Small cap funds have been battered by the recent market correction even as they were already reeling from a tough year. A question on many investor minds is, ‘have they fallen enough?’ This is not an easy question to answer. Mutual Funds are not stocks or even passive collections of stocks. A fall in NAV can have two very different implications. First, that the fund is not being managed well and the manager is not selecting the right stocks. Alternatively, second, that the manager has picked fundamentally sound stocks but they have simply been ground down by the market correction. Forming the correct diagnosis makes all the difference between picking a good and bad fund.
One way to approach this question is to look the long term track record of the fund in question, the fund manager’s history and the overall performance of the AMC (Asset Management Company), running the fund. On this basis, we have shortlisted a few well-managed funds that have dropped sharply in the recent market correction.
| Fund | 1 month | 1 year | 3 years | 5 years |
| HDFC Small Cap Fund | -5.14% | 14.03% | 20.47% | 24.48% |
| L&T Emerging Businesses Fund | -6.34% | 1.73% | 20.70% | – |
| Reliance Small Cap Fund | -6.37% | 6.15% | 19.80% | 36.46% |
| SBI Small Cap Fund | -6.08% | 7.10% | 20.47% | 34.93% |
Data as on 25/09/2018, Source: Value Research, Direct Plans only
As you can see, this funds have spectacular 3 and 5 year returns, demonstrating great fund manager skill. The AMCs in question have also built up a strong track record. Over the past month, these small cap funds have corrected by 5-6%, taking their annual returns to low single digits in many cases. Below, we take a closer look. Note that we have considered regular plans for returns longer than 5 years and direct plans for returns of 5 years or less. This is because direct plans only came into being in 2013. Direct plans do not pay out distributor commissions and hence give higher returns than regular plans.
HDFC Small Cap Fund: This fund, launched in April 2008, has recently completed 10 years. It has delivered 14.9% since inception (regular plan). A market correction in 2013 allowed investors to get units at a discount. Their returns over the next 5 years turned out to be a whopping 24.5% (direct plan). It has beaten its benchmark and category over the past one, three and five years.
Reliance Small Cap Fund: This fund was launched in September 2010 and has given a whopping 19.2% (regular plan) since launch. Anyone entering this fund, 5 years ago would have made a killing. Its five year returns are 36.46% CAGR. The fund has beaten its benchmark over the past 5, 3 and 1 year showing a great deal of promise.
L&T Emerging Business Fund: This fund, launched in May 2014, has outperformed its benchmark in the most spectacular way possible. It has delivered a whopping 24.42% (direct) since inception compared to the 10.2% delivered by its benchmark (Nifty Smallcap 250 TRI). In the past year as well, the fund delivered a flattish 1.73% compared to -9.85% on the Nifty Small Cap 250 TRI. Its manager, Soumendra Nath Lahiri takes the number 2 spot in the 2018 ranking of fund managers by ET-Morningstar.
SBI Small Cap Fund: This fund has the great advantage of being lean. At an AUM of Rs 1,067 crore, it is much smaller than its peers. This allows it to enter and exit small companies without facing a liquidity problem. It has also demonstrated solid returns of 34.93% over the past five years and 20.47% over the past three years. The fund has outperformed its benchmark over both these time periods. The fund has been managed by the legendary R Srinivasan since 2013.
Remember that 4,750 of the roughly 5,000 listed companies in India are small cap companies. Small cap funds are mandated to invest at least 65% of their corpus in such companies. This is, on fundamental grounds, a very good space to invest in, for the long term. Investing in them while they are small effectively ‘catches them young.’ A few AMCs with highly successful small cap funds like DSP Mutual had stopped subscription after the market rose rapidly last year. They have now reopened these funds for subscription. This in itself may be a contrarian sign for you to invest.
However before you invest, note that small cap funds are extremely volatile and the correction may have a lot longer to run. An Systematic Investment Plan (SIP) may be the best way to go about it. SIPs spread your purchase price and get you ever more fund units in a bear market. This positions you for outperformance when the market resumes an upward climb.