Large caps can give stability to portfolio in volatile times

Volatility is the unavoidable aspect of the equities. But investors cannot avoid equity as an asset class since it has the ability to create wealth over...

Large caps can give stability to portfolio in volatile times

Volatility is the unavoidable aspect of the equities.  But investors cannot avoid equity as an asset class since it has the ability to create wealth over the long term.  Hence, managing volatility associated with it is crucial. This can be done by diversification within equity across market capitalisation i.e., large, mid and small cap.  Large caps are the blue-chip companies with well-established, stable business, stable cash flows, steady dividend pay-out and experienced management making them relative less volatile during market downturn.  Hence, to handle market volatility investors can consider investing in the large caps as they have fallen less than small and midcaps. This is evident in the chart below showing bear market phases when the large cap represented by S&P BSE Sensex has fallen less than small and midcap represented by S&P BSE Midcap and S&P BSE Small cap index indices.

Note: Large cap represented by S&P BSE Sensex, Mid cap by S&P BSE Midcap index and small cap by S&P BSE Small cap index

Compared to directly investing in large cap stocks which typically have higher ticket size; investors can consider large cap funds which invest 80% of their assets in the top 100 listed companies based on the average full market capitalisation of the previous six months. Large cap funds provide the merits of diversification along with professionally managed portfolio by the experienced fund manager, lower ticket size, liquidity and systematic investing.  Not just it, large cap funds can play an important role in current times when the pandemic and uncertainty about economic recovery brings in bouts of volatility.  How?

  • Large cap funds invest in companies which are very matured, reputable and strong earnings growth and following strong corporate governance practices. All of these make this fund category resilient during market fall compared to other equity-oriented fund categories like small and mid-caps.
  • Large cap funds are well diversified across different sectors and stocks and this diversified portfolio helps to keep risk under control.
  • As the majority portion of the large cap funds is in blue chip companies with good track record, they enjoy higher liquidity. Liquidity makes it easier for the fund manager to take quick investment decisions about the underlying portfolio.
  • Amid the market turbulence, the performance of the large cap funds could get impacted. But as they invest in the companies with stable businesses, they have the potential to recover gradually over a period of time.
  • Investing in large cap funds through systematic investment plan (SIP) can also help to deal with the market volatility. SIP negates the need to do market timing and helps to stay invested during all the market phases which helps to average cost per unit. SIP also adds to discipline and keep emotional biases like greed and fear under control.

While large cap funds can help to withstand the market volatility, they offer steady returns over long term compared to small and mid-cap funds. Average returns of the regular growth plans of the large cap funds over 5 years period ended July 23, 2021 was 12% compared to 17% by small cap funds and 14% by the mid-cap funds.  However, small and midcap funds are relatively riskier than the large cap funds.  Hence, large cap funds are good investment option for investors aiming for steady returns with relatively lower risk.  Due diligence of the key attributes of the fund is must before investing in these funds.