Equity Mutual Funds

Equity Oriented Mutual Funds

Equity-oriented Mutual Fund, or Equity Funds are those that invest at least 65% of its corpus in equity and equity related instruments, as per section 10(23D) of the Income Tax Act. The objective of equity funds is to provide an alternative to investors who are willing to take exposure in the equity markets for higher returns, but do not have the expertise to study stocks and make an informed decision by themselves. This task is therefore performed by fund managers who rely on their financial expertise and market knowledge to allocate the Assets Under Management (AUM) or the fund corpus into equity markets. This corpus is divided into units and sold to investors, who are then able to gain exposure to a diversified basket of equities even after investing small sums of money. This is more efficient than diversifying one’s portfolio of money by individually investing in stocks.

Over the past few years, equity funds have become increasingly popular due to attractive returns and increase in investors’ awareness. Millennials have shifted gaze from traditional FDs and Fixed Income securities, and are willing to take on added risk to gain higher returns. There are over 6 crore retail investors in Mutual Funds in India, out of which 1.5 crores were added just last year! However, it is important to understand the basics of equity mutual funds before investing in them, rather than simply following the herd. Below are some of the basic concepts of equity funds explained.

Different types of Equity Funds:

The Securities and Exchange Board of India has categorized Equity Mutual Funds into ten categories, as listed below;

  1. Large cap Fund: Here, minimum 80% of the investment is in large cap stocks, such as those listed on the NIFTY or SENSEX.
  2. Large and Midcap Fund: Here, a minimum 35% investment is in large cap stocks and another 35% is in mid cap stocks.
  3. Mid cap Fund: Here, at least 65% of the holdings will be in mid cap stocks like those listed on NIFTY MID100, etc.
  4. Small cap Fund: Here, at least 65% of the holdings will be in small cap companies.
  5. Multi cap funds: Here, minimum 65% holdings will be invested across large cap, mid cap and small cap stocks.
  6. Dividend yield fund: Here, 65% funds will be invested in stocks that pay out dividend.
  7. Value Funds and Contra Funds: Value fund invest primarily in stocks that the fund manager believes are undervalued by the market. Contra Funds have a contrarian investment strategy, which means that they invest against the market sentiment, instead of following the market.
  8. Focused Fund: These schemes focus on a limited number of stocks, to a maximum of 30.
  9. Sectoral Funds: These funds invest at least 80% of the corpus in stocks of a particular sector.
  10. Equity Linked Saving Scheme (ELSS): These schemes invest at least 80% in equity products and have a 3-year lock-in. They offer tax benefits u/s 80C of the Income Tax act.
  11. Index Funds/ETFs (Exchange Traded Funds): These are funds that simply replicate the index, and are passively managed.
  12. Gold ETFs: These are funds that base the change in value of NAV on the price of gold. The purpose is to invest in the value of gold commodity without actually buying it in physical form.
  13. Fund of Funds: These are funds that invest in schemes of other mutual funds.

It is not only important to choose the right fund out of a variety of types of funds, but also how to invest in them and what form of returns the investor is looking for.

  • Dividend pay-out option: Here the profits of the fund are paid out as dividend to the investors.
  • Dividend re-investment option: Here the profits of the fund are not paid out but reinvested in buying additional units of the same fund.
  • Growth option: Here there is no dividend, there is a compounded growth in the value of your investment.

What to look for before investing in Equity Mutual Funds?

There are various parameters you can look at before deciding to invest in an equity fund;

• Performance: Look at the 1-year, 3-year and 5-year returns of the fund and compare it with the index performance and with other funds.

• Risk: Look at risk measures such as the Sharpe ratio and Standard deviation. Higher ratios translate to higher risk, and hence choose a fund with good returns and lower risk ratio at the same time.

• Performance during downturns: Check how the fund has performed during market slumps. If the fund has managed to remain stable or generated some returns even in a falling market, it is a good bet.

• Diversified portfolio: The scheme should have a well-diversified portfolio and the top ten stocks should not have a weightage of more than 50% in the fund.

• Expense ratio: This refers to the charges of the fund. An actively managed equity fund comes with the cost of churning (how often the stocks are bought and sold). If the expense ratio is not commensurate with the fund’s performance, then you may choose not to invest in the fund.

• Fund manager and AMC: Since you have trusted the fund manager with your hard-earned money, it is important to know the track record and the experience of the fund manager as well as the AMC handling the fund. Always stick to a reputed fund house with at least 10 years of existence and a fund manager who has a good amount of industry experience.

What are the different ways to signup for a Mutual Fund?

a) Direct route

Visit the nearest branch of the AMC you wish to invest with, along with the following documents:
a. ID proof
b. Address proof
c. Cancelled cheque
d. Passport sized photograph

b) Through a distributor

The mutual fund distributor will help you through the entire process of investing in the scheme, documents, KYC (Know Your Client) with the help of PAN and Aadhaar. He will generally charge a fee for this assistance.

c) Online through the fund’s website

You can also invest in mutual funds online by following the instructions given on the website of the fund house.Provide all the relevant information, and submit it along with the KYC documents, i.e.Aadhaar number and PAN. Once your details are verified, you can start investing.Most investors today prefer the online route of investing.

