What are the benefits and types of equity mutual funds? All you need to know
In the previous article, we read about what are equity mutual funds. In this article, we will talk about the benefits & types of equity mutual funds.
Equity mutual funds invest in shares of different companies. The fund manager aims at maximizing the returns by diversifying the portfolio across stocks of various industries and companies with varying market capitalization.
There are various types of equity mutual funds based on different categories. Let us have a look at them
Types of Equity mutual funds
Market capitalization based differentiation
1. Large-Cap funds
These equity mutual funds invest more than 80% of their assets in the shares of large-cap companies (companies with a market capitalization of > Rs 20000 crores).
Large-cap funds are safer than mid-cap and small-cap funds because the stocks in the large-cap funds are of stable and solid companies with a proven historical track record.
2. Mid-Cap funds
As the name suggests, the equity mutual funds invest around 65% of the total amount in shares of mid-cap companies (companies with a market capitalization of > Rs 5000 crores but < Rs 20000 crores).
These funds tend to provide slightly better returns than large-cap funds because most of the stocks in these funds are of companies that are still growing to become bigger and better. Apart from offering higher returns, the funds are relatively more volatile.
3. Small-Cap funds
Small-cap equity mutual funds invest around 65% of the assets in equity shares of small-cap companies (companies having a market capitalization of < Rs 5000 crores).
This is the riskiest type of fund in the market-cap-based category because the fund invests in companies that are potential superstars that may multiply your money by significant amounts and the risk of capital wipeout if the company fails.
A considerable number of companies in India fall in this category
Investment style based categorization
1. Active funds
These equity mutual funds are ones that fund managers actively manage; they use their knowledge of the markets and situation of the industries to choose stocks that become a part of the portfolio.
2. Passive funds
Usually imitate a particular segment of the market, and with that, the stocks that will become a part of the portfolio are determined. A fund manager plays no active role in this regard
These types of equity mutual funds invest the majority amount in particular sectors; that is, there is a concentration of investment into specific sectors in the economy, like FMCG, pharma, technology, PSUs (Public sector undertakings), etc.
Only investing in a particular industry concentrates your portfolio towards all the close activity in the industry.
Taxability based categorization
ELSS (Equity linked savings scheme) funds allow deductions under section 80C of the Income Tax Act. ELSS schemes allow for up to Rs 1.5 lakh deductions under the act mentioned above of law.
Equity-linked savings scheme funds invest more than 80% of total assets in equity and related instruments. Also, there is a lock-in period of 3 years for these schemes.
Other than ELSS, all the additional equity mutual funds in the market are subject to given rates of capital gains tax.
Benefits of Equity mutual funds
1. Diversified portfolio
Equity mutual funds offer diversification by investing in various sectors thereby offering better exposure to the market.
2. Capital appreciation
As the company grows, it earns more profits and invests it back in the company, thereby leading to the company’s growth, which in turn is reflected in the stock price and thus benefits the fundholders.
3. Small ticket size
Sometimes, buying stocks of companies can be costly, as some good companies’ shares are trading in a high price range. However, you can invest in equity funds starting with amounts as low as Rs 500 to Rs 100.
4. Professional management
In the event of an actively managed fund, your money is being taken care of by professionals who have tremendous experience in the market. Your money is invested in a way such that your returns are maximized.
5. Risk mitigation
A fund manager follows the rules laid out by the asset management companies (AMCs) to mitigate various risks.
For example, the risk is reduced by limiting over-exposure to any particular stock or industry. Additionally, parameters like volatility and liquidity are also studied for better risk mitigation strategies.