Focused funds: Should you invest in them?
Different people follow different investment approaches. Some people prefer to spread their risk by investing in diversified equity mutual funds. In contrast, some people prefer to concentrate their risk by investing in focused mutual funds. In this article, we will understand focused mutual funds, how they work, the returns that they have delivered, their taxation, and whether you should invest in them.
What are focused mutual funds?
Focused mutual funds are open-ended equity mutual fund schemes that invest in a maximum of 30 stocks. The scheme needs to specify where it intends to focus: large-caps, mid-caps, small-caps, or multi-cap. Most schemes take a multi-cap approach to have the flexibility to choose from large, mid, and small-cap stocks.
As per SEBI guidelines, a focus fund has to invest a minimum of 65% of its total assets in equity and equity-related instruments. So, from a taxation point of view, it is treated as an equity scheme. A focused fund manager builds a high conviction portfolio by taking big bets on a few selected shares.
How do focused funds work?
Focused funds work on a combination of the following two factors:
- Identifying the right stocks (limited number) for investment, and
- Allocating sufficient money to each of those stocks to enhance the overall scheme returns.
Chart: Positioning of focused funds
The above chart shows that focused funds are riskier than passive and active diversified funds. But, they have the potential to give higher returns than passive funds and active diversified funds. As focused funds have a concentrated portfolio, they are meant for mature investors. If you are a beginner, you should start your mutual funds journey with simple index funds such as a Nifty 50 Index Fund.
Focused funds are market capitalization and sector/theme agnostic. Some focused funds may follow a core and satellite portfolio style of asset allocation. For example, a focused fund may invest most of its money in large-cap stocks (core portfolio) with a small allocation to mid and small-cap stocks (tactical portfolio) as per market opportunity.
Performance of focused funds
Let us look at the returns given by the top five focused funds.
|Scheme name||AUM (Rs. crores)||1-year||3-years||5-years|
|IIFL Focused Equity Fund||3,085||1.71%||24.86%||16.67%|
|Quant Focused Fund||110||12.14%||27.36%||15.77%|
|SBI Focused Equity Fund||26,218||0.85%||20.66%||15.43%|
|Nippon India Focused Equity Fund||5,990||9.62%||25.42%||14.77%|
|ICICI Prudential Focused Equity Fund||3,460||7.22%||22.68%||14.69%|
Note: The above returns are as of 06 September 2022. The returns are for direