Fund Managers Have Task Cut Out As Inflows Into Small, Mid-Caps Schemes Continue

Contrary to the general fear, inflows into equity mutual funds are still holding steady. The latest data for January 2025 shows net inflows into equity funds were at ₹396.87 billion, marginally down from ₹411.55 billion in December 2024.

It was widely expected that mutual fund investors would have started pulling out money. We are not sure if they did in the first few trading sessions of February 2025 (data for this will be available a month from now). But the overall trend in mutual fund inflows continue to be encouraging.

Let’s take a closer look at the numbers. The impact on prices come largely from sectoral/thematic funds. These are funds that are invested in sectors/themes. Typically, these funds see large swings in inflows month-on-month. High risk, HNI investors/wealth managers use these funds to help generate short term gains for investors. 

Banking, IT and PSU focused funds are among the popular ones. This category of funds saw a sharp fall in January 2025 to ₹90.16 billion crores from ₹150 billion the previous month. Take a look at the table you can see the volatility in these funds.

Smart fund investors continue to repose faith in small- and mid-cap funds. The inflows are more or less steady backed by SIPs. There has been a pick-up in large and large-midcap funds.

Domestic mutual funds have matched the FIIs at every step, absorbing selling. As FIIs press for sale, domestic funds use the opportunity to buy on dips. This is done through the inflows coming from SIP route. The SIP inflow for January 2025 has been steady at around ₹264 billion (more or less the same in the previous month).

The big picture still looks good. Take a look at the data for current financial year to March so far. FIIs net sold nearly ₹231.700 trillion during the first 10 months of the year. This was matched by domestic institutional buying largely backed by mutual funds. The total net inflows into equity mutual funds were around ₹3.626 trillion during the first 10 months of the year (almost double the previous corresponding fiscal 10 months).

Nearly ₹680 billion out of the total inflows have come into mid- and small-cap funds. In addition, there could be some more inflows coming from multi-cap and large-and-mid-cap categories. It is this part of the fund deployment that is worrying the markets. I can foresee the following two scenarios:

Scenario 1: Investors simply pull out money from small and mid-cap funds and stop fresh SIPs. This is a typical panic reaction in a market where valuations are still very high.

Scenario 2: Smart fund managers and investors shuffle out of mid-and small-cap funds and move to large caps. This is a scenario that will typically play out after mid- and small-cap stocks see a 40-50% correction.

The way ahead should be a combination of partial profit booking, holding on to cash, deploying cash in small amounts and look to average one’s acquisition cost.