Flexicap, largecap, value funds cut cash in May; midcap, smallcap schemes stay cautious

Mutual Fund Managers Respond to Market Signals

In a notable shift in portfolio strategy, flexicap, largecap, and value-oriented mutual fund schemes significantly reduced their cash holdings in May 2025, as per the latest data from mutual fund disclosures. This move suggests growing conviction among fund managers in India’s large-cap segment, driven by improving macros, better earnings visibility, and a broad-based market rally. Conversely, midcap and smallcap funds maintained relatively higher cash levels, signaling continued caution amidst stretched valuations and sporadic profit booking.

Shifting Cash Allocations

Data from Morningstar and AMFI shows that flexicap funds, which have the freedom to invest across market capitalizations, lowered their average cash holdings to 3.8% in May, down from 5.2% in April. Largecap schemes trimmed cash to 2.1%, a sharp decline from the 3.5% seen the previous month. Value funds also reduced cash buffers to 3.3%.

Meanwhile, midcap funds retained cash allocations close to 4.9%, and smallcap funds continued to stay cautious with average cash levels hovering at 6.1%. This conservative stance reflects rising concerns over high valuations and the increased volatility in the broader markets despite near-term index resilience.

Market Context: Earnings, Election Stability, and Global Flows

The shift in cash deployment correlates with the market's response to several catalysts in May:

1. Corporate earnings beat: Many blue-chip firms reported stronger-than-expected Q4FY25 earnings, particularly in banking, IT, and auto.

2. Political clarity: The conclusion of the general elections in early May brought in much-needed political stability, boosting investor sentiment.

3. Foreign portfolio investment (FPI) inflows: With global risk appetite improving, India saw robust FPI inflows of over ₹32,000 crore in May, according to NSDL data.

"The recent election outcome and policy continuity have provided a strong base for largecap stocks. Fund managers are seeing better risk-reward in high-quality names, leading to lower cash positions," said Amit Bhandari, Senior Analyst at ICICI Securities.

Mid and Smallcaps: Still in the Risk Zone?

While the Nifty Midcap 100 and Nifty Smallcap 100 indices have delivered impressive 18% and 25% YTD returns respectively, fund managers have turned cautious. This restraint stems from:

• Overvaluation concerns: Several mid- and smallcap stocks are trading at steep P/E multiples above historical averages.

• Liquidity issues: Low float and high ownership concentration make smallcaps more vulnerable to sharp corrections.

• Profit booking pressure: After a strong rally in Q1 and Q2, fund houses expect some consolidation.

“Valuations in the smallcap space are a bit frothy. We are waiting for better entry points and using cash buffers to hedge against volatility,” said Meghna Rao, Fund Manager at Axis Mutual Fund.

Strategy Shift: Sectoral Reallocation and Quality Tilt

According to fund commentary and portfolio changes:

• Flexicap and largecap schemes increased exposure to financials, defensive FMCG stocks, and private sector banks, where earnings upgrades are expected.

• Value funds added to capital goods, utilities, and PSU banking names, banking on turnaround stories.

• Mid- and smallcap funds trimmed positions in sectors like chemicals, microcap industrials, and real estate, where stocks had run up sharply in prior months.

"Most large fund houses are taking a bottom-up approach but are now adding more to high-liquidity largecap names for stability. In contrast, the enthusiasm in smallcaps is muted post the Q1 rally,” said Nikhil Mehta, Portfolio Manager at Tata Mutual Fund.

Investor Outlook: Cautious Optimism Recommended

For retail investors, the recent fund positioning offers a nuanced picture of the market mood:

• If you're investing via SIPs in flexicap or largecap funds, the lower cash levels suggest confidence in long-term India growth themes. Continue investments without timing the market.

• In the midcap and smallcap space, brace for possible volatility. Funds may adopt a "wait and watch" approach, so investors should manage expectations and avoid aggressive lump-sum entries.

• Diversification across market caps remains essential. Conservative investors may consider balanced advantage funds for smoother returns amid market fluctuations.

The month of May reflects a shifting tide in mutual fund strategies. While flexicap, largecap, and value fund managers are deploying more capital on conviction plays, their midcap and smallcap peers are opting for prudence, hinting at bifurcated market sentiment. As macro indicators stabilize and valuations normalize, cash levels across segments may see further recalibration in the months ahead.