Mid cap stocks: A middle ground between growth potential and relative stability

When it comes to investing in the stock market, investors have a range of options, from large cap stocks of well established companies to small cap stocks with high growth potential. One category that forms a middle ground between the two is mid cap stocks. These stocks belong to companies that are neither the top-most industry players nor too small.

Mid cap stocks can appeal to investors looking for higher long-term return potential compared to large cap stocks but without taking the excessive risks associated with small cap stocks.

However, mid cap stocks also come with their own set of benefits and risks. This article explores what mid cap stocks are, their features, risks, and key factors to consider before making an investment decision.

Table of contents

1. Understanding mid cap stocks
2. Key features of mid cap stocks
3. Reasons to invest in mid cap stocks
4. Risks associated with mid cap stocks
5. Alternative options to mid cap stocks
6. Who should invest in mid cap stocks?
7. Factors to consider before investing in mid cap stocks
8. How to invest in mid cap stocks

Understanding mid cap stocks

Mid cap stocks refer to stocks of companies that fall between large cap and small cap stocks in terms of market capitalisation. Market capitalisation, or market cap, is the total value of a company’s outstanding shares and is used to classify stocks into different categories. As per SEBI guidelines, mid cap stocks are those that are listed between 101 and 250 on the stock exchange based on market capitalisation.

Read Also: What are mid cap stocks?

Read Also: BSE Midcap - Opportunities beyond large-cap, risk less than small-cap

Key features of mid cap stocks

Growing companies

Mid cap stocks can grow faster than large cap stocks but tend to be less risky than small cap stocks, making them suitable for investors who want a more balanced risk-reward profile than that offered by large caps or small caps.

Volatility

They are less risky than small cap stocks, but can still be significantly volatile, especially in the short term.

Higher long-term return potential

Since these companies are in the expansion phase, they offer opportunities for relatively higher capital appreciation over time compared to more established large companies.

Diverse industry representation

Mid cap stocks span various industries, allowing investors to diversify their portfolios across multiple sectors.

Better liquidity than small caps

These stocks are easier to buy and sell than small cap stocks but may not be as liquid as large cap stocks.

Room for scalability

Some mid cap companies have the potential to grow into large cap stocks, increasing their potential long-term investment value.

Reasons to invest in mid cap stocks

High growth potential

These companies are in the expansion phase and have more room for growth than large caps, leading to more potential for stock price appreciation.

Diversification benefits

Since mid cap stocks cover multiple industries, investing in them helps diversify the portfolio.

Less prone to market saturation

Large cap companies may have limited growth opportunities due to market saturation, whereas mid cap firms have more room to grow.

Better risk-reward ratio

Compared to small cap or large cap stocks, mid cap stocks offer a better balance of risk and reward.

Risks associated with mid cap stocks

Higher volatility than large caps

While less volatile than small cap stocks, mid cap stocks can still experience notable price swings due to market fluctuations.

Lower liquidity compared to large caps

These stocks may not always have sufficient market participation, making it harder to buy or sell them, especially in bearish conditions.

Vulnerability to economic slowdowns

Mid cap companies may face challenges during economic downturns as they lack the track record or market size of large cap firms.

Operational and management risks

Some mid cap companies may not have well established financial systems or experienced leadership, increasing business risks.

Market sentiment sensitivity

Mid cap stocks are often influenced by overall market trends and investor perceptions, making their prices unpredictable at times.

Growth vs. stability trade-off

While mid cap stocks have strong growth potential, they may not offer the same relative resilience of large caps. They may have higher downside risk and take longer to recover after slowdowns.

Alternative options to mid cap stocks

• Large cap stocks: These offer stability and consistent returns over time but may have lower long-term growth potential.
• Small cap stocks: Very high risk but also the potential for substantial returns over time if the company grows to become a mid or large cap in the long term.
• Mutual funds: Mid cap mutual funds allow diversification without investing in individual stocks.
• Exchange-traded funds (ETFs): ETFs tracking mid cap indices offer a diversified way to invest in mid cap stocks.
• Fixed-income securities: Bonds, fixed deposits, and debt funds offer lower return potential but come with reduced risk.

Who should invest in small cap stocks?

