India’s biggest wealth creators didn’t start as index heavyweights. They were once small, founder-led businesses that reinvested aggressively, built scale, and compounded earnings over decades.

History confirms this. Over long periods, small-caps have outperformed large-caps. As of August 29, 2025, the Nifty Smallcap 250 TRI has delivered a 28.8% CAGR over five years and 16.1% since its 2005 base, compared to the Nifty50’s 17.9% and 12.8%, respectively. The lesson is not to buy every small-cap, but to back the few that can reinvest at high returns over time.

Today’s setup looks unusually favourable. Large indices appear stretched after a strong run, creating a broad narrative that “everything is expensive.” We believe this misses the point. Small-caps are not a homogeneous block; sector mix matters. Within the Nifty Smallcap 250, sectors such as capital goods, healthcare, chemicals, auto ancillaries, construction, and services are well-represented. In these areas, even modest revenue growth can translate into large profit gains thanks to operating leverage from a low base.

The macro backdrop is also supportive. Manufacturing capacity utilisation is back in the mid-70s, a zone that has historically preceded fresh private capex. RBI data shows utilisation at around 75%. Private sector capex is projected to rise 21.5% in FY26 to ₹2.67 lakh crore, led by infrastructure and power. This pipeline sustains multi-year order books for small-cap suppliers across transmission, railways, water, automation, and data centres.

Policy is reinforcing this cycle. PLI schemes have moved from promises to production, with cumulative investments of ₹1.76 lakh crore, sales of ₹16.5 lakh crore, and over 12 lakh jobs created. Electronics is the standout case: India is now the second-largest mobile phone producer, with exports rising from ₹1,500 crore in FY15 to over ₹1 lakh crore recently. Many beneficiaries sit squarely in the small- and mid-cap universe.

Exports are another engine. Engineering goods now account for 26–27% of India’s merchandise exports, with FY25 marking a record year. For small-caps in precision engineering, auto systems, and electricals, sticky global OEM relationships are now core drivers of cash flow and reinvestment.

Infrastructure remains the compounding backbone. Railways' capex has stayed above ₹2.5 lakh crore annually, and India’s power grid faces massive buildout needs. The CEA’s plan to integrate 500 GW of non-fossil power by 2030 implies multi-trillion-rupee demand for towers,

conductors, cables, and EPC services. Policy tweaks like easier RBI rules for project loans further reduce friction for new capacity. For investors, the message is clear: infrastructure primes the pump, and the best asymmetry often sits with small-cap ancillaries further down the value chain.

Put together, the preconditions for a new small-cap wealth cycle are visible. Earnings breadth in manufacturing is improving, private capex is reviving, exports are deepening, and sector mix favours operating leverage. Risks remain: small caps are volatile and liquidity-sensitive, and governance quality can be patchy. Drawdowns will come. But the opportunity lies in selection and discipline, not in buying the index.

We approach small caps with a private equity mindset in public markets. That means concentrated portfolios, deep due diligence, and patience to build positions as execution de-risks the thesis. We look for three traits: businesses that can reinvest capital at high returns, balance sheets that fund growth without constant dilution, and improving competitive positions visible in order books, certifications, or customer stickiness. This is the same philosophy we have outlined in our investor letters—staggered deployment, letting winners run, and using volatility to add rather than panic.

Where might the outliers emerge? From manufacturing and engineering leaders that graduate from import substitution to export relevance, export-oriented industrials with rising wallet share in the U.S. and EU, and infrastructure ancillaries in power, rail, and water with multi-year demand visibility and modest starting valuations.

The most successful small caps won’t be spotted only in hindsight. They will be earned—business by business—through disciplined underwriting, governance checks, and patient compounding. That’s how the last generation of large caps began their journey. If the macro, policy, and earnings threads keep pulling in the same direction, this generation’s small caps have the ingredients to do it again, especially for investors who are selective, patient, and disciplined.

(Pawan Bharadia is co-founder & CIO of Equitree Capital)