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Equity Mutual Funds: Suitable for investors seeking long-term capital growth

By Nivesh Gyan   10 April

Category: General

 

The beauty of investing in mutual funds is that there is a suitable product for everyone irrespective of the time horizon, investment objective and income profile. Equity Mutual Funds, with significant exposure to equities, are the perfect solution for investors looking to build long term wealth.

 

What are Equity Funds?

 

Equity Funds are mutual funds that invest the majority of the corpus (minimum 65%) in the shares of listed companies. Such listed companies could be either large companies like HDFC Bank, Infosys, Maruti, IndiGo or smaller companies like Emami, Escorts, Exide. Listed companies represent organized sector, which is a major beneficiary of government initiatives like GST. Such companies also benefit from growth in the overall economy, which ultimately results in higher returns to the investors.  This is the reason, historically, Equity Funds have yielded higher returns than other asset classes like Fixed Deposits, Gold and Real Estate.

 

Equity Funds Graph

 

 

Considering the variations in investors’ financial goals, appetite to handle volatility and the market capitalisation of different stocks, the Securities and Exchange Board of India (SEBI) has categorized Equity Mutual Funds into ten categories:

 

 

  • Large Cap Fund:

    Invests a large portion of the corpus in top 100 companies of India. These funds are less volatile than mid and small-cap funds and thereby help you in maintaining stability in your portfolio. Investors with a low appetite for volatility should invest in these funds.

  • Mid-cap Fund:

    Invests in stocks of companies ranked between 100th and 250th on the basis of market capitalisation. These funds mostly provide higher returns when compared to Large Cap Equity Funds. Investors with a relatively higher ability to handle market volatility should invest in these funds.

  • Large and Mid-cap Fund:

    Invests a minimum of 35% in large-cap and 35% in mid-cap stocks. These funds are more volatile than large-cap funds but are capable of generating higher returns as well.

  • Small Cap Fund:

    Invests a major portion of their funds in companies ranked above 250th by size (market capitalisation). Volatility is higher in small-cap stocks when compared to mid and large-cap stocks; so investors looking for high returns and are not scared of market volatility should invest in these funds.

  • Multi-cap Fund:

    These are diversified equity funds that invest in stocks of companies with different market capitalisations. Investing in Multi-cap Funds diversify the risk and provide relatively high returns than other funds (small, mid and large-cap funds).

  • Thematic/Sectoral Fund:

    Invests in stocks of particular sectors or themes such as Banking, Information Technology and Real Estate etc. Returns from these funds are based on the performance of the respective sector.

  • Value and Contra Fund:

    Mutual Funds can offer only one of the two categories. Value Fund follows the investment strategy where the fund manager invests in funds that he/she believes are undervalued. On the other hand, the Contra Fund follows the Contrarian Investment Strategy which means investing in shares of companies that are unpopular and not in favour of investors at that period of time.

  • Dividend Yield Fund:

    The fund manager invests between 65% and 80% of the corpus in stocks that provide a periodic dividend to investors.

  • Focussed Fund:

    This fund focuses on a limited number of stocks in a limited number of sectors. Its aim is to deliver higher returns by investing in a limited number of companies. The scheme mandates to hold funds of maximum 30 companies.

  • ELSS (Equity Linked Saving Scheme):

    ELSS is a tax saving scheme that invests in equities and other instruments and provides tax exemption of up to ₹1.5 lakhs under Section 80C of Income Tax Act. Returns from ELSS are mostly higher than other tax saving instruments. Also, ELSS comes with the lowest lock-in period of 3 years.

 

Investors can choose the best suitable schemes with the help of their advisor in line with their investment objectives.

 

Equity Funds and Market Volatility

 

Stock markets are inherently volatile and as a result, the returns from Equity Funds are volatile. However, over the long term, the returns are generally higher than any other asset class. One needs to be able to understand this aspect before investing in Equity Funds. Systematic Investment Plans (SIPs) are recommended for investing in Equity Funds because of this volatility,  as investing at different points of time results in averaging the cost of investing.

 

Performance of Sensex over the last 30 years

Performance of Sensex over the last 30 years

Who should invest in Equity Mutual Funds?

  • Investors looking to build long-term wealth or are looking to achieve long-term financial objectives like buying a house, creating a retirement corpus or saving for child’s education. It is ideal to have a time horizon of more than 5 years while investing in Equity Funds.

     

  • Investors who are comfortable with market volatility in the short-to-medium term.

     

  • Investors wanting to put money in equities but hesitate due to lack of professional guidance, knowledge and misconceptions about market volatility.

     

  • Investors looking to start investing with an amount as small as Rs 100 or Rs 500 per month.

     

Why invest in Equity Funds

Equity Funds and Taxation

Equity Funds offer superior taxation structure compared to other asset classes:

Holding Period Income Treatment Tax Implication
Less than 1 year Short-term Capital Gains 15%
More than 1 year Long-term Capital Gains 10% if gains are more than Rs 1 lakh

Exposure to equity is important for financial well being, and investing in Equity Funds is better than directly in stock markets.

Click here to see the Funds Performance Sheet