As the markets approach previous highs, there is yet again a surge of new fund offers (NFOs) from asset management companies. In this regard, a new midcap NFO is being rolled by Canara Robeco Mutual Fund, which doesn’t launch new schemes aggressively like some houses are known to.

In recent years, there has been increasing interest around mid and smallcap stocks and funds, given their strong rally from April 2020. Even so, many midcap funds still struggle to beat their benchmarks, though their performance is better than that of large-cap peers.

Canara Robeco has a reasonably good track record with most of its equity funds. But will this new fund offer can deliver well? Here’s what you must know about the NFO before investing in it. The offer closes on November 25.

The midcap universe

Most investors enter midcaps hoping that they would grow and become large-caps someday. While some do get there, a few fall by the wayside and cause considerable wealth destruction. But, over the long term, midcaps have still delivered reasonably well vis-à-vis the underlying risks.

The India’s midcap universe comprises stocks that are ranked 101-250 in terms of market capitalisation.

There is more representation for sectors such as auto components, speciality chemicals, home improvement, materials, road infrastructure, real estate and manufacturing in the midcap space than the large-cap segment, making it a more diversified basket.

The Canara Robeco Midcap fund will be benchmarked to the S&P BSE 150 Midcap index.

It will follow the well-defined process for stock selection with macro factors, company-specific parameters and management visits will be the bedrock for zeroing in on the right companies.

The BSE 150 Midcap – the investment universe – has a few important factors that investors need to take note of.

-         The fortunes of nearly 78 per cent of the stocks in the index are dependent on domestic factors –demographics, financialisation, urbanisation and improving income levels. These parameters in turn create demand in various sectors. With the Indian economy set to grow at 6-7 per cent even in a difficult macro environment, midcaps with domestically dependent factors may deliver better.

-         The large-cap indices tend be heavy on energy, IT and financial stocks with over 40 per cent weight given to such companies. The BSE 150 Midcap has only about 25 per cent weightage for these segments, making it a more diversified basket.

-         The return on equity of companies in the index improved from 15 per cent in FY15 to nearly 18 per cent in FY22.

-         Interest coverage has increased from 6 times in FY13 to 24 times in FY22. The net debt to equity ratio has fallen from about 0.35 times in FY13 to about nil in FY22. Both these factors are indicative of vastly improved balance sheets. The data is taken from the presentation quoting B&K Securities.

-         An SIP in the BSE 150 Midcap over the past 10 years would have delivered 18 per cent IRR.

How other midcap funds have performed

Just as large-cap funds face the heat as many schemes in the category underperform benchmarks, midcap funds, too, have their fair share of underperformers.

Over the past three years, 10 of 23 (over 43 per cent) midcap funds have underperformed the BSE 150 Midcap TRI and Nifty Midcap 150 TRI. That underperformance figure increases to 11 of 21 funds (over 52 per cent) for five years and as much as 12 out of 20 schemes (60 per cent) over seven years.

Thus, fund selection becomes important for outperforming the benchmark and generating meaningful alpha.

Canara Robeco’s equity funds deliver

In the categories that Canara Robeco has equity mutual fund schemes, the performance has been quite healthy. Over medium and long terms of 3-10 years, almost all of the fund house’s schemes have consistently beaten their respective benchmarks.

These equity schemes have generally remained in the top quartile of funds in their categories.

What should investors do?

For investors with long-term goals, mid-cap funds must be a part of their asset allocation according to their risk appetite.

Given the high-risk nature of these funds, it would be advisable to go with established names in the category. PGIM India Midcap Opportunities and Kotak Emerging Equity are good choices.

Any new fund must be allowed to develop a track record before investing.

However, given the strong track record of Canara Robeco’s equity funds, if high-risk investors do want to invest in the NFO, they can consider doing so via the SIP route.