ICICI Pru's S Naren Calls To 'Pull Out Lock, Stock And Barrel' From Small-, Mid-Cap Funds — Here's Why

An investment advice by ICICI Prudential Mutual Fund’s Executive Director S Naren has sparked a debate in the mutual funds industry. Speaking at an event organised by IFA Galaxy, a Chennai-based association of mutual fund distributors, Naren advised investors against systematic investment plans (SIPs) in small-cap and mid-cap mutual funds given the current market volatility.

Naren said the valuations of companies in these funds are ‘absurd’ and investors should consider redeeming their investments soon. 

“We think it is time to take out lock, stock and barrel from small- and mid-caps,” he said.

According to Naren, while a significant portion of the risk in such funds used to be with banks and larger institutions, today it has shifted to retail investors.

“All the risk is being borne by investors like you. I don’t think either investors or wealth managers have fully realised this yet. It’s something I urge everyone to think about,” he added.

Naren highlighted that fund managers allocate funds based on the inflows they receive. As a result, despite already high valuations, new investments continue to pour into these segments, which are further driving fundraising through equity capital.

The veteran fund manager hinted 2025 could be even more volatile for mid- and small-cap funds than the 2008-2010 period.

“Investors lost money in many companies back then, particularly in banks. Many real estate companies also made mistakes by over-leveraging, but those mistakes happened indirectly — through banks and corporations. Today, when companies seek capital for acquisitions or new projects, they no longer rely on bank borrowing. Instead, they raise money directly from equity investors through qualified institutional placements or IPOs,” he explained.

Naren also challenged the notion that SIPs always tend to yield good returns. The top executive noted that while SIPs are an effective investment strategy, their rate of return heavily depends on the market conditions.  

According to him, fund managers are pouring money into the small- and mid-caps while assuming SIPs will protect them from volatility.

“No matter how you analyse them, mid- and small-cap valuations are extremely high. This is a stark contrast to 2013-14 when they were very cheap,” he noted.

Giving data for his argument, Naren emphasised that the valuations of small and mid-caps were very cheap back in 2013-14. However, the median P/E ratio (Price-to-earnings ratio) for both mid and small-cap stocks has touched 43x now. 

"We looked at the median P/E (price-to-earnings ratio). We found that the median P/E of mid-caps has touched 43 and the median P/E of small cap has also hit 43. Again, absurd compared to what it used to be," he said. 

He explained that the market capitalisation of these companies has been disproportionate to their profit growth, which indicated that the current valuations may not be sustained in the long run. 

Naren further emphasised that the momentum in small- and mid-caps has already started to weaken. 

“The trend in small- and mid-caps has started to break, and they have fallen below their DMA (daily moving average),” he said. 

Naren advised investors to pull out of mid and small-cap stocks, warning that even long-term SIPs in these segments may not be able to deliver the desired results. 

“When you invest in SIPs in small- and mid-caps today, you are essentially averaging at very high levels. This significantly reduces the chances of strong medium-term returns,” he said.

Naren suggested investors consider hybrid schemes, which offer a good mix of equity and debt funds.  

“Hybrid funds are extremely attractive right now, depending on your market outlook. If you’re very optimistic about the market, equity-debt hybrid funds make sense. If you’re less confident, multi-asset funds—especially those with gold exposure—could be a better option,” he concluded.