MITALI DHOKE APR 19, 2023 / READING TIME: APPROX. 7 MINS
Equity Mutual Fund is a type of mutual fund that lay emphasis on equities as an asset class. An equity mutual fund scheme aims to invest the majority of your money in shares or stocks of various companies.
Equity Mutual Funds invest at least 65% of their portfolio in stocks with the aim to generate capital appreciation over the long term. These funds are market-linked; as a result, they are comparatively risky by nature. Therefore, only if you have the stomach for high risk and a long investment horizon you may consider owning equity mutual funds in your portfolio to work towards achieving your long-term goals.
Graph 1: Equity Mutual Funds witness strong Inflows (past 3 years data)
Data as on April 17, 2023
PersonalFN Research
(Source: AMFI)
Despite the high market volatility, equity mutual funds continue to garner strong inflows. As per the data released by AMFI, equity mutual funds witnessed a substantial inflow of Rs 20,534.21 crore in March 2023, as compared to Rs 7,303.39 crore in December 2022. The healthy flows towards equity-oriented schemes indicate that investors have a strong inclination to continue their allocations in equity mutual funds.
Graph 2: AUM Growth of Equity Mutual Funds
Data as on April 17, 2023
PersonalFN Research
(Source: AMFI)
The Assets Under Management (AUM) of the equity mutual funds rose by Rs 2.34 lac crore to a total of Rs 15.41 lac crore in 2022. The industry grew at a slower pace in 2022 due to uncertainty in stock markets and changing interest rate scenarios affecting the business environment at large. Despite these challenges, equity mutual funds saw good inflows resulting a rise in AUM. This growth in AUM can be attributed to investor's increased understanding of investments in equity and their potential to generate wealth over a longer period of time.
Over the long term, equity mutual funds have a history of generating substantial returns; on average, they offer returns between 10% to 12% p.a before taxes. These are often termed as growth funds. Furthermore, as per the capital market regulator's diktat on mutual fund re-categorisation, there are other sub-categories of equity mutual funds that differ in terms of the risk they assume and the kind of returns they seek to provide.
For instance, many equity mutual funds invest in stocks based on market capitalisation such as large-cap, mid-cap, large & mid-cap, and small-cap. Whereas, some funds invest in a specific sector like technology, pharma or banking etc.; these funds are called Sectoral Funds. And then, there are categories of funds that invest across market caps and sectors. It includes funds like Flexi Cap Funds, Focused Funds, and Multi Cap Funds, among others. The Secuirties Exchange Board of India (SEBI) has established total 12 categories under Equity Schemes. However, an Asset Management Company (AMC) or Mutual Fund House can only have 11 categories and must choose between Value and Contra Funds.
Here's a list of various sub-categories or types of Equity Mutual Funds:
| Types of Equity Mutual Funds |
| 1. |
Large Cap Funds |
- Investment Objective - An equity mutual fund predominantly investing in Large Cap stocks. (i.e., Top 100 companies in terms of market capitalisation)
- Asset Allocation - Minimum investment in equity & equity-related instruments of large-cap companies - 80% of total assets and the remaining portion of the assets can be invested in mid-cap and small-cap stocks or in debt securities and money market instruments.
- Suitability - Equity mutual fund is appropriate for investors seeking growth and stability with exposure to blue-chip companies for capital appreciation. In contrast to their pure mid-cap and small-cap counterparts, a pure Large Cap Fund can better contain the downside risk when the equity markets become choppy. Having said that, your investment horizon should be at least 3-5 years.
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| 2. |
Mid Cap Funds |
- Investment Objective - As the name suggests and as defined by the regulator, Mid Cap Funds invest a minimum of 65% of its total assets in mid-cap stocks (i.e., companies from 101st to 250th in terms of market capitalisation).
- Asset Allocation - Minimum investment in equity & equity-related instruments of mid-cap companies - 65% of total assets and the remaining portion of the assets can be invested in other equity-related instruments, debt securities and money market instruments.
