If you’re a beginner venturing for the first time into stock trading and have no deep understanding of the many concepts associated with equity, you may find much of the terminology associated with equity trading vague or unclear. This is particularly true when you’re searching for stocks for your next investment or mutual funds to purchase.
Some people may give you the names of the stocks or funds to pick up next, while others may give you broader pieces of advice, like investing in large cap funds or steering clear of small cap funds. But, what do the terms small cap, mid cap, and large cap mean? And, what is the difference between large cap, mid cap, and small cap? To understand this, it is important to start at the basics and understand what the market cap represents.
What is market capitalization?
The technical definition of market capitalization, often dubbed as market cap, is “the market value of the outstanding shares of a company”. In simpler words, the market value of all the shares that are held by a company’s shareholders is known as market capitalization.
The formula for the market cap of a company is as follows
Market capitalization = total number of outstanding shares multiplied by the market price of each share.
Let’s look at a quick example to understand this better.
There’s a company whose shares are listed on a stock exchange. If the company has around 10 lakh shares currently trading at Rs. 500 each in the stock market, the market capitalization of that company would be Rs. 50 crores (10 lakh shares x Rs. 500).
What are small cap, mid cap, and large cap funds?
Based on the market capitalization, companies are classified into three different categories:
- Large cap
- Mid cap
- Small cap
What do these terms represent? What is the difference between large cap, mid cap and small cap stocks? In 2017, the Securities and Exchange Board of India laid down certain rules to classify companies according to their market cap. This was done to maintain uniformity in the financial markets for investments and trading.
Large cap companies
According to SEBI’s rules, all companies that are listed on the stock exchanges are ranked based on their market cap. The top 100 companies are categorised as large cap companies. Mutual funds that invest in the stocks of these large cap companies are categorised as large cap funds.
Large cap companies generally have an excellent track record. The market cap of these companies is significantly high, coming in at around Rs. 20,000 crores or more. These stocks are also often included in broad market indices such as NIFTY and SENSEX, primarily because they command a very strong market presence.
Mid-cap companies
As per SEBI’s classification, the companies from rankings 101 to 250 in terms of market capitalization are known as mid-cap companies. Their market cap generally tends to range from Rs. 5,000 to Rs. 20,000 crores. Since mid cap companies have a moderate to strong market presence, they may or may not be widely included in broad market indices.
Small cap companies
SEBI’s rules state that all the companies that are ranked from the 251st position onwards in terms of market cap are automatically categorised as small-cap companies. Small-cap companies generally don’t have a long track record. These companies could either be relatively new start-ups or businesses that are still in the developmental stage.
In terms of market cap, these companies generally come in below Rs. 5,000 crores. Consequently, these companies tend to enjoy little to no market presence and therefore are mostly not included in broad market indices.
Difference between large cap, mid cap and small cap funds
| Particulars | Large cap | Mid cap | Small cap |
|---|---|---|---|
| Ideal investor profile | Conservative investors with a long-term investment horizon | Moderately risk-tolerant investors with a long-term investment horizon | Aggressive investors with short-term goals |
| Risk | Possess relatively lower risk | Riskier than large cap | Considerably riskier |
| Availability of information on the companies | Often less volatile and highly liquid | Slightly volatile and quite liquid | Highly volatile and not very liquid |
| Potential for growth | A higher potential to generate stable returns | Moderate potential for growth | Considered to be high |
Conclusion
The Association of Mutual Funds of India periodically releases a list of stocks according to their market capitalization, based on the data provided by the Bombay Stock Exchange (BSE), National Stock Exchange (NSE) and Metropolitan Stock Exchange of India (MSEI).
Before you invest in mutual funds, make sure you check out the most recent lists to know the companies in which the funds invest your money, so you can verify if they are aligned with your risk profile and your investment goals. A mutual fund app can be a helpful tool for accessing and reviewing this information.
