For the past decade, midcap stocks have ruled the performance charts, outpacing both large caps and small caps. The Nifty Midcap 150 TRI (total return index) clocked an annualised return of 18.6% over the past 10 years, compared to the Nifty Smallcap 250 TRI’s 15.7%. It was more rewarding to invest in mid caps than small caps. But now, a quiet shift could be underway within Indian equity markets. Could the recent resilience of small caps signal a longer runway of outperformance? Cues may already be visible in the positioning of some flexi-cap funds.Flexi-cap funds bet bigA clear shift in stance favouring small-cap stocks is evident in many flexi-cap fund portfolios. Even as these funds retain their bias towards large caps, they have gradually earmarked more to small caps: the average allocation to this latter basket has grown from 12.7% in March 2023 to 19.3% in April 2026.According to Value Research data, 25 flexi-cap funds raised their small cap exposure in this three-year period. Eleven funds demonstrated a mid-to-small rotation: small-cap weights rose while midcap weights fell over the same period.Comparatively, the average mid-cap allocation of flexi-cap funds has hovered between 18% and 20% over these years. Sixteen funds have reduced mid-cap exposure over the past three years. Navi Flexi Cap Fund has shown the most aggressive rotation, with its small-cap exposure jumping 29.24 percentage points alongside a 5.98 percentage-point cut in mid-cap allocation.ICICI Prudential Flexi Cap Fund is among the larger funds that have shifted their portfolios materially towards small caps: its exposure to this basket has spiked from 8.3% to 27.8% over the past three years, while its mid-cap allocation fell by 8.8 percentage points during this period.Rajat Chandak, Senior Fund Manager at ICICI Prudential AMC (asset management company), who manages the scheme, insists this is not a conscious shift but an outcome of pure bottom-up stock selection. “Coincidentally, we found more interesting businesses in the small-cap space. A lot of unique businesses are only available in this basket.”The Wealth Company AMC, which launched its flexi-cap fund in October last year, has bet big on small caps in recent months. Its small-cap allocation stood at 35% this March, before easing to 30.6% in April. Aparna Shanker, Chief Investment Officer–Equity, The Wealth Company, maintains that the risk-reward position is currently most favourable in small caps, followed by large caps and then mid caps. “We like to be agile in our marketcap allocation, in response to market conditions. We have consciously waded into small caps as we like taking higher active weights in pockets that are offering higher potential risk-adjusted alpha.”Abakkus Mutual Fund, which also launched a small-cap fund apart from a flexi-cap fund as its first two equity offerings, has taken a hefty 33.6% allocation to small caps in the latter.What has changedFor many years, mid caps enjoyed a ‘sweet spot’ of earnings growth and quality. Midcap companies matured significantly during this period, displaying higher earnings quality that led to a sharp re-rating of price-to-earnings (P/E) multiples. Small caps, by contrast, contained a much larger proportion of cyclical businesses, lower-quality balance sheets, fragile earnings, and weak governance.As a result, a significant portion of the small-cap universe failed to consistently participate in earnings growth. While small caps also rallied sharply post 2020, wealth creation in this space was driven mostly by P/E expansion rather than earnings growth, unlike in mid caps.But the story may be taking a turn. While the structural issues certainly haven’t disappeared, there is growing evidence that a significant portion of the small-cap universe has become fundamentally stronger than it was during earlier cycles such as 2007-08 or 2017-18.A study by Bajaj Finserv AMC suggests the small-cap universe has undergone a significant structural transformation in recent years. Net debt-to-equity levels declined sharply from 0.52 times in 2018- 19 to near-zero levels in 2025-26. During the same period, return on equity (ROE) improved from 9% to 12%, reflecting stronger financial discipline and sustainable business models. A 12% ROE is not extraordinary, but the direction matters. “Companies are increasingly funding expansion through internal cash flows rather than borrowing, resulting in healthier balance sheets and improved profitability metrics,” the fund house mentions in a note.Further, the market correction over the past two years has removed most of the froth from the small-cap space. While mid caps have also witnessed a correction, experts insist there is still some way to go.To be sure, PE multiples suggest that small caps are now more expensive than mid caps. The Nifty Midcap 150 index trades at 28.6 times trailing earnings, compared to the Nifty Smallcap 250 index’s P/E of 33.4. However, P/E multiples for the small-cap index often give a distorted picture as the profit pools within the basket are erratic. Price-to-book value (PBV) offers a more accurate reading of valuations. On PBV, the small-cap index trades at a softer multiple of 3.7 times compared to the mid-cap index’s 4.6 times.Mid caps have ruled the charts in the past