What are Equity Funds?
An equity fund is a form of mutual fund investment that mainly invests in equities or stocks. Equity funds are also known as stock funds. Equity means ownership in businesses or firms (privately or publicly traded). These funds can be traded either actively or passively. The objective of this ownership is to contribute to the growth of the business over a significant amount of time. Equity funds or stock mutual funds are basically categorized according to the size of the company, investment style, and geography.
Depending on their objective, equity funds can be managed either actively or passively. There are multiple types of equity funds such as large-cap equity funds, mid-cap equity funds, small-cap equity funds, diversified equity funds, etc.
How does Equity Fund Work?
An equity fund primarily invests up to 60% or more of the assets in the equity shares of the businesses in different proportions as per their investment mandate. The style of investing can be either growth oriented or value oriented.
After the allocation of a large section of equity shares, the remaining amount can be invested in either money market or debt instruments. This is done to take care of the redemption queries raised by the investors. The fund manager constantly keeps selling or buying a specific stock to leverage the market fluctuations.
A frequent buying and selling of equity funds affect their expense ratio. Currently, SEBI has set 2.5% as the upper limit for expense ratio; though it plans to reduce it further. A lower expense ratio reflects into better returns for the investors.
Who Should Invest in Equity Mutual Funds?
The decision to invest in equity mutual funds should be directed by a clear assessment of the risk appetite of the investor along with their investment horizon. Usually, any investor who can afford to stay invested for five years or more can invest in equity funds. Investors with a short-time investment horizon should avoid investing in equity, as there are constant market fluctuations, which might hamper their investment. The investment objective must also be considered such as is the investor looking for a tax benefit, or wants a peek at the stock market, or is ready to take a calculated risk in the market. Different types of equity funds cater to all such objectives.
For instance, if you are a new investor and want to experience the share market with steady returns, you can think of investing in large-cap equity funds. On the other hand, if your investment objective is of tax planning under Section 80C, then you must consider investing in Equity Linked Saving Schemes (ELSS). In case you have a strong risk profile and want to generate maximum returns, you can consider investing in small-cap equity funds. Thus, the channel of your investment depends on your investment objective and your overall risk profile.
Types of Equity Funds
On October 6th, 2017, SEBI issued a new categorization for equity mutual funds to bring consistency among similar schemes offered by various mutual fund houses. The objective behind this is to make sure that it becomes easier for an investor to compare products and evaluate their options before choosing the best possible scheme.
According to the new circular by SEBI,
|Large Cap Company||Ranks between 1 to 100 with respect to full market capitalization|
|Mid Cap Company||Ranks between 101 to 250 with respect to full market capitalization|
|Small Cap Company||Ranks 251 and onwards with respect to full market capitalization|
Let’s now take a quick glance at the different types of equity funds and their investment requirements:
1. Large-cap Equity Mutual Funds
Large-cap equity funds usually invest with companies having a solid market capitalization. The companies in this category are large companies with big businesses and a huge workforce. Some common examples would be ITC, SBI, ICICI Bank, Unilever etc. Large-cap equity funds invest in such companies that have the ability to show year on year steady growth and profits. This, in return, provides stability to the investors. You can expect steady returns from such an investment.
2. Mid-cap Equity Mutual Funds
As the name suggests, mid-cap equity funds invest in stocks of mid-sized companies. Generally, the market capitalization of such companies is somewhere between INR 50 billion to INR 200 billion. From an investing point of view, the period of investment in mid-cap equities should be considerably higher than that of large-cap equities. This is due to the chances of fluctuations in the market.
3. Small-cap Equity Mutual Funds
Small-cap equity funds invest in companies that are at the lower end of rankings in terms of market capitalization. Companies in this category are generally start-ups or businesses in their initial phases of development with comparatively smaller revenues. These companies have the maximum growth potential and can generate very high returns. However, the risk involved in this category is also on the higher side due to their small size.
4. Large-cap and Mid-cap Equity Mutual Funds
These funds are a combination of large-cap and mid-cap. These schemes can invest in both large and mid-cap equities.
5. Equity Linked Savings Scheme (ELSS)
These are a type of equity mutual funds that give you guaranteed tax benefit under the Section 80C of the Income Tax Act. They offer a dual advantage of tax benefit as well as capital gain. However, these schemes come with a minimum lock-in period of three years.
