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Mid-cap fund and small-cap fund holdings should not form part of the core portfolio

THERE is always a question in the minds of investors about the role of mid and small-cap funds in their portfolio. For understanding this, it is important to look at the behaviour of these funds, as it will enable you to take a position on how they should actually be treated in the portfolio and the role that they can play in the future. It will also help in determining how these funds need to be included in the portfolio.

Return expectation:

 Mid and small-cap funds are considered as an attractive investment option due to the returns that they can generate. Largecap funds might seem to have a limited potential on the upside because of the nature of stocks in the portfolio and, hence, the attraction towards the mid and small-cap funds rises. There are chances that some stocks in the portfolio could turn out to be multi baggers, which can increase the overall returns for the fund. This is the hope that attracts investors towards these funds, but this is just the starting point for the entire investment consideration.

Since the risk element is also high, this aspect also needs some attention from investors before they make the investment.

Very volatile:

There are times when the mid and small-cap space bears the brunt of market movement on the downside as they go out of favour with the investor community.

This is the time when individuals witness that there is a sharp fall in the value of these stocks, which can be for quite high in a short period of time. Thus, a 30 per cent or a 40 per cent fall in the value of several stocks in a few weeks is something that is not very uncommon, and can lead to a situation, wherein, the net asset value of the funds also swing in dramatic fashion. Thus, sharp rises and falls could lead to the entire outlook for the investment changing quite rapidly and, so, this is something that investors have to be ready to face. In case, there is some action required, then waiting might prove to be too late. So, it is better to be quick to respond to the situation.

Portfolio part:

It is important that the mid and small-cap holdings covers a small part of the portfolio with a specific role assigned to it. There has to be a percentage in the overall portfolio that should be allotted for such funds to ensure that there is a specific way in which the investment is constructed. Also, the mid and small-cap holdings should not form a part of the core portfolio of investors so that there is not much reliance placed on it to generate steady returns.

There will be times when nothing is happening to this part of the portfolio or a situation where the returns could jump significantly in just a short period of time.

This can lead to a position where if the investment is meant for capital appreciation over a period of time, then the goal can be achieved due to the sharp appreciation in a bull run. On the other hand, expecting too much in the short-term can lead to disappointment and wrong decisions as far as selling of the fund is concerned.

This is something that individuals need to be alert about because it will impact their final returns