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Which Equity Mutual Fund Category Should You Invest In?

Author: Adhil Shetty/Wednesday, August 7, 2019/Categories: Exclusive

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Which Equity Mutual Fund Category Should You Invest In?

Not long ago, mutual fund investments were the domain of serious investors. Today, mutual fund investment products are some of the most popular investment instrumentsacross different categories. In a mutual fund, you get various investment options with equity, debt, gold, etc. as the underlying asset class.

Equity mutual funds can be further be categorized into different subgroups based on their risk exposure, return expectation of the borrower and investment focus of the asset management company. If you want to invest in equity-based mutual funds which invest largely in the stock market, check out the various categories that suit your financial interests.

LARGE-CAP FUNDS

The large-cap funds are equity funds that invest in companies having large market capitalization. As per market regulator Sebi's mutual fund classification, large-cap companies are defined as those which are ranked 1 to 100 in terms of full market capitalization. Usually, such companies have strong financials, they are backed by consistent growth record and the risk level is comparatively lower than small and mid-cap stocks .A large-cap fund must have at least 80% of its holdings in large-cap companies.

Investors looking for a comparatively lower risk while investing in equity mutual funds along with stable returns can consider investing in the large-cap funds as the returns have largely beaten inflation in the long-term. You can invest in a large-cap fund to achieve long-term financial goals.

However, the downside of investing in a large-cap fund is that they usually have lower return potential compared to small and medium-cap funds.

SMALL AND MID-CAP FUNDS

Small and mid-cap mutual funds focus on investing in stocks with small to mid-level market capitalization. Companies in this category usually have strong growth potential but their associated risk can be high too. As per Sebi, mid-cap companies are ranked 101 to 250 in terms of market capitalization, while small-cap companies are ranked 251 onwards. Mid and small-cap funds must invest a minimum of 65% of their holdings in mid or small-cap companies.

Investors who are looking for a phenomenal return have a high risk appetite. Those who aim at long-term should consider investing in small and mid-cap funds. The best way to invest in small and mid-cap funds is through the Systematic Investment Plan (SIP) mode. As these funds can be volatile, it is advisable to invest through the SIP modefor a better rupee cost averaging benefit.

Small and mid-cap fund investments are suitable for people who’re in the starting of their career, while investors nearing retirement should avoid small and mid-cap funds.

MULTI-CAP FUNDS

Multi-cap funds allow investors the opportunity to invest in funds that focus on diversifying the risk across different sectors and in companies with different levels of market capitalization. These funds are suitable for risk-averse investors.A multi-cap fund must invest at least 65% in equity or equity-linked investments. Multi-cap funds are good for achieving long-term financial goals that require moderate to high returns. Investors who are in the middle of their career should consider investing in such funds.

ELSS FUNDS

Equity-linked Saving Schemes are tax-saving equity-oriented mutual funds that allow investors to get deduction benefit of up to Rs 1.5 lakh under Section 80C of the Income Tax Act. Most importantly, ELSS funds come with a lock-in period of three years. Many leading ELSS funds today have a large-cap tilt but some may have a mid-cap tilt as well.

Investors who are looking for a high return by investing in the equity mutual funds and also want tax benefit can invest in such funds.

INDEX FUNDS

Index funds are passive investment funds that focus on returns that are in sync with the underlying index. For example, a Nifty50-themed index fund may mimic the composition and provide returns similar to the Nifty50. These funds are suitable for investors who are looking to invest for a long-term and have moderate to high risk appetite. Index funds are typically low-cost, which means lower expense ratios and therefore higher returns.

SECTORAL FUNDS/THEMATIC FUNDS

These are funds that invest in stocks of a specific sector (such as banking, or technology) or within a common theme (such as consumption or logistics). If the investor has good knowledge of a particular sector and believes it can do well in the future, they can explore investment options in sectoral or thematic funds.

There is moderate to high risk associated with such funds.

If the sector doesn’t perform as per the expectation, these funds can result in a huge loss for the investors. However, if it performs as per expectation, it can fetch phenomenal returns. As such, it’s crucial to ensure that you invest in such funds only when you have complete knowledge about the sector and the fund.

EXIT LOAD, EXPENSE RATIO AND TAX ON EQUITY MUTUAL FUNDS

If you exit an investment in equity mutual funds before completion of one year of investment, it may attract an exit load of around 1%. So, look for an investment period of more than one year if you want to avoid bearing the exit load.

Expense ratio in equity mutual funds varies around 0.50% to 3%. Also, direct plans have lower expense ratios compared to regular plans. So, you’ll be well-advised to go for an equity mutual fund planwhich has the lowest expense ratio in its class along with other strong attributes.

The gains from equity mutual funds, when the holding period is less than one year, are called short-term capital gains (STCG). Whereas, if the holding period is more than one year, the gains are called long-term capital gains (LTCG). The STCG on an equity mutual fund is taxed at a flat 15% rate. However, the LTCG of up to Rs 1 lakh in a financial year on equity and equity-oriented mutual funds is tax exempted. But if the LTCG is more than Rs 1 lakh during the relevant financial year, the gain amount above the threshold is subject to tax at a 10% rate. Disclaimer: Mutual fund investments are subject to market risks. Please read the offer document carefully before investing.(The author is CEO, BankBazaar.com)

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