Midcap and smallcap volatility may persist, but stay the course with your SIPs

Midcap and smallcap mutual fund categories have seen consistent net inflows even during volatile periods.

Markert experts are not sure if the Indian equity markets have formed a bottom and will soon see a reversal and climb back up, but are unanimous in their views that mutual fund investors can continue with their systematic investment plans (SIPs) in smallcap and midcap funds.

SIPs help mitigate the impact of market fluctuations through rupee cost averaging, ensuring disciplined and consistent investing. At the same time, retaining some liquidity allows investors to capitalise on potential market corrections.

Indian equity markets have seen decent recovery over the past two weeks with smallcap and midcap funds leading the recovery. Note that these smaller-cap fund segments have also been the biggest losers during the market fall over the past six months.

Despite the market fall, strong SIP inflows and retail participation are driving demand in these segments. The midcap and smallcap mutual fund categories have seen consistent net inflows even during volatile periods.
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“The recent rally in midcap and smallcap stocks does reflect strong investor confidence and renewed momentum, but it would be premature to say the pain is entirely over,” said Viral Bhatt, Founder, Money Mantra.

Stick to your plan

Kirtan Shah, Founder of Credence Wealth thinks that it would be premature to think that the market bottom is in place or that this is just a short covering rally.

However, he believes that with the recent correction, there are opportunities emerging in the smallcap space.

“The midcap space, on the other hand, is still slightly expensive. The problem with midcaps, in general, is that, as per SEBI definition, you only invest in 150 stocks. So, all the liquidity that comes into the midcap space invariably goes into those 150 stocks, unlike smallcaps, where the universe is much larger,” said Shah.

His suggestion for those investors approaching this market via SIPs is to stick with the plan, provided they have four to five years of view.

Bhatt also suggests sticking with SIPs and diversification. “Long-term SIPs have historically worked well in volatile asset classes,” he said.

Is lump sum a good idea?

According to Deepak Chhabria, CEO of Axiom Financial Services, the worst for the markets might be over based on the prevailing information. But if the news is not good, then they will have to revaluate, he said.

He suggests that investors not make lump sum investments in smallcap and midcap packs at this moment.

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“Investors might see a lot of volatility in those segments because fund managers might reshuffle and realign their portfolios based on what they find worth buying and what they find expensive. Whatever they find expensive, they probably will use the rally to reduce their exposure or weights and try to build up where they find valuations a little more reasonable,” he said.

He also suggests that investors rebalance their portfolios, if they are overweight, towards smallcaps and midcaps and can’t bear the volatility. “I would prefer they realign their portfolios and also bring in the flexi-cap and the large-cap allocation,” Chhabria said.

Money Mantra’s Bhatt also suggests that caution is key at this point.

“Right now, lump sum investments in the midcap and smallcap segments carry elevated risk due to high valuations and recent sharp rallies. Lump sum investing in smallcaps and midcaps is like boarding a fast-moving train — possible, but risky if you (take a) misstep. Better to board gradually and enjoy the journey than jump in and get hurt,” he said.

Outlook of midcaps and smallcaps

Many midcap and smallcap companies have posted good earnings, especially in sectors such as capital goods, auto ancillaries, manufacturing, and specialty chemicals.

However, experts feel that after the run-up in the past few years, many stocks in these spaces are trading at historically high valuations. Therefore, the risk of mean reversion is real.

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For do-it-yourself (DIY) investors, Bhatt suggests that within smallcaps and midcaps, stick to companies with strong balance sheets, predictable cash flows, and professional management.

“These segments remain vulnerable to liquidity shocks. In case of global risk-off events or sharp corrections, they are typically the first to fall and the last to recover,” he said.