Summary of this article
As valuations stretch across segments, large caps emerge as reasonably priced choice.
Experts suggest rebalancing towards large-cap funds for better risk-adjusted returns.
Long-term Nifty 50 returns expected around 12 per cent, aligned with nominal GDP growth.
Stock markets have touched record high levels with the Sensex crossing the 86,000-mark and Nifty 50 above 26,300 levels for the first time on November 27. The fresh highs come more than a year after the indices had earlier set records on September 27, 2024. According to analysts, large caps are leading this rally amid strong earnings growth, relatively reasonable valuations and favourable macroeconomic conditions. So, given the attractive valuations, is it the right time for mutual fund investors to invest in large-cap funds instead of mid and small funds now? What should existing investors do? Should they switch their portfolio to large caps?
Going by the key market cap Indices to total market ratio, on a relative basis, large caps are currently trading at reasonable levels, says Sriram BKR, Senior Investment Strategist, Geojit Investments, at around 6-7 per cent discount as compared to its 10-Year average, followed by small caps which is at a premium of 12 per cent and midcaps - at a premium of 20.7 per cent and Microcaps - at a premium of 38 per cent.
A similar trend could be noticed at the price-to-earnings (PE) levels as well.
“Compared to its long-term (10-year) average of around 18x, the large-cap index, Nifty 50, is currently trading at around 20x 1-year forward P/E multiple,” says Niharika Tripathi, head of products & research, Wealthy.in, a wealth management platform. She adds that the Nifty Small Cap 250 is trading at roughly 30x its 1-year forward P/E multiple, compared to its long-term average of around 22x, while the Nifty Midcap 150 is trading at approximately 33x its 1-year forward P/E multiple compared to its long-term average of 28x.
The forward P/E multiple is a stock valuation metric that divides a company's current share price by its projected future earnings per share (EPS) for the next year. It is also known as the estimated P/E ratio and provides a forward-looking perspective on a company's value.
Given relatively comfortable valuations for large companies, the market, according to Tripathi, is reflecting a recalibrated risk appetite, with an increased preference for high-quality, stable companies that offer liquidity and transparency.
Should Mutual Fund Investors Invest in Large-Cap Funds for High Returns?
Given the sharp run-up and stretched valuations in parts of the mid and small-cap space, industry experts ask investors to be cautious and consider rebalancing towards large caps. “This is because large caps today are likely to offer better risk-adjusted return in the current market setup,” says Anish Tawakley, Co-CIO – equity and fund manager, ICICI Prudential Mutual Fund.
Large-cap funds in general are suitable for investors preferring stable returns with moderate risk, while mid-caps are favoured by those with a higher risk appetite seeking potential higher growth.
Investing in large caps offers stability during turbulent times and fosters long-term wealth creation, making them an essential component of any core portfolio, Tawakley adds. These companies have a track record of robust fundamentals, making them less volatile when compared to mid-caps and small-caps.
Given the current valuation environment and market behaviour, as per Niharika Tripathi, investors focusing on long-term stability with moderate growth potential should consider increasing allocation to large-cap stocks.
However, “mid and small cap stocks still have a higher scope of returns in the long run,” says Sriram BKR.
As far as existing mutual fund investors are concerned, they should avoid reacting impulsively to market fluctuations, caution experts. “They should continue to stick to their long-term financial plans and regularly review and rebalance the portfolio to maintain the desired asset allocation, especially to capture profits from assets that have run up significantly,” says Niharika Tripathi.
For new mutual fund investors, however, the key steps are to first understand their investment goals, risk tolerance, and time horizon. They can explore investing via Systematic Investment Plans (SIPs).
“Starting with SIPs is highly recommended as they promote disciplined investing, reduce the risk of market volatility through rupee cost averaging, and allow investing smaller amounts regularly,” explains Tripathi. Looking at the current market scenario, she adds, new investors can start with having equal allocation towards categories like large cap, flexi cap & multi asset allocation categories.
What kind of returns to expect from large caps? Are they suitable for long-term goals?
India’s nominal GDP is expected to grow by 11 per cent to 12 per cent over the next 5 years. Historically, explains Tripathi, there has been a strong correlation between India’s nominal GDP growth and Nifty 50. Therefore, she adds, we can expect the Nifty 50 Index to grow in similar lines, i.e. around 12 per cent in the next 5 years.