- Suitability - You have the opportunity to generate a sizable amount of wealth with these funds. But keep in mind that the risk is effectively controlled. Mid Cap Funds typically do significantly better than their pure large-caps and even large & mid-cap peers during bull phases. On the other hand, they also tend to plummet further during unfavourable markets. Therefore, invest only if you have a long investment horizon of at least 5-7 years and the stomach for very high risk.
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| 3. |
Large & Mid Cap Funds |
- Investment Objective - An open-ended equity mutual fund scheme investing in both large-cap and mid-cap stocks.
- Asset Allocation - Minimum investment in equity & equity-related instruments of large-cap companies - 35% of total assets. Minimum investment in equity & equity-related instruments of mid-cap stocks (i.e., companies from 101st to 250th in terms of market capitalisation).- 35% of total assets. And the remaining portion of the assets can be invested in debt securities and money market instruments.
- Suitability - A Large & Mid Cap Fund may be beneficial if you have long-term goals and desire both the stability of large-caps and the agility of mid-caps in your quest to build wealth and reach your financial goals. Your investment horizon, however, needs to be at least 5 years, and you need to be willing to take on moderate to high levels of risk.
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| 4. |
Small Cap Funds |
- Investment Objective - An open-ended equity mutual fund scheme investing in small-cap stocks. (i.e., companies that are 251st onwards in terms of market capitalisation).
- Asset Allocation - Minimum investment in equity & equity-related instruments of small-cap companies - 65% of total assets. Small-cap stocks, due to their size, usually have a low trading volume. Thus, note that the risk associated with small-cap funds is greater than Mid cap funds.
- Suitability - Small Cap Funds can experience exhilarating highs followed by risky lows. As a result, you must be remarkably cautious and mindful of significant volatility. Consider investing a portion of your money in a Small Cap Fund if you want to increase your long-term gains, and your investment horizon should be at least 7 to 10 years.
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| 5. |
Multi Cap Funds |
- Investment Objective - An equity mutual fund investing across large-cap, mid-cap, and small-cap stocks. Here, you get the best of both worlds - the high-return potential of mid-caps/small-caps and the stability of large-caps. Usually, Multi Cap Funds maintain a stable allocation to large-cap and mid-cap stocks.
- Asset Allocation - As per SEBI mandate, these funds allocate 75% of the total assets to equities and related instruments, with at least 25% in each of the large, mid, and small stocks. And the remaining portion can be invested in debt securities and money market instruments.
- Suitability - Multi Cap Funds typically sit between Large Cap Funds, Mid Cap Funds, and Small Cap Funds on the risk-return spectrum. Therefore, a Multi Cap Fund may be suitable for an investment horizon of at least 5 years if you are willing to take on high risks and wish to benefit from capital appreciation across market capitalisation segments.
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| 6. |
Flexi Cap Funds |
- Investment Objective - An equity mutual fund investing across large-cap, mid-cap, and small-cap stocks. Usually, Flexi Cap Funds stand out due to its flexibility and diversification across all sectors and capitalisations.
- Asset Allocation - Minimum investment in equity & equity-related instruments across market capitalisation -65% of total assets. And the remaining portion of the assets can be invested in debt securities and money market instruments. Flexi Cap Funds do not have any constraint on the percentage of assets they must have in any capitalisation segment, unlike the Multi Cap Funds.
- Suitability - These funds provide both stability and growth to the portfolio, where they can alter between capital market segments as well as stocks. Flexi Cap Funds have greater freedom to choose stocks irrespective of the size of the company or the market segment, as well as to switch from one to another. Hence, ensure you have a high-risk and appropriate investment horizon of at least 5 years.
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| 7. |
Dividend Yield Funds |
- Investment Objective - An open-ended equity mutual fund predominantly investing in dividend-yielding stocks.
- Asset Allocation - Minimum investment in equity & equity-related instruments -65% of total assets. The scheme will predominantly invest in dividend-yielding stocks.
