Small-Cap Funds Giving High Returns - Best of Funds

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Small-cap growth funds led the gains among US stock funds for the week concluding May 30. That highlights the recent strength in the small-cap sector after dropping significantly by mid-may. The small-caps have had a rough ride this year. The Russell 2000 had in fact dropped about 8% in mid-May from its all-time high. However now, the index is showing strength and has added 5.1% since May 20.

An investor may be jittery about the fact that small-cap funds invest in companies considered to be less stable than the large-cap counterparts. On the other hand, small-cap funds are believed to posses the best growth potential. Small-cap funds are thus ideal pick for investors ready to take up a bit of risk while seeking aggressive growth.

For investors looking to capture the momentum in the small-cap sector right now, we will suggest 3 top ranked small cap funds with highest year-to-date returns.

Small-Cap Funds

Investopedia defines small-cap to refer to stocks of companies that have market capitalization of between $300 million and $2 billion. However, different brokerage houses or financial institutions may have their own definition and market capitalization range. The small-cap funds are thus the ones that invest in these companies. The companies, smaller in size, offer growth potential and their market capitalization may increase subsequently.

Small-cap fundsare a good choice for investors seeking diversification across different sectors and companies. These funds invest in different small cap firms from various sectors, which diversifies the risk. Investors with a high risk appetite should invest in these funds. Furthermore, since these funds focus on small cap companies, they have a higher flexibility because of the quick decision making of these firms

Small-Cap Return

Small-cap funds are believed to have higher growth potential. This is true based on the fact that small-caps have larger scope of growth as compared to large cap companies. The bigger firms have already witnessed bulk of the growth. This, among other factors, increases the profit potential of a fund. The saying 'catch them young' goes well for the small-cap funds, as the value is yet to be unlocked.

However, volatility cannot be ruled out.  The small-caps are more vulnerable to the changes in domestic or macroeconomic issues. Investors also need to be cautious about the fact that smaller companies may find it more difficult to survive in extreme adverse economic situations. However, small-caps also tend to move faster during recovery.

This year, Russell 2000 has moved either way. The Russell 2000 Index is an index of 2000 small-cap stocks. Some also consider it to be a benchmark for small-cap funds. The index moved up till Jan 22 before losing steam and dropping 4.9% year-to-date by Feb 3. It gathered momentum thereafter to reach a yearly high of 1, 208.65 on Mar 4; a gain of 10.42% since Feb 3. However, the index lost 9.2% thereafter till May 20. The small-cap index once again regained momentum to gain 5.1% from May 20 to Jun 5. Year to date, Russell 2000 has gained 0.3%.
The chart below shows the performance of Morningstar indexes:

Morningstar Indexes (Style) Performance (in %, as of Jun 4)
1-week 4-week YTD 1-year 3-year
Morningstar Large Cap PR 0.95 2.80 5.16 20.27 16.65
Morningstar Large Growth PR 0.93 3.72 4.89 25.61 17.65
Morningstar Large Value PR 0.73 1.66 4.86 16.18 13.84
Morningstar Mid Cap PR 1.24 2.45 5.36 23.62 15.87
Morningstar Mid Core PR 1.03 3.02 7.01 23.64 16.91
Morningstar Mid Growth PR 1.09 1.72 2.20 20.69 12.46
Morningstar Small Cap PR 0.45 1.17 0.77 20.11 14.55
Morningstar Small Growth PR -0.14 0.25 -4.02 18.95 13.03
Morningstar Small Value PR 0.87 1.52 3.71 21.21 16.66

The chart here shows that small-cap has underperformed the mid and large cap sectors for all the periods mentioned. This may be attributed to the sell offs the small-cap stocks witnessed from Mar 4 to May 20.

Small-Cap Funds to Buy

Here, we will suggest 3 Zacks Mutual Fund Rank #1 (Strong Buy) small-cap funds. Remember, the goal of the Zacks Mutual Fund Rank is to guide investors to identify potential winners and losers. Unlike most of the fund-rating systems, the Zacks Mutual Fund Rank is not just focused on past performances, but the likely future success of the fund.

Among small-cap funds, we will suggest funds with top year-on-year returns from the Small-Cap Blend, Small-Cap Growth and Small-Cap Value categories.

Small-Cap Blend

Direxion Mthly Small Cap Bull 2X (DXRLX) seeks monthly return that is two times the monthly performance of Russell 2000® Index. It invests a lion's share of its assets in securities listed in the underlying index or instruments that provide exposure to the index. On daily basis, it may also hold money market funds or short-term debt instruments with maturity period less than 397 days.The fund has returned 32.68% over the last one year.

Small-Cap Growth

TCM Small Cap Growth (TCMSX) invests a lion's shares of its assets in small cap companies. The fund categorizes small-cap companies to be the ones whose market capitalizations (at the time of purchase) are similar to the ones listed in the Russell 2000 Index. The fund may also park 20% of its assets in foreign issuers. The fund has returned 24.84% over the last one year.

Small-Cap Value

Invesco Small Cap Value A (VSCAX) seeks capital growth over the long term. The fund invests in small cap companies or in dervivatives with similar economic features. The fund invests in securities, which its investment adviser Invesco Advisers, Inc. believes to be undervalued.
The fund has returned 25.73% over the last one year.

About Zacks Mutual Fund Rank

By applying the Zacks Rank to mutual funds, investors can find funds that not only outpaced the market in the past but are also expected to outperform going forward. Learn more about the Zacks Mutual Fund Rank.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Mutual Funds

Referenced Stocks: DXRLX , TCMSX , VSCAX

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