6. Sector Funds and Thematic Equity Funds
Sector funds are a type of equity schemes that strictly invest in companies operating in a specific domain or sector such as pharma or technology. On the other hand, Thematic equity funds invest in companies with a broader sector such as media and entertainment. However, the risk associated with thematic equity funds is at its peak due to little diversification in it.
7. Diversified Equity Funds
These type of equity funds invest across the market, i.e. across all three sections of companies in terms of market capitalization. They generally invest about 40% to 60% in large-cap shares, 10% to 40% in mid-cap shares, and about 10% in small-cap shares.
8. Value Equity Fund
Value funds usually invest in companies that are undervalued in the market.
9. Dividend Yield Fund
In this type of equity fund, the fund manager designs the portfolio according to the dividend yield strategy. Investors looking for a regular income along with capital gain usually prefer these type of funds.
10. Focused Fund
In this, you can invest in a variety of equity funds but with a stock limit. According to SEBI, focused funds can invest in a maximum of 30 stocks.
Benefits of Investing in Equity Funds
There are numerous benefits of investing in equity funds. Some of them are:
a. Easy Liquidity
Equity funds can be easily liquidated. You can redeem them at any point of time (except ELSS that has a lock-in period of 3 years)
b. Tax Benefits
You can claim exemption from tax on the capital gains of your investment aging more than a year.
c. Systematic Investments
While investing in equity schemes you have the option to invest in small sums at specific intervals through SIPs.
You can start investing in equity funds with a sum as low as INR 500.
When you invest in equity mutual funds, you can invest in a wider range of stocks. Portfolio diversification allows you to lower the risk factor associated with your investments.
f. Expert Money Management
AMC set specific objectives for their schemes and appoint experts and experienced professionals to take care of your money.
Investing in Equity Funds through SIP
The most effective method to invest in equity funds is through SIP. It is a systematic investment that occurs on the pre-set date of each month. With the SIP investment, you get the benefit of rupee-cost averaging meaning fewer units will be allocated to you when the market is high and vice versa. This allows you to invest at multiple levels of the ongoing market. Moreover, investing through SIP inculcates the habit of saving and helps you build up wealth over time.
Tax of Equity Mutual Funds
When you pull out units from your equity fund investment, you get capital returns. These capital gains are taxable by law. Your holding period – the amount of time you remain invested – defines the rate of taxation on the capital gains.
Capital gains generated on the holding period of one year or less are taxed at 15%. These gains are called short-term capital gains or STCG. On the other hand, the long-term capital gains or LTCG are the ones generated on holding period of more than one year. According to the 2018 budget, LTCG of over INR 1 Lakh are taxed at 10% without the indexation benefit.
ELSS is another tax-saving equity instrument. You can save up to INR 45,000 on direct tax and can claim deductions up to INR 1.5 lakhs by investing in ELSS.
Returns of Equity Mutual Funds in India
Among all the categories of mutual funds available in India, equity funds have been able to deliver the best returns. The before-tax returns generated by equity funds, on an average, are about 10% to 12%. These returns may vary as per the market volatility and general economic conditions.
|Fund Type||Fund Name||6 Months Returns||1 Year Return||2 Year Return|
|Large-Cap Funds||Axis Bluechip Fund||14.8%||22.7%||19.4%|
|Invesco India Growth Opportunities Fund||8.5%||20.9%||20.5%|
|Aditya Birla SL Frontline Equity Fund||4.3%||8.9%||12.2%|
|Multi-Cap Funds||Mirae Asset India Equity Fund||5.3%||13.1%||17.6%|
|Motilal Oswal Multicap 35||1.6%||7.4%||18.0%|
|Franklin India Focused Equity Fund||-1.4%||9.0%||12.5%|
|ELSS||Axis Long Term Equity||10.9%||20.0%||17.0%|
|Aditya Birla SL Tax Relief ’96||4.1%||17.5%||17.5%|
|DSP BR Tax Saver||1.4%||8.5%||13.5%|
|Mid-cap Funds||L&T Midcap Fund||-2.7%||8.6%||20.9%|
|HDFC Midcap Opportunities Fund||0.2%||10.2%||15.6%|
|Franklin India Prima Fund||-0.2%||9.6%||13.2%|
|Small-cap Funds||HDFC Small Cap||-4.5%||21.2%||23.0%|
|Franklin India Smaller Companies Fund||5.5%||7.5%||12.8%|
|L&T Emerging Businesses Fund||-5.0%||11.5%||25.0%|