The year 2024 proved to be a positive one for the Indian stock market, driven by stable macroeconomic factors, favorable election outcomes, and robust domestic flows. Among mutual fund categories, small-cap funds stood out with an impressive average return of 25.69% between December 2023 and December 2024, outperforming large-cap funds, which returned 14.97% during the same period.
As we enter 2025, the key question for investors is whether small-cap funds remain a viable option for maximizing returns. Here’s a detailed analysis of the performance, growth potential, and expert recommendations for small-cap mutual funds in 2025.
Performance of Small-Cap Funds in 2024
The robust performance of small-cap funds in 2024 was fueled by a combination of factors:
- Impressive Returns: Small-cap funds delivered an average return of 25.69%, compared to 26.91% for mid-caps and 14.97% for large caps.
- Market Performance: The Sensex and Nifty rose by 8.92% and 9.49%, respectively, with record highs of 85,978 (Sensex) and 26,277 (Nifty) in September 2024.
- Sectoral Contribution: Capital goods, defense, and railways outperformed, while BFSI and IT underperformed the benchmarks.
Key Drivers for Small-Cap Fund Performance
1. Macroeconomic Stability
India’s stable growth and moderate inflation created a conducive environment for small-cap companies to thrive.
2. Earnings Growth Potential
According to Ajay Khandelwal, Fund Manager at Motilal Oswal Mutual Fund, small-cap earnings are expected to grow faster than large caps due to lower leverage and reduced stock price volatility.
3. Attractive Valuations
Although valuations are high, they have moderated due to market corrections, making select small-cap stocks appealing for investors with a long-term horizon.
Expert Opinions on Small-Cap Investments
Bullish Sectors for 2025
Experts recommend focusing on specific sectors that are poised for growth:
| Expert | Bullish Sectors |
|---|---|
| Ajay Khandelwal | Manufacturing, power renewables, luxury discretionary products |
| Mihir Vohra | Premium consumption sectors like high-end real estate, liquor, airlines, hotels, healthcare, defense |
| Abhilasha Satale | Healthcare, insurance, BFSI with reasonable valuations |
| Varun Goel | Rural and urban consumption, small caps with long-term growth potential |
Diversification Strategies
- Mihir Vohra suggests a balanced portfolio with equity, fixed income, and gold to mitigate risks amid potential market volatility.
- Abhilasha Satale emphasizes reasonable valuations and earnings growth for sustainable returns.
Expected Returns
- Moderate returns of 10-12% for small-cap funds are anticipated, as earnings growth stabilizes following high base effects.
Risks and Challenges
While small-cap funds have delivered stellar returns, they come with certain risks:
- High Valuations: Despite recent corrections, some small-cap stocks continue to trade at inflated levels.
- Market Consolidation: Limited earnings growth could lead to consolidation in the small-cap space.
- Geopolitical and Global Factors: Supply chain disruptions and global inflation trends may impact growth.
Is Investing in Small-Cap Funds Worth It in 2025?
Why Consider Small-Cap Funds?
- High Growth Potential: Small-cap companies offer a long runway for expansion and wealth creation.
- Portfolio Diversification: Including small caps balances exposure across different market segments.
- India’s Growth Story: With sustained economic growth, small-cap stocks are likely to benefit from increased domestic consumption and industrial expansion.
Ideal Investment Horizon
Varun Goel, Senior Fund Manager at Mirae Asset, recommends a 4-10 year horizon for individuals looking to create wealth through small-cap funds. This time frame allows investors to ride out short-term volatility and capitalize on long-term growth.
Conclusion
Small-cap mutual funds have demonstrated their potential to outperform larger counterparts, making them an attractive choice for investors in 2025. However, careful selection of sectors, diversified portfolios, and a long-term approach are essential to mitigate risks.
For investors seeking to tap into India’s growth story, small-cap funds offer an excellent opportunity to achieve higher returns while contributing to portfolio diversification.
Disclaimer: The information provided in this article is for educational purposes only and does not constitute financial advice. Please consult with a financial advisor before making investment decisions.
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