The Best Small-Cap Funds
These small-company-focused mutual funds and ETFs all earn Morningstar Analyst Ratings of Gold.
Investors gravitate to small companies for many reasons. Some want a small dose of small companies in their portfolios to round out their exposure to the overall stock market. Others may want to tilt their portfolios toward small caps after a period of large-cap outperformance, such as we've seen during the past several years. Still others may want to participate in what has been called the "small-cap effect," or the theory that smaller companies have greater growth opportunities than larger companies and, as a result, have greater total return potential over time.
Before adding a small-cap fund to your portfolio mix, though, double check that you don't already have plenty of exposure to small-company stocks through your core equity fund holdings; Morningstar's Instant X-Ray feature can help you determine your portfolio's current small-cap stake. While there's no "right" allocation to small-company stocks, the Morningstar Lifetime Allocation Indexes (which you can use to benchmark your asset allocation) suggest up to a 12% position in domestic small caps, depending on your life stage.
If you find you are, in fact, lighter in small-company exposure than you'd like, you can turn to our shortlist of the best small-cap mutual funds and exchange-traded funds-- those funds with at least one share class earning a Morningstar Analyst Rating of Gold--for ideas to investigate further.
You'll find both index funds and active managers on our list of Gold-rated small-cap funds. Passive strategies have several things going for them. First, of course, is their cost advantage: All of our Gold-rated passive funds carry below-average expense ratios, which give them a lower hurdle to jump over to generate returns. Moreover, passive strategies tend to be more tax-efficient than active strategies, which is a benefit for investors in taxable accounts. Finally, passive strategies are less threatened by asset growth than active strategies.
That being said, the small-cap part of the market is an area where some active managers have been able to add value versus their respective indexes. But investors who are looking for active managers, take note: As of this writing, Boston Partners Small Cap Value II (BPSIX), Diamond Hill Small Cap (DHSIX), and LSV Small Cap Value (LSVQX) are the only active funds on our list currently accepting money from new investors; the other actively managed funds on the list are closed to new investors. It's not surprising that some of the actively managed Gold-rated funds are closed: Capacity is critical for many small-cap funds to maintain their approaches. As such, the best small-cap funds close or otherwise limit new investment on occasion to keep their focus intact. You can find out whether a fund is limiting new investment by taking a look at its report on Morningstar.com; check the "Status" data point on a fund's Quote page.
Whether you favor an index fund or an actively managed one, the Gold-rated funds on our list focus either on growth stocks or value stocks. There's not a single Gold-rated fund that blends both styles. So what can investors do if they want broad-based exposure to small-company stocks from both the growth and value styles? One option would be to combine one of the active or passive funds from the small-growth Morningstar Category with one of the active or passive options from the small-value category. Investors who prefer to invest in just one fund that covers the small-cap waterfront, however, can delve into Silver- and Bronze-rated small-cap funds. Premium Members of Morningstar.com can access a full list of all small-cap mutual fund medalists here and ETF medalists here.
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Susan Dziubinski does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.