Passive investing is index-based investing where a scheme invests in or tracks a particular index. An actively-managed scheme, on the other hand, does not try to replicate the index, but it focuses on stocks that would perform better. A passive investor can choose an index scheme or an Exchange Traded Fund.
Investors like to follow the passive investment strategy started with large cap index funds as large cap active schemes started lagging their respective benchmarks three years ago. Now, these investors are also hunting for index schemes in the other categories. That is why ETMutualFunds decided to look for schemes with low tracking error and expense ratio. ETMutualFunds started with large cap index schemes.
Mutual Fund experts ask investors to choose index funds based on their expense ratio and tracking error. The expense ratio is the total expenses charged by the scheme. It is a percentage. Tracking error tells you whether the scheme managed to replicate the benchmark index. A lower tracking error is considered better.
There are seven index schemes in the small cap mutual fund category. These schemes are benchmarked against Nifty Smallcap 50 – TRI, and Nifty Smallcap 250 – TRI. Three small cap index funds were launched in 2022.
Here are the top five small cap index funds based on lower expense ratio and lower tracking error separately. We considered direct schemes and growth options for the exercise.
Source:ACE MF, Data as on November 2022
Source: ACE MF, Data as on November 2022
The expense ratio ranged between 0.25% to 0.40% in the small cap index category. Axis Nifty Smallcap 50 Index Fund and Aditya Birla Sun Life Nifty Smallcap 50 Index Fund had the lowest expense ratio of 0.25%, while the other schemes in the list had an expense ratio of 0.30% and above.
The tracking error ranged between 0.04 to 0.63 in the category. Edelweiss Nifty Smallcap 250 Index Fund had the lowest tracking error of around 0.04. The tracking error of other schemes in the category was 0.12 and above.
Note, this is not a recommendation. This exercise was just to shortlist the small cap index funds that have low expense ratio and tracking error. You should always choose mutual funds based on your goals, investment horizon, and risk profile. If you are an aggressive equity investor who wants to grow wealth and has the ability to tolerate volatility and take extra risk, you may choose small cap mutual fund schemes. You should also invest in them with a very long investment horizon. Further, if you believe in active schemes, you may choose actively managed small cap schemes. See Best small cap mutual funds to invest in 2023. If you subscribe to the passive strategy, you may choose small cap index schemes or ETFs.