Mid-cap funds: Are they a good investment?

Mid-cap funds are equity investment funds that invest in growing companies. SEBI has classified companies listed on the stock exchanges based on the size of their market capitalisation value. Typically, companies ranking between 101 and 250 are mid-size companies. These companies have a market valuation typically less than large, established companies but bigger than small-cap companies. 

The size of a company is critical for investors to select a mutual fund scheme with the proper focus that will help meet the investment objective. The market capitalisation value allows investors to understand the benefits and risks associated with a particular plan. Here we will discuss mid-cap funds meaning, features, and associated benefits.

Let’s begin by answering the question: what are mid-cap funds?

Understanding mid-cap funds 

Mid-cap funds invest in equities and equity-related instruments of mid-size companies. According to SEBI, companies with a market capitalisation of Rs 5000 crore to Rs 20,000 crore are mid-size. Since these companies fall between small-cap and large-cap organisations, investing has both advantages and disadvantages. For instance, these companies offer better returns than large caps but are more volatile than them. On the other hand, mid-cap companies are more stable than small-cap companies. In a nutshell, if one carefully selects the best mid-cap mutual funds with a great selection of stocks and diversification across sectors, one can experience much better returns.   

Features of mid-cap funds 

Mid-cap mutual funds have outperformed large-cap funds in most years and even in the long run. 

Investing in mid-cap mutual funds has several benefits.

• • Mid-cap funds have a broader scope for growth than large-cap stocks. These companies tend to do better when oil prices are low. 
• • These companies do better by sticking to the core business rather than diversifying to unrelated areas.
• • Unlike large-cap companies like energy, power, or telecom, mid-cap funds are less leveraged, making them less risky than those stocks.
• • Recently, these funds have offered steadier performance even during market slowdowns.

Who should invest?

Investors should select investment options based on their overall financial goal. Mid-cap funds suit investors with more risk appetite and an extended investment horizon of 7+ years.

Mid-cap funds have earned market-beating returns. These are growing companies with scopes for making significant returns for investors. Investors should note that when we talk about mid-cap firms, these are usually known companies like Voltas, Sundaram Finance or Godrej Industries Ltd. 

Factors to consider while investing in mid-cap funds

There are several parameters to consider while investing in mid-cap mutual funds.

• • Consider the fund’s performance for the 4 to 5 years before investing. Although it is not an accurate measure of the fund’s future returns, it is the closest you can get.   
• • Unlike large caps, mid-cap stocks are primarily heterogeneous. If a fund consistently outperforms the market, it indicates good stock selection by the fund manager.
• • Once you have selected the stocks, it is essential to measure your exposure to earn higher alpha returns consistently. One should limit the overall investment to these funds to 15-20%. 
• • Lastly, one should measure the Sharpe ratio of the fund or the risk-adjusted return before investing. If the fund manager earns more returns by adding more risks, it can easily backfire. 
• • While selecting a mid-cap mutual fund, follow the fund’s performance during the downturn, which will exhibit the strength of stock selection by the fund manager. 
• • The restricted availability of stocks is a challenge for mid-cap funds. The struggle of fund managers to find good mid-cap stocks to invest in is real. It can limit your choices for the best mid-cap mutual funds.

Disadvantages of investing in mid-cap funds 

Mid-cap funds also have some disadvantages.  

• • As we have mentioned, the choices are restricted for mid-cap funds. There aren’t many good mid-cap funds with high demand, which limits the scope of diversification. 
• • Secondly, unlike large-cap companies, mid-cap firms are heterogeneous, which makes it harder to benchmark. It is challenging to club the mid-cap stocks under single categories. 
• • The mid-cap companies are more influenced by market volatility. Hence, investing in these funds carry higher risks. Mid-cap stocks are only suitable if you are an aggressive investor willing to take higher risks for higher returns. 

Checklist before investing 

Investors must include the following points in the checklist before investing in mid-cap funds. 

Investment horizon 

Since most stocks are volatile during the short term, staying invested for an extended period helps secure better returns. Mid-cap companies are in their growth phase, and many will become large-cap companies in the future. Hence, investors must look at an investment period of eight to ten years to benefit from mid-cap mutual funds.

Expense ratio

The fund management company charges expense ratio as administrative and fund management costs. Finding a scheme with a lower expense ratio will ensure better returns on your investment. 

Age 

The age of the investors is a critical determinant in selecting the right investment option. These funds work best for young investors who can stay invested for 10+ years. It allows them to derive the benefits of the power of compounding. If you are nearing retirement age, select an investment that offers low-risk returns. 

Conclusion 

Mid-cap companies are critical for growing economies like India. These offer great investment opportunities to investors if they carefully select the best mid-cap funds. We have explained mid-cap fund meaning so you can explore them to fit them into your investment strategy. However, as an investor, you must be conscious of the risk of mid-cap funds and your allocation.

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