Equity mutual funds try generating high returns by investing in the stocks of companies across all market capitalisations. Equity mutual funds are the riskiest class of mutual funds, and hence, they have the potential to provide higher returns than debt and hybrid funds. The performance of the company plays a significant role in deciding the investors’ returns.
Equity mutual funds invest at least 60% of their assets in equity shares of numerous companies in suitable proportions. The asset allocation will be in line with the investment objective. The asset allocation can be made purely in stocks of large-cap, mid-cap, or small-cap companies, depending on the market conditions. The investing style may be value-oriented or growth-oriented.
After allocating a significant portion towards the equity segment, the remaining amount may go into debt and money market instruments. This is to take care of sudden redemption requests as well as bring down the risk level to some extent. The fund manager makes buying or selling decisions to take advantage of the changing market movements and reap maximum returns.
Your decision to invest in equity funds must be in sync with your risk profile, investment horizon, and objectives. Generally, if you have a long-term goal (say, five years or more), then it is better to invest in equity funds. It will also give the fund much needed time to combat market fluctuations.
If you are an aspiring investor who wants to have exposure to the stock market, then large-cap equity funds may be the right choice. These funds invest in equity shares of the top-performing companies whose risk level is low. The well-established companies have historically delivered stable returns over a long period.
If you are well-versed with the market pulse and willing to take calculated risks, then you may think of investing in diversified equity funds. These invest in shares of companies across all market capitalisations. These funds provide an excellent combination of high returns at lower risk as compared to equity funds that only invest in small-cap/mid-caps.
The frequent buying and selling of equity shares often impact the expense ratio of equity funds. The Securities and Exchange Board of India (SEBI) has capped the expense ratio at 2.5% for equity funds. A lower expense ratio will translate into higher returns for investors.
Investors earn capital gains on the redemption of their fund units. The capital gains are taxable in the hands of investors. The rate of taxation depends on how long one stays invested and this period is called the holding period. Equity holdings of less than one year are termed short-term, and short-term capital gains are taxed at 15%. Equity holding of more than a year are termed long-term, and the long-term capital gains are taxed at the rate of 10% if the gains exceed Rs 1 lakh a year.
By investing in equity funds, you get exposure to several stocks, and you get this benefit by investing a nominal amount. However, your portfolio will face the risk of concentration.
You can categorise equity funds based on the investment mandate and the kind of stocks and sectors they invest in.
Equity funds that focus investments on a particular sector or theme fall under this category. Sector funds invest in a specific industry such as FMCG, pharma, or technology. Thematic funds follow one specific subject, such as emerging consumer companies or international stocks.
As sector funds and thematic funds focus on a particular sector or theme, they tend to be riskier. This is because of their performance face sectoral as well as market risks. However, industry and thematic funds can be diversified in terms of market capitalisation.
Large-cap equity funds: Large-cap companies are well-established, and hence, large-cap funds are capable of offering stable returns.
Mid-cap equity funds: These funds invest in medium-sized companies. Mid-cap equity funds are not as stable as large-cap funds.
Mid-and-small-cap funds: These funds invest in both mid-cap and small-cap funds and have the potential to offer high returns.
Small-cap funds: These funds invest in shares of small-cap funds. Investors should be aware of the fact that small-cap funds are more prone to market volatility and risk.
Multi-cap funds: Multi-cap funds invest in stocks across all market capitalisations. The fund manager decides to invest predominantly in a particular capitalisation depending on the market condition..
All the funds discussed above follow active investing style, wherein the fund manager decides the portfolio composition. However, there are funds whose portfolio composition imitate a specific index.
Equity funds that follow a particular index, such as Sensex, are called index funds. These are passively-managed funds that invest in the same companies, in the equal proportions, making up the index the fund follows.
For example, a Sensex index fund will invest in all Sensex companies in the same proportion in which the companies form part of the index. Index funds are low-cost funds as they don’t require the active management of a fund manager.
Example, a Sensex index fund will have investments in all 30 Sensex companies in the same proportion in which the companies form part of the index. Index funds are low-cost funds as they don’t require the active management of a fund manager.
Among all categories of mutual funds, equity funds generally deliver the highest returns. On average, equity funds have generated returns in the range of 10% to 12%. The returns fluctuate depending on the market movement and overall economic conditions.
To earn returns in line with your expectations, you need to choose your equity funds carefully. For that, you have to strictly follow the stock markets and possess knowledge of the quantitative and qualitative factors. ClearTax assists by handpicking the top-performing investment portfolios for you, which suits your financial goals.
The benefits of investing in mutual funds are many:
a. Expert money management
b. Low Cost
e. Systematic investments
The primary benefit of investing in equity funds is that you don’t need to worry about choosing stocks and sectors to invest. Successful equity investing requires a lot of research and knowledge. You need to understand and analyse the performance of a company before you decide to invest.
You also need to have an understanding of how a particular sector is expected to perform in the future. Of course, all of this requires a lot of time and effort, which most individuals don’t have. Hence, the solution is to leave the stock-picking to an expert fund manager by investing in an equity mutual fund.
As mentioned earlier, short-term capital gains (STCG) are taxable at the rate of 15%.
The Union Budget 2018-19 brought back the long-term capital gains (LTCG) tax on equity holdings. It is applicable at the rate of 10% if the gains exceed Rs 1 lakh a year.
Lump sum investments are apt for those individuals who have a considerable sum to invest. However, not many investors invest via the lump sum route.
A SIP allows you to invest a fixed sum on a period basis. The frequency of SIP can be weekly, monthly, and quarterly. You give a mandate to the fund company to deduct the investment from your bank account.
SIPs give you the benefit of rupee cost averaging. This means that when the markets are high, you will be allotted fewer units. And when the markets are low, you will get more units for the same amount. This way, you invest at different levels of the market. SIPs also inculcate financial discipline and make mutual funds affordable for all.
Click here to start a SIP in equity mutual funds.