Which approach is better – investing in stocks or mutual funds?

There are many reasons why, as a retail investor looking for long term returns, one should consider investing in equity funds rather than stocks.

• Mutual funds are more stable: Since mutual funds are not exposed to concentrated risk of a single company or management, the NAV does not get majorly affected by any sharp upturn or downturn in the price of individual stocks.

• Diversification: The most important advantage that mutual funds have to offer over stocks is diversification. An individual cannot diversify his portfolio with his limited funds and knowledge of the market, in the same manner that a fund manager can, with a huge amount of corpus and specialized research teams at his disposal.

• Managed by experienced professionals: Fund managers have decades of industry experience and knowledge of the markets, which a retail investor cannot achieve. They have research teams, contacts with corporates and leaders and an in depth understanding of the functioning of the markets. This expertise is put into the management of the fund which would otherwise not be possible for small retail investors.

• Smaller investment is possible: To invest in 4-5 stocks individually in any acceptable quantity requires a large amount of funds. But with mutual funds you can invest as less as ₹500, while getting exposure to all the stocks in the fund’s portfolio.

• SIP route is possible: You can invest a fixed amount systematically and regularly in mutual funds, just like how you would invest in a recurring deposit. This makes it easier to organize savings and encourages regular investment. This is not possible in individual stocks.

FAQs – Equity Mutual Funds

What is the tax treatment of equity mutual funds?

Equity funds held for less than 12 months attract short term capital gain (STCG) tax, and those held for more than 12 months attract long term capital gains (LTCG) tax. STCG is taxed at 15% while LTCG is taxed at 10%. However, LTCG is exempt up to 1 lakh in a year. Dividends arising from equity funds are paid after deducting Dividend Distribution Tax (DDT) of 10%. Therefore, dividends are tax free in the hands of the investor.

What is an exchange traded fund?

ETFs are mutual fund units that can be bought or sold on the stock exchange, unlike a normal mutual fund unit where one has to buy from or sell to the fund house itself. In ETFs, the mutual fund units are issued to a few designated large participants called Authorised Participants (APs). The APs provide the buy and sell quotes for the ETFs on the stock exchange.The investors can investin ETFs when the stock markets are open for trading. ETFs thus trade like stocks with price changes as per demand and supply. One requires a demat account and trading account for investing in ETFs. Common ETFs in India are Index ETFs like NIFTY ETFs, and gold ETFs.

Why switch from my current accountant?

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What is an exchange traded fund?

ETFs are mutual fund units that can be bought or sold on the stock exchange, unlike a normal mutual fund unit where one has to buy from or sell to the fund house itself. In ETFs, the mutual fund units are issued to a few designated large participants called Authorised Participants (APs). The APs provide the buy and sell quotes for the ETFs on the stock exchange.The investors can investin ETFs when the stock markets are open for trading. ETFs thus trade like stocks with price changes as per demand and supply. One requires a demat account and trading account for investing in ETFs. Common ETFs in India are Index ETFs like NIFTY ETFs, and gold ETFs.

What is the tax treatment of equity mutual funds?

Equity funds held for less than 12 months attract short term capital gain (STCG) tax, and those held for more than 12 months attract long term capital gains (LTCG) tax. STCG is taxed at 15% while LTCG is taxed at 10%. However, LTCG is exempt up to 1 lakh in a year. Dividends arising from equity funds are paid after deducting Dividend Distribution Tax (DDT) of 10%. Therefore, dividends are tax free in the hands of the investor.

What is the tax treatment of equity mutual funds?

Equity funds held for less than 12 months attract short term capital gain (STCG) tax, and those held for more than 12 months attract long term capital gains (LTCG) tax. STCG is taxed at 15% while LTCG is taxed at 10%. However, LTCG is exempt up to 1 lakh in a year. Dividends arising from equity funds are paid after deducting Dividend Distribution Tax (DDT) of 10%. Therefore, dividends are tax free in the hands of the investor.

What is an exchange traded fund?

ETFs are mutual fund units that can be bought or sold on the stock exchange, unlike a normal mutual fund unit where one has to buy from or sell to the fund house itself. In ETFs, the mutual fund units are issued to a few designated large participants called Authorised Participants (APs). The APs provide the buy and sell quotes for the ETFs on the stock exchange.The investors can investin ETFs when the stock markets are open for trading. ETFs thus trade like stocks with price changes as per demand and supply. One requires a demat account and trading account for investing in ETFs. Common ETFs in India are Index ETFs like NIFTY ETFs, and gold ETFs.

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Mutual fund investments are subject to market risks. Please read the scheme information and other related documents carefully before investing. Past performance is not indicative of future returns.

Please consider your specific investment requirements, risk tolerance, investment goal, time frame, risk and reward balance and the cost associated with the investment before choosing a fund, or designing a portfolio that suits your needs.