All about investing in Nifty Small Cap 250 Index 2022
Some people with an aggressive risk profile prefer to take high risks with the expectation of high returns. These people can invest in small-cap funds that carry high risk and have the potential to give high returns. This article will discuss what small-cap funds are, who should invest in them, and how they are taxed.
What are small-cap funds?
Before talking about small-cap funds, let us first understand small-cap companies. SEBI has defined small-cap companies as 251st – 500th companies based on market capitalisation. A small-cap fund is an open-ended fund that has to invest a minimum of 65% of its total assets in equity and equity-related instruments of small-cap companies.
Small-cap companies have the potential to be tomorrow’s mid-cap and large-cap companies. Small-caps have the potential for higher growth compared to mid-cap and large-cap companies. At the same time, small-cap companies carry higher risks than mid-cap and large-cap companies.
How to invest in small-cap funds?
Based on the management style, small-cap funds are of two types: active and passive/index small-cap funds.
Active small-cap funds:
Most active small-cap funds have the Nifty Smallcap 250 Index as the benchmark. An active small-cap fund invests most of its money in the Nifty Smallcap 250 Index stocks. However, the fund manager decides which company shares to buy, the number of shares, and when and at what price. The same applies to selling these shares also. As the fund manager takes most of the decisions by following an active management style, these funds are known as active small-cap funds.
Nifty Smallcap 250 Index funds:
The other way of investing in small-cap stocks is through a Nifty Smallcap 250 Index Fund. As per SEBI guidelines, a Nifty smallcap index fund has to invest a minimum of 95% of its total assets in equity and equity-related instruments of the Nifty Smallcap 250 Index. A Nifty Smallcap 250 Index fund invests in all the Nifty Smallcap 250 Index constituents as per their weightage. The fund replicates or tracks the performance of the Nifty Smallcap 250 Index. These funds are also known as passive funds or index funds. Examples of small-cap index funds include Motilal Oswal Nifty Smallcap 250 Index Fund, Aditya Birla Sun Life Smallcap 50 Index Fund, etc.
Who should invest in small-cap funds?
All equity funds carry a high-risk profile. However, the risk profile of a small-cap fund is higher than that of a large-cap and a mid-cap fund. A small-cap fund has the highest risk profile, followed by a mid-cap fund and finally a large-cap fund.
So, an investor looking to take more risk than large-cap stocks and mid-cap stocks can consider investing in a small-cap fund. An investor looking to take a high risk and benefit from the growth of small-cap companies can consider investing in a small-cap fund.
Who should invest in an active small-cap fund?
As an investor, if you are okay with the fund manager deciding which stock to buy, how much, when, and at what price to buy, you can invest in an active small-cap fund. The expense ratio of an active fund is on the higher side. The fund manager's objective is to outperform the Nifty Smallcap 250 Index. However, the actual returns may be higher or lower than the Nifty Smallcap 150 Index.
Who should invest in a Nifty smallcap index fund?
If you want to invest in all the 250 companies that are a part of the Nifty smallcap 250 Index in the same proportion as their weightage in the Nifty Smallcap 250 Index, you can invest in a Nifty Smallcap 250 Index Fund. The expense ratio of a passive fund is on the lower side. The fund manager’s objective is to replicate the performance of the Nifty Smallcap 250 Index. However, the actual returns may be slightly lower than the benchmark index due to the expense ratio and tracking error.
Performance of small-cap mutual funds
Let us look at the returns of some small-cap mutual funds.
|Scheme name||AUM (Rs. crores)||1-year||3-years||5-years|
|Axis Small Cap Fund||8,178||57.84%||34.95%||25.13%|
|Nippon India Small Cap Fund||18,831||73.31%||32.49%||24.61%|
|Kotak Small Cap Fund||6,761||66.35%||37.15%||24.17%|
|L&T Emerging Businesses Fund||8,189||76.76%||26.95%||22.28%|
|HDFC Small Cap Fund||13,649||61.50%||23.32%||22.17%|
Note: The returns are as of 21th Jan 2022. The returns are for direct plans with growth option. The one-year returns are absolute. The three and five-year returns are CAGR. The funds have been ranked based on five-year performance.
Taxation of small-cap mutual funds
Small-cap mutual funds are a sub-category under the broad category of equity mutual funds. Hence, the taxation of small-cap mutual funds is similar to that of equity mutual funds.
Short-term capital gain (STCG) tax:
If you sell your small-cap mutual fund units before 12 months, the capital gain will be classified as short-term capital gain (STCG). The STCG will be taxed at 15%.
Long-term capital gain (LTCG) tax:
If you sell your small-cap mutual fund units after 12 months, the capital gain will be classified as long-term capital gain (LTCG). The LTCG of up to Rs. 1 lakh in a financial year will be exempt. The incremental LTCG above Rs. 1 lakh in a financial year will be taxed at 10% without indexation benefit.
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