Category : New to Investing February 16, 20265 minutes read
Large and mid cap funds are equity-oriented mutual fund schemes that invest in stocks of large cap and mid cap companies, following specific market capitalisation rules set by SEBI. Market capitalisation refers to the total market value of a company’s outstanding shares and is used to classify companies into large cap, mid cap, and small cap categories. These classifications form the basis of portfolio construction in equity mutual funds.
SEBI mandates that large and mid cap funds must invest at least 35 percent of their assets in large cap stocks and at least 35 per cent in mid cap stocks at all times. The remaining portion of the portfolio may be allocated across large cap, mid cap, small cap stocks, or held in cash or debt instruments for liquidity management. This structure ensures that investors receive genuine exposure to both established companies and growing businesses within a single fund.
These allocation rules were introduced to improve transparency, prevent style drift, and allow easier comparison between funds within the same category. For investors, the rules provide clarity on risk exposure and expected behaviour across market cycles. While large cap stocks may help provide stability during market downturns, mid cap stocks contribute to long-term growth potential. As a result, large and mid cap funds may suit investors with long-term goals and a moderate to high risk appetite.
Large and mid cap funds are equity schemes that invest in equities of large and mid cap companies. Like all mutual funds in India, these schemes have to follow certain rules as laid down by the Securities and Exchange Board of India (SEBI). Investors must be aware of these rules and how portfolio allocation works to understand their overall portfolio risk, returns, and horizon to make informed investment decisions. In this blog, we will explore the structure, rationale, benefits, risks, and suitability of large and mid cap funds.
To understand portfolio allocation properly, we must understand what market capitalisation means. Market capitalisation or market cap refers to the total market value of a company’s outstanding shares. It is calculated as:
Market cap = share price x number of outstanding shares
Based on market capitalisation, SEBI classifies companies into three categories, namely, large cap, mid cap, and small cap. Large cap companies are the top 100 companies by market capitalisation, mid cap companies are ranked from 101 to 250, and small cap companies are ranked below 250.
Large and mid cap funds invest in a mix of large and mid cap stocks. The scheme aims to balance the potential stability and lower volatility of large cap stocks and the higher growth potential of mid cap stocks. These funds are designed for investors who want growth opportunities but with relatively lower risk as compared to pure mid-cap or small cap funds.
The Securities and Exchange Board of India (SEBI) has strict allocation rules for all mutual funds in India. For large and mid cap funds, the rules are as follows:
- Minimum 35% of assets must be invested in large cap stocks
- Minimum 35% of assets must be invested in mid cap stocks
- 30% of the portfolio can be allocated across
- Large cap stocks
- Mid cap stocks
- Small cap stocks
- Cash or debt instruments (for liquidity and risk management)
While 70% of the portfolio allocation is mandated at all times, the fund has the flexibility to adjust 30% of its portfolio allocation based on the fund strategy, risk-return appetite, and market conditions.
Read more about the difference between large, mid, and small cap in India!
Before the standardisation of fund asset allocation, many funds that were marketed as “diversified” or “growth” funds had overlapping portfolios and unclear risk profiles. SEBI introduced market cap allocation rules to:
- Ensure categories are uniform: Funds do what they claim to do
- Improve transparency: Investors can clearly understand risk exposure
- Prevent style drift: Funds cannot arbitrarily shift categories
- Enable fair comparison: Funds within a category can be benchmarked effectively
For large and mid cap funds, these rules ensure that investors genuinely receive exposure to both large and mid-sized companies.
For investors, market cap allocation rules bring clarity and predictability. When you invest in a large and mid cap fund, you know that at least 70% of your money will always be invested in equities, split between large and mid cap stocks. This removes uncertainty about sudden changes in the fund’s risk profile. The fund generally aims to give investors a balanced exposure where large cap equities potentially provide stability during volatile markets, while mid cap stocks offer higher growth potential in the long term. However, this also means that investors must be prepared for moderate fluctuations, especially during market downturns when mid cap stocks underperform.
These rules may also help investors compare funds more easily. Since all large and mid cap funds follow the same minimum allocation requirements, differences in performance are more likely to come from stock selection and fund strategy rather than drastic changes in market cap exposure.
The allocation rules strongly influence how the fund manages and builds the portfolio. Since a minimum percentage must always be invested in both large and mid cap stocks, the fund cannot completely avoid either segment, even during unfavourable market conditions. This forces a disciplined investment approach, where stock selection, valuation comfort, and sector allocation all become more important than timing the market. The large cap portion is generally used to anchor the portfolio with well-established stocks that have the potential to absorb market shocks.
Mid cap allocation pushes the fund to identify quality mid-sized businesses with strong growth potential and sound fundamentals. The exposure may be adjusted within the permitted limits by overweighting large cap in uncertain markets or increasing mid cap exposure when growth prospects improve.
Read more about asset allocation.
The Impact of Market Cap Allocation Rules on Risk and Return
The market cap allocation rules directly influence how large and mid cap funds behave across market cycles.
During Bull Markets
- Mid cap stocks have the potential to outperform due to higher growth potential
- Funds may benefit from mandatory mid cap exposure
- Performance may exceed that of pure large cap funds
During Bear Markets
- Mid caps tend to fall more sharply
- Large cap allocation may help cushion downside risk
- Volatility may be lower than mid cap only funds but higher than large cap funds
Invest in Bandhan Large and Mid Cap Fund today!
Market cap allocation rules play a critical role in defining the identity and behaviour of large and mid cap funds. SEBI’s requirement of a minimum 35% allocation each to large-cap and mid-cap stocks ensures transparency, consistency, and investor protection. For investors, these rules offer clarity about where their money is invested and what level of risk to expect. Nevertheless, investors should align their fund choices with their financial goals, time horizon, and risk tolerance before investing.
