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Small and midcap schemes may impose restrictions on redemptions, cap employee withdrawals, and increase the exit load, while ensuring a proportionate liquidation of the portfolio during market crises to safeguard the interests of all investors. These measures have been outlined in the investor protection policies recently put out by mutual fund (MF) trustees. The policies for small and midcap schemes were prepared by MF trustees following directives from the Securities and Exchange Board of India (Sebi) earlier this month.

Nirav Karkera says: “If you want to play on stocks which reflect on factors the government policies are focusing on and macros are in favour of, very good opportunities are available in the mid- and smallcap space and for most of these segments are almost absent in the large-cap space.”

Nippon India Small Cap Fund, the largest scheme in the small- cap space with assets of ₹36,540 crore in August 2023, has 196 stocks in its portfolio, compared to 148 a year ago.

"Given the limited liquidity in most small-cap stocks, a fund's internal prudential scrip wise exposure limits and the fund manager's perception on their valuation post the recent run-up, it is imperative for them to look for newer stocks to invest in," said Deepak Jasani, head of retail research at HDFC Securities.

Mutual funds’ search for higher returns has taken them deep into the micro-cap zone, backed by a rise in the inflows and prices of these stocks. But a micro-cap-focused fund should ideally not be your first investment. A measured and careful exposure is fine, though.