New multi-cap fund rules may drive rally in mid, smallcaps but stick to quality, say experts

The Securities and Exchange Board of India (Sebi) on September 11 tweaked investment rules for multi-cap funds to diversify investments across the large, mid and smallcap companies and be true to the multi-cap label.

Mutual fund houses now have to invest a minimum 75 percent, from 65 percent earlier, of total assets in equity and equity-related instruments. These funds will have to invest at least 25 percent each in large, mid and smallcap stocks.

"All the existing multicap funds shall ensure compliance with the above provisions within one month from the date of publishing the next list of stocks by AMFI, ie January 2021," the Sebi circular reads.

"Retail investors should not get carried away by the euphoria that every mid and smallcap stock will be in demand. In fact, we are recommending investors to invest in a fundamentally strong company with good corporate governance record," Choice Broking said.

Experts feel around Rs 25,000-35,000 crore could see a shift from largecaps to mid and smallcaps, triggering a rally in these stocks. Till now, fund houses have tilted in favour of largecaps that see an allocation of around 70-75 percent against 15-20 percent in midcaps and 5-10 percent in smallcaps.

"An amount equivalent to Rs 35,000 crore will move out of largecaps and will move into mid and smallcaps. This move will help midcap and smallcap stocks to move up," Joseph Thomas, Head of Research at Emkay Wealth Management told Moneycontrol.

Anticipating the move, mutual funds have from August started moving from largecap to mid and smallcap space. They have six months to adhere to the new guidelines.

Sebi's multi-cap fund norms may see Rs 25-35K crore move from largecaps to mid and smallcaps

"Midcap and smallcap indices were in the bear market for the last three years. This structural move will broaden the market, which is currently characterised to be a polarised one. The market might see a re-rating or a new bull run in the mid-small cap stocks, largely because of this allocation," Choice Broking said.

"There will be selling in largecap stocks, but will be absorbed by the market. Re-building investor confidence on mid-small cap stocks will be gradual. Overall, the move is positive for the broader market."

The BSE midcap index was down 45 percent and smallcap 55 percent from 2018 till March 23 this year. From March lows, the midcap index has shot up 50 percent and smallcap 64 percent against 50 percent upside in the Sensex and the Nifty.

Amit Doshi, Investment Director at Care PMS, said the smallcap basket, which was ignored due to focus on top 250 companies, will gain attention and will support the broad-based rally of 2020 compared to the polarised market of the last two years.

The Sebi classifies companies on the basis of market capitalisation. Top 100 companies are largecaps, the next 150 are midcaps and from 251th on are smallcaps.

The new norms could also encourage small companies to tap capital market for fund raising.

The market regulator made the right move in the interest of retail investors and for the entire stock market ecosystem, Neil Bahal, Managing Director at Negen Capital said.

“Earlier, almost all of the money was flowing primarily into largecap stocks. Now money will see even distribution and increase the long-term valuation of good quality smallcap stocks," Bahal said.

It will encourage a lot of smaller companies to tap the equity markets, he said, adding Sebi’s new norms are a game-changer.