Mid cap stocks may be suitable for the following:

• High risk investors: Mid cap stocks can experience ups and downs, making them suitable for those who can handle market volatility.
• Long-term investors: A long investment horizon of more than five years is needed to potentially tide over short-term volatility.
• Diversification seekers: Adding mid-cap stocks balances your portfolio between large cap and small cap options.
• Active investors: If you follow market trends closely, mid cap stocks offer potential opportunities to find valuable investments and boost your overall returns.

Factors to consider before investing in mid cap stocks

Given their high risk level, investors can lean towards companies with strong fundamentals when investing. Here are some possible criteria:

Growth trajectory

Look for companies with steady profit and earnings growth.

Good management

Check if the company has capable leadership. Strong management plays a key role in driving growth.

Competitive edge

Companies that innovate and expand their offerings can potentially withstand competition and deliver long-term growth.

High profit margins

Businesses with higher profit margins are usually more stable and profitable investments.

How to invest in mid cap stocks

Investors have several accessible ways to gain mid cap exposure:

• Direct stock picking: Buy individual mid cap shares through a demat account via stock brokers.
• Mid cap mutual funds/index funds: Pool money into professionally managed portfolios tracking major mid cap indices. This may be an easier route for beginners.
• Exchange Traded Funds (ETFs): These are relatively low-cost diversified options tracking mid cap indices and are traded like stocks. They provide broad mid cap basket exposure.
• Systematic Investment Plans (SIPs): Invest fixed amounts regularly in mid cap funds to average costs over time and reduce timing risk.

Conclusion

Mid cap stocks provide a middle ground between the relative stability of large cap stocks and the high risk-reward nature of small cap stocks. They offer relatively high growth potential, making them suitable for long-term investors. However, they also come with risks, such as volatility and liquidity concerns.

Investing in mid cap stocks requires thorough research, patience and a strategic approach. If you are willing to take moderate risks for potentially high returns, mid cap stocks could be a suitable addition to your investment portfolio.

FAQs:

Are mid cap stocks good?

Mid-cap stocks can be a suitable investment for those looking for higher long-term return potential without extreme risk. However, they require careful selection and a lengthy investment horizon.

How to invest in mid-cap stocks?

You can invest in mid cap stocks through stock exchanges, mutual funds, ETFs or index funds that focus on mid cap companies.

What factors to consider before investing in mid cap stocks?

Look at the company’s financial health, growth potential, high profit margins and management efficiency before investing.

How to know if a stock is mid cap or small cap?

Check the company’s market capitalisation. Mid cap companies are ranked from 101 to 250 by market capitalisation, while small cap companies are ranked 251 and beyond.

Is it safe to invest in mid cap?

No stock market investment is safe. Mid cap stocks, in particular, carry higher risk than large cap stocks and bonds. Proper research and diversification can help mitigate risks.

Which is better small cap or mid cap?

Neither is universally “better”, the suitability depends on the individual. Small cap stocks may offer higher growth potential in some market conditions but come with greater volatility and risk, while mid caps provide long-term growth potential and are generally less volatile than small cap stocks, though they still entail risk and volatility.

How much should you invest in mid cap stocks?

The answer would depend on age, goals, and risk tolerance. Younger investors with a high risk appetite may consider a higher allocation, while investors that are closer to retirement or want reduced risk exposure may consider a lower allocation.

How many mid cap stocks are there?

As per SEBI norms, mid cap stocks are those ranked 101 to 250 based on market capitalization on recognised exchanges. This comes to 150 stocks.

How do you pick mid cap stocks?

There is no single or universal rule for picking mid cap stocks. An investor may assess factors such as the company’s business model, growth potential, financial health, management quality, and valuations. Since mid cap stocks can be more volatile than large caps, it is also important to evaluate risks, maintain diversification, and ensure selections align with one’s financial goals, time horizon, and risk tolerance.

What are the tax implications of investing in mid cap stocks?

Equity taxation norms apply: Short-term capital gains (for stocks or units held for less than 1 year) are taxed at 20%; long-term gains (over 1 year) are taxed at 12.5% above ₹1.25 lakh exemption.

What are the advantages and disadvantages of mid cap stocks?

• Advantages: Higher growth potential than large caps, comparatively less volatility than small caps, diversification across emerging sectors, potential to become future large caps over time.
• Disadvantages: Higher volatility than large caps, sensitive to economic cycles, requires long holding periods.

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