered a proxy for their size or what is technically known as ‘market cap.’ Large-cap companies have a well-established business and are generally the ‘big fish’ in the industry that they operate in. The profitability and sales growth of these companies are usually constant. So, the performance of the large-cap companies is typically stable compared with other smaller companies.
Small-cap companies are the other end of the extreme. They are in the early stage of business and have a lot of scope for expansion and growth. Hence, they have the potential of earning very high profits compared with large caps. But they may not be financially strong enough to be able to withstand a bad economic situation. This may lead to a steep fall in their profitability and hence, their share price. Mid-cap companies share some of the growth characteristics of smallcap companies, but they carry less risk because they are slightly larger.
For Akriti, understanding the pros and cons of the various market cap funds is a good first step to determining which funds best suit your portfolio, your investment horizon, and your investment style. If she is a conservative investor and is unwilling to take on much risk, then large caps are advisable. She must only consider investing in mid and small caps if she is willing to take high risk to earn higher returns and has a longer investment horizon, so as not to be tormented with the short-term volatility. She must realise that along with a possibility of high returns, comes higher risk. She might be better off investing in such stocks in combination with large caps for very long-term goals, such as retirement.
Content on this page is courtesy Centre for Investment Education and Learning (CIEL).
Contributions by Girija Gadre, Arti Bhargava and Labdhi Mehta.
(Disclaimer: The opinions expressed in this column are that of the writer. The facts and opinions expressed here do not reflect the views of www.economictimes.com.)
FAQs
If she is a conservative investor and is unwilling to take on much risk, then large caps are advisable. She must only consider investing in mid and small caps if she is willing to take high risk to earn higher returns and has a longer investment horizon, so as not to be tormented with the short-term volatility.
Which is better small-cap or large-cap or mid-cap? ›
Mid-caps are slightly riskier than large-cap stocks and less risky than small-cap stocks. Small-cap stocks are riskier than the other two. Despite the risk, these stocks have great growth potential. Large-cap funds are usually less volatile unless there is some news.
Should I invest in small medium or large-cap? ›
Small-cap stocks and large-cap stocks both come with their own pros and cons. While small-cap stocks can generate higher returns, they also have a higher risk profile. Conversely, large-cap stocks witness smaller growth but are more stable. Investors should consider investing in both for a balanced portfolio.
Do you want a big or small market cap? ›
Large-cap stocks are generally considered to be safer investments than their mid- and small-cap stock counterparts because they are larger, more established companies with a proven track record. Some of the biggest names in business are large-cap stocks – Apple, Microsoft and Alphabet, for example.
Which is more risky small-cap or large-cap? ›
Small-cap stocks tend to offer greater returns over the long-term, but they come with greater risk compared to large-cap companies. The greatest downside to small-cap stocks is the volatility, which is greater than large-caps.
Should I invest more in large-cap or mid-cap? ›
If she is a conservative investor and is unwilling to take on much risk, then large caps are advisable. She must only consider investing in mid and small caps if she is willing to take high risk to earn higher returns and has a longer investment horizon, so as not to be tormented with the short-term volatility.
How much should I invest in a large mid small-cap? ›
Aggressive investors: An aggressive investor can consider about 50-60 percent allocation to largecaps, 15-25 percent to midcaps and the remaining 15-25 percent to smallcaps.
How much of my portfolio should be mid cap? ›
Balanced Investor: A balanced investor should consider having some exposure to small-cap stocks. The remaining 25–30% can be divided between midcaps and small-caps, with roughly 70–75% allocated to large caps. An assortment of large-cap funds, flexi-cap funds, and large and midcap funds can be used to accomplish this.
Do mid cap stocks outperform large-cap? ›
Mid-cap stocks generally fall between large caps and small caps on the risk/return spectrum. Mid caps may offer more growth potential than large caps, and possibly less risk than small caps. Small-cap stocks tend to be, on average, least developed publicly traded companies, although there are exceptions.
Will small-cap stocks ever recover? ›
Small Caps Trail the Market
“We haven't seen a positive inflection higher in earnings, margins, and forecasted growth for small-cap companies as we have for some of the larger growth cohort,” Akullian says. That's not to say they won't ever break out. “They will certainly have their day,” she adds.
Sizing up stocks
Large-cap: Market value of $10 billion or more; generally mature, well-known companies within established industries. Midcap: Market value between $3 billion and $10 billion; typically established companies within industries experiencing or expected to experience rapid growth.
What is the best market capitalization? ›
Microsoft is the largest company in the world, with a market cap of $3.13 trillion. It's followed by Apple ($2.65 trillion), Nvidia ($2.26 trillion), Saudi Arabian Oil ($1.98 trillion), and Amazon ($1.89 trillion).
Why small firms outperform large caps? ›
The small firm effect theory posits that smaller firms with lower market capitalizations tend to outperform larger companies. The argument is that smaller firms typically are more nimble and able to grow much faster than larger companies.
How risky are small caps? ›
Small-cap mutual funds perform well over a long period of time. However, over a short period of time, they tend to be very volatile. So if you plan on withdrawing/redeeming your money from the mutual fund early, you could suffer losses. Sure, you could also make gains, but there is always the risk.
Why is a large-cap better? ›
Lower risk: Compared to mid-cap and small-cap funds, large-cap funds invest in well-established companies with larger market capitalizations. These companies tend to be more financially stable and resilient to market fluctuations, offering a lower overall risk profile.
Why small-cap companies are risky? ›
Credit risk — The cost of borrowing is higher for smaller companies. Indeed, the cost of equity is higher, too. Lower average valuations for share buyers translate into higher cost for the companies issuing those shares. This is consistent with the underperformance of smaller company shares when times are tough.
Do small caps outperform mid-caps? ›
However, in the slowdown or contraction phase of the business cycle, mid-caps typically outperform small-caps. Downward market movements tend to harm small-cap companies far more than mid-cap names because the latter are usually in a better financial situation.
Which cap is best for mutual fund? ›
Mid-cap mutual funds are ideal for diversifying your portfolio as they invest in medium-sized companies with promising growth potential. Although they offer good growth prospects, they also come with a notable level of risk.
Is large-cap good for long term? ›
Investment Horizon: Large Cap equity funds work best for those who want to invest for the medium to long run – people who invest in these funds should be invested in them for at least three to five years to witness the potential of returns on offer.
