India's mid-cap mutual fund sector is facing a significant performance crisis as fresh data reveals that the majority of actively managed funds are failing to outperform their benchmarks. This development has intensified the ongoing debate between active and passive investment strategies in one of the market's most dynamic segments.
The Alarming Performance Data
According to comprehensive data compiled by DSP Mutual Fund, only 34% of actively managed mid-cap funds have managed to beat their benchmark index—the Nifty Midcap 150 TRI (Total Return Index)—over the past six years. The analysis, which examined five-year rolling returns from April 1, 2010, to October 31, 2025, reveals a clear and concerning trend: both the magnitude of alpha and the percentage of outperforming funds have been consistently declining since 2018.
The situation has become particularly pronounced in recent years, with the lower end of the mid-cap universe experiencing substantial growth. The 250th stock by market capitalization now commands a valuation of approximately ₹30,000 crore, nearly double its size from December 2021. This expansion has significantly reduced information asymmetry, leaving fund managers with fewer undiscovered opportunities.
Root Causes of the Underperformance
Multiple factors are contributing to this widespread underperformance. Dhirendra Kumar, founder and CEO of Value Research, explains that active mid-cap managers are confined to the same universe of 150 mid-cap stocks that is now extensively tracked by both fund houses and analysts. "To generate alpha, a manager must meaningfully deviate from the index and be right on those calls. That's getting harder," Kumar pointed out.
The SEBI's 2017 re-categorisation rules have further tightened mid-cap fund portfolios by mandating at least 65% allocation to companies ranked 101–250 by market capitalization. This regulatory framework has limited fund managers' flexibility in stock selection.
Siddharth Srivastava, head of ETF product and fund manager at Mirae Asset Investment Managers, emphasizes that "information asymmetry has reduced meaningfully, leaving fund managers with fewer opportunities the market hasn't already priced in."
Adding to the challenge, recent years have witnessed broad-based earnings growth across the mid-cap universe, reducing the advantage that active fund managers typically gain from selective stock picking. Aarati Krishnan, head of advisory at Primeinvestor.in, notes that "the last five years have seen the mid-cap universe as a whole deliver high earnings growth. Going forward, if this earnings performance turns more selective, active funds would have a fighting chance."
The Case for Active Management Persists
Despite the concerning data, experts caution against completely abandoning active management in the mid-cap space. Nirav Karkera, head of research at Fisdom, argues that "all mid-caps can't be painted with the same brush. There are several industries and opportunities represented in the mid-cap space. So, it is still a bottom-up stock-picking play."
Ravi Kumar of Gaining Ground Investment Services highlights a critical advantage of active management: passive mid-cap indices force exposure to all constituents—including weaker names—and only exit laggards during periodic reshuffles. Active managers can respond more quickly when company fundamentals deteriorate.
The data from 2024 offers some hope for active management proponents. Approximately 69% of mid-cap funds outperformed the benchmark index that year, with the successful funds delivering outperformance ranging from 3 to 38 percentage points. Value Research's Kumar adds that when mid-cap funds do outperform, they often do so by a significant margin, though identifying these winners has become more challenging.
Investment Strategy Recommendations
Financial advisors recommend a balanced approach rather than an abrupt switch to passive strategies. Vishal Dhawan, founder of Plan Ahead Wealth Advisors, suggests moderation: "With mid-caps currently overvalued, we are not allocating aggressively. Once valuations turn reasonable, we will use a combination of passive and active funds."
However, investors considering passive mid-cap options should note that these funds don't have long track records. The oldest mid-cap index fund was launched only in 2019, leaving little real-market evidence of how these funds would perform during market stresses, particularly in terms of controlling tracking error.
As an alternative, funds tracking the Nifty Next 50 Index can be considered. While not a pure mid-cap index, it offers similar risk-reward characteristics by representing stocks beyond the widely-tracked Nifty 50 stocks.
For investors seeking pure mid-cap exposure through active management, the focus should be on funds managed by strong fund managers with proven track records, though this requires diligent performance monitoring against benchmarks. Diversified options such as flexicaps and multi-caps in the active space provide more spread-out exposure across market caps.
On the passive side, investors can build pure mid-cap exposure but should scale into these options gradually, given the relative newness of passive mid-cap funds and the need to demonstrate efficient index tracking capabilities.
