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Every investor profile is unique, characterised by distinct financial goals, commitments, and varying risk tolerances. Stock market investors aim to make investment decisions aligned with their specific goals while avoiding investments in volatile shares that could disrupt their peace of mind. Diligent investors choose stocks that align with their investor profile and investment strategy. One effective approach to selecting suitable stocks involves evaluating them based on market capitalisation categories such as mid-cap, large-cap, and small-cap. In this article, we will take a closer look at and distinguish stocks based on their market capitalisation to understand the key differences between large-cap, mid-cap, and small-cap stocks.
Table of Contents
Defining Market Capitalisation
Before we look into the differences between large-cap, mid-cap, and small-cap stocks, it is essential that we understand the concept of market capitalisation. Market capitalisation, also called the market cap of the stock, is the measure of the company’s total value.
- The market cap is calculated by multiplying the company’s current market price by the total number of outstanding shares.
- The market cap is a better metric to measure the company’s worth than the share price.
- Assume that the current market price of Company P is trading around ₹500, and the number of shares outstanding is 1,000. In this case, the market cap of Company P is ₹5,00,000. On the other hand, assume the current market price of Company Q trades at ₹2,000 and has 100 shares outstanding. As a result, Company Q’s market capitalisation is around ₹2,00,000. In the event one, only considering the share price, they would think Company Q is worth more than Company P.
In 2017, SEBI (Securities and Exchange Board of India) laid down certain rules to classify companies as large-cap, mid-cap, and small-cap companies. Let us find out more.
Defining Large-Cap Stocks
As per SEBI’s guidelines, stocks traded on the stock exchanges are ranked based on their market caps. The top 100 stocks with the highest market cap qualify as large-cap stocks. The market cap of large-cap companies generally exceeds ₹20,000 crores and goes all the way above ₹1,00,000 crores. Additionally, large-cap companies are generally market leaders, having a robust long term financial track record, strong balance sheets, and cash reserves. They include some of India’s biggest names, like Reliance Industries, Tata Consultancy Services, HDFC Bank, etc. The top large-cap companies like the ones mentioned in the previous statement are also constituents, with significant weightage, of benchmark indices like the Nifty and Sensex.
Defining Mid-Cap Stocks
According to SEBI’s rulebook, the companies ranking 101-250 in terms of market cap qualify as mid-cap companies. Mid-cap companies typically have market capitalisations ranging between ₹5,000 crore and ₹20,000 crore. In terms of business operations, a mid-cap company could have a medium to strong presence. Moreover, these stocks may not be included in benchmark indices but have a significant presence in indices like Nifty Pharma or Nifty PSU.
Defining Small-Cap Stocks
Small-cap stocks are those stocks ranked 251st onwards in terms of market cap as per SEBI’s rules. Small-cap companies typically have a market capitalisation of less than ₹5,000 crores. Small-cap companies are generally start-ups or still in the early stages of development, aiming to create a strong market presence. They are unlikely to have long track records and revenues and profits may also be quite lumpy.
Differences Between Large-Cap, Mid-Cap, and Small-Cap Stocks
| Category | Risk Level | Liquidity and Volatility | Returns | Suitability |
| Large-Cap | Relatively lower risk | High liquidity and low volatility | Generally generates stable but low returns | Suited for conservative/risk-averse investors |
| Mid-Cap | Moderate risk | Moderate liquidity and volatility | Returns may not be stable, but potential growth is moderate to high | Suitable for investors looking for moderate growth |
| Small-Cap | High risk | Low liquidity and high volatility | Lack of stable returns but very high growth potential | Suitable for aggressive investors looking for high returns at a high risk |
Let us, now, look at the key differences between them.
- Investing in large-cap stocks involves lower risks since the company already has a well-established, effective business model to generate consistent profits. Hence, during economic slowdowns, investors tend to park their money in large-cap stocks, which are less volatile compared to small and mid-cap stocks. However, since the company is already well-established, it is unlikely to see high growth in revenues and profits. Due to the stability of their businesses and prices, large-cap companies are frequently traded, resulting in high liquidity.
- Mid-cap companies are generally aiming to become market leaders by improving profitability, operating efficiency and market presence. For that, the company may undertake various business strategies that involve risk; for example, debt borrowing. Hence, the company may have moderate to high growth potential and may attract investors. That said, during bad times, risk-averse investors would prefer investing in large-cap stocks, making these stocks more volatile than the large-cap stocks.
- Likewise, small-cap companies also focus on expanding their market share, improving their profitability, and improving their operating efficiency. However, unlike the mid-caps, the small-caps may have a very limited presence and may only have a handful of customers. Hence, poor economic conditions or the loss of a major customer can severely dent the revenues of small-cap companies. That is why small-cap stocks are very risky and volatile but also have high growth potential.
Conclusion
Understanding the distinctions among large-cap, mid-cap, and small-cap stocks contributes to making informed investment decisions aligned with an investor’s profile. A portfolio is constructed by selecting an optimal combination of large-caps, mid-caps, and small-caps. Conservative investors, inclined towards lower risk, tend to allocate a higher portion to large-cap stocks. Investors with a moderate risk profile lean towards mid-caps, while those with a high-risk appetite may allocate a significant portion to small-cap stocks.