Choosing Between Various Categories Of Equity Mutual Funds

By | June 22, 2017

Choosing Between Various Categories Of Equity Mutual Funds

The variety of Equity Mutual Funds available in the market can be quite overwhelming, at least as far as new investors are concerned. It is quite normal for newbie investors to experience a state of confusion when trying to choose suitable Mutual Funds to invest in.

So, how do you successfully align your financial goals with your investment objectives when contemplating Equity Mutual Funds?

We can give you a brief guide to some popular categories of Equity Mutual Funds and tell you how each fund category can complement your financial investment goals.

Additional Reading: Can Equity Mutual Funds Help Your Retire Rich?

Let us begin, shall we?

Diversified Equity, Flexi-cap and Multi-cap Mutual Funds

Diversified Equity Mutual Funds, Multi-cap Funds and Flexi-cap Funds do not have a pre-defined asset allocation or specific investment strategy. These types of funds are free to invest in a variety of companies, and such investments are not based on the company’s market capitalisation or on particular industry segments.

The portfolios of these funds are well-diversified.  These funds are good investment options for wealth creation because fund managers handling these type of Mutual Funds can make investments across market caps and market sectors.y

Tip: Multi-cap Funds are slightly riskier than Large-cap Equity Mutual Funds as they invest across market cap categories

Additional Reading: Intelligent Asset Allocation

Large-cap Mutual Funds

Large-cap Mutual Funds invest mainly in those companies that have large market capitalisation. These companies are a part of major stock indices such as the BSE Sensex, Nifty 50, BSE Top 100, BSE Top 200 and so on.

Investments in large-cap Mutual Funds are considered to be the safest among all equity fund categories because the companies with large market capitalisation are well equipped to weather negative market conditions.

However, during a bull market, investors cannot hope to expect high returns from large-cap Mutual Funds.

You must opt to invest in large-cap Mutual Funds only if you are willing to settle for moderate yet consistent returns, rather than high returns that come with higher levels of risk.

Additional Reading: What’s The Best Mutual Fund For Me?

Mid-cap Mutual Funds

Mid-cap Mutual Funds invest in mid-sized companies in terms of market capitalisation. An advantage of investing in mid-sized companies is that they have a higher potential for growth, compared to companies that already have large market capitalisation.

Mid-cap funds tend to generate higher returns during a bull market phase. However, during a slump in the markets or a market crash, mid-cap funds tend to take a beating and consequently take a longer time to recover.

A word of caution though. Even if you are an aggressive investor, it is advisable to not invest your entire corpus in mid-cap funds. The appropriate allocation for Mid-cap Funds in an investment portfolio is 20%-30% of the total investment.

Additional Reading: Market Crash! Should You Invest In Mutual Funds?

Small-cap Mutual Funds

Small-cap Mutual Funds aim for capital appreciation by making investments in companies with small market capitalisation. The growth potential and risks associated with small-cap funds are higher than funds in the large-cap and mid-cap categories.

This allows Small-cap Funds to outperform funds of other categories during a bull market. However, Small-cap Funds fall more rapidly during a market slump.

If you have a bigger risk appetite and a longer investment tenure, consider investing in Small-cap Mutual Funds. For best results, it is advisable to allow your investments in Small-cap Funds to witness at least one bull phase of the markets. However, it is advisable to not to invest more than 10% of your investment portfolio in Small-cap Mutual Funds.

Additional Reading: 5 Common Mistakes Small Investors Make

Equity Linked Savings Schemes (ELSS)

Equity Linked Savings Schemes are Diversified Equity Mutual Funds that offer investors tax benefits. Under Section 80C of the Income Tax Act, investments in Equity Linked Savings Schemes up to Rs. 1,50,000 are eligible for deduction from an investor’s gross total income.

Investors who consider Equity Linked Savings Schemes have a mandatory lock-in period of 3 years from the date of investment. Equity Linked Savings Scheme investments, however, have the shortest lock-in period among all tax-saving investment instruments.

After the expiry of the 3-year lock-in period, there is no restriction on the redemption of your investments in Equity Linked Savings Schemes.

Additional Reading: Go For ELSS To Build Wealth And Save Tax

Sectoral Mutual Funds

Sectoral Mutual Funds primarily invest in the financial securities of a specific market and industry sector. These sectors could include pharmaceutical, banking, infrastructure and information technology among others.

The fund managers who are responsible for managing sectoral funds do not have the liberty to invest outside their predetermined investment sectors. As a result, the performance of sectoral Mutual Funds is largely dependent on the performance of the industry sector they invest in.

A word of advice – sectoral fund investors must closely monitor the overall performance of the sector they have invested in and exit the fund when it seems likely that it will lose its market standing.

Remember, a well-timed investment in sectoral Mutual Funds can reap stellar returns for investors.

Additional Reading: Investment Options For Everyone

Hopefully, this guide should help you make wise and calculated decisions choosing the Mutual Funds that you want to invest in.

Multi-cap Funds are slightly riskier than Large-cap Equity Mutual Funds as they invest across market cap categories.

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