- Suitability - Dividend Yield Funds may be worth if you are looking to safeguard against extreme volatility. Since dividend history is a measure of ascertaining the true worth of the company (amidst all business cycles and volatility of the equity markets). But keep in mind that you must be willing to take on substantial risk, and your investment horizon must be at least 5 years.
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| 8. |
Value/Contra Funds |
- Investment Objective - The fund follows a defined style of investing, namely Value and Contra.
Value - Value investing involves identifying fundamentally sound stocks that are trading at a discount to their fair value.
Contra - Contra Funds follow to adopt a contrarian style of investing and are an alternative provided by the regulator to Value Funds. This means a fund house can have either a Value Fund or Contra Fund.
- Asset Allocation - Minimum investment in equity & equity-related instruments -65% of total assets. The scheme will follow a Value or Contrarian investment strategy.
- Suitability - These funds are appropriate for risk-averse investors with investment horizons of at least 5 years. They are a notch above dividend-yielding funds in terms of risk-return.
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| 9. |
Focused Funds |
- Investment Objective - These funds limit the maximum number of stocks in the portfolio to a maximum of 30 (depending on where the scheme intends to focus, viz., multi-cap, large-cap, mid-cap, small-cap). So, the fund manager holds a conviction-oriented portfolio in order to enhance returns.
- Asset Allocation - Minimum investment in equity & equity-related instruments -65% of total assets. And the remaining portion of the assets can be invested in debt securities and money market instruments.
- Suitability - By confining the investments in a single market area, focused funds put you at risk for concentration. The fund is positioned higher on the risk-return spectrum, just above Mid Cap and Small Cap Funds. Therefore, if you can handle high risk and have an investment time horizon of at least 5-7 years, consider investing in a Focused Fund.
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| 10. |
Sectoral/Thematic Funds |
- Investment Objective - An open-ended equity scheme following a particular sector or theme as mentioned, viz. banking & financial services, pharma & healthcare as per the view formed and opportunities for the sector or theme.
- Asset Allocation - Minimum investment in equity & equity-related instruments of a particular sector/particular theme - 80% of total assets. And the remaining portion of the assets can be invested in debt securities and money market instruments.
- Suitability - A Sectoral or Thematic fund's performance is closely correlated with that of the sector or the underlying theme. Thus, the portfolio concentration makes them a very high risk-high return investment proposition vis-a-vis diversified equity funds that hold the mandate to invest across sectors and various market capitalisations (whereby the risk is reduced). Sector/Thematic Funds are not for the faint-hearted. As a result, you may restrict the allocation in your portfolio up to 5-10%.
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| 11. |
Equity Linked Savings Scheme (ELSS) |
- Investment Objective - ELSS offers tax benefits and comes with a statutory lock-in of 3 years. ELSS, also known as tax-saving funds, is basically a diversified equity fund. It is eligible for a deduction (up to Rs 1.5 lacs p.a.) under Section 80C of the Income-tax Act, 1961.
- Asset Allocation - Minimum investment in equity & equity-related instruments - 80% of total assets. They may have some exposure to fixed-income securities as well.
- Suitability - ELSS is a promising investment avenue for tax planning if you are a risk-taker. But your investment time horizon should ideally be at least 3-5 years when you invest in them.
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For those venturing into the stock market, equity mutual funds are an ideal investment option. You get to invest across market caps and sectors under the professional guidance of fund managers and regulate your risk exposure. Equity Mutual Funds assist you in building wealth for your long-term goals, offer substantial returns over time, and even provide tax benefits via schemes like ELSS. However, equity mutual funds are risky in nature, which is not suitable for every investor. Debt Mutual Funds may be an option for risk-averse investors who are hesitant to invest in equities.
Debt Mutual Funds are known to be comparatively less volatile than equities and may provide stability to your portfolio with decent returns. To know more about Debt Mutual Funds and its various types, turn over to the next chapter...