Is it the right time to invest in mid-cap funds?

After dizzying rallies post the lows of March 2020, mid-cap stocks are attracting hordes of investors, who are betting on further gains despite most of them already giving triple-digit returns. These companies are the ones that ranked between 101 and 250 in terms of market capitalisation and generate higher returns over a long-term period. The most sought-after avenue for investing in these stocks is via a mid-cap focussed mutual fund that usually allocates about 65 per cent of the total assets in equity and equity-related securities of mid-cap companies. Fund managers select from amongst these mid-cap companies due to the long-term potential for value-unlocking in them, which can provide impressive returns to the investors. With the spotlight on this class of stocks, investors are faced with the conundrum of making fresh investments in them via a dedicated mid-cap mutual fund, or should caution be exercised considering the current volatility. 

On the valuations’ front, many mid-cap stocks have given stratospheric returns over the past year with the market participants betting big on their prospects. Nifty Midcap 100 index has already given returns in excess of 250 per cent over a 15-month period and is currently trading at all-time highs. Market participants are betting that these mid-cap stocks will outperform their larger peers and record higher revenue/profit growth ahead as the economy opens. This optimism has fuelled the price of some stocks way beyond fundamentals and is a cause for concern for new investors, who are hoping to participate in this rally. However, there are many stocks, which have not participated in the rally and hence, offer value. Hence, the selection of the right stocks/funds is of paramount importance from here on. Investors should be careful in choosing the stocks/funds to invest in. 

The foremost priority for any investor should be to protect their capital from the risk of value erosion while aiming to get inflation-beating returns on their investments. With this perspective, it is important that funds are appropriated towards equity in line with one’s risk appetite, especially considering today’s market scenario, where equity indices are at or near all-time highs. Of the total equity fund allocation, it is prudent to invest 20-25 per cent in the mid-cap space while diversifying the remaining amount amongst large-cap funds or Flexi-cap funds. In terms of an investment horizon, it is always preferred that investors look at a minimum horizon of 5 years when investing in mid-cap funds due to the relatively higher price volatility displayed by stocks in this space. Any shorter investment tenure may not be favourable for generating optimal returns in mid-cap funds and investors with such an investment approach would do well to avoid them altogether. 

In a summary, those already invested in mid-cap funds and who have benefitted from the stellar rally would do well to book some returns and re-invest them in safer instruments like debt mutual funds. Novice investors would do well to allocate capital, considering their short-term financial goals, and invest in mid-cap funds with a longer-term outlook to ensure they are not unsettled by any near-term price corrections.