Since the universe for small-cap mutual funds is huge, is it ok to invest in multiple small-cap funds like SBI, Kotak, Axis & Nippon? Or should one stick to only one small cap fund? Different AMCs might discover different hidden gems. - Yogesh Dedhia
The overall ideology that we adopt at Value Research is to simplify investing. We assume that you are asking the question from the same perspective and want to see whether you can add to the diversification of the small caps universe while keeping it simple.
We recommend four to five funds across different caps to construct the complete portfolio. In a small-sized portfolio, you can have one fund from each category, but in a bigger portfolio, you can invest in two funds under a category (based on your risk appetite).
If you see differences and have conviction in multiple funds, you may look to invest in two small-cap funds. However, you need to understand that portfolio overlapping of funds should not be high (for instance, greater than 50 per cent). A safe overlap would be around 30 per cent - 40 per cent. The overlap in holdings can expose your portfolio to concentration risk and skew returns to specific stocks or industries.
Another way to diversify this risk is to select funds from different houses as they would have different investment styles and ideologies. In such a case, even with similar holdings, the entry and exit points might be different and the fund manager's expectation would be different from the stocks.
If funds genuinely diversify without confusion and you have conviction, then you should go for it as the small-cap universe is large and has plenty of opportunities with hidden gems. We recommend that overall small cap holding in an entire portfolio should be in minority, i.e., around 20 per cent to 30 per cent.
Want to simplify your choices for small caps? Check out our 'Best Buys' in Value Research Premium.
Suggested watch:
Should I exit from small-cap funds on a loss?
Is it better to invest in mid caps than small caps?
This article was originally published on August 22, 2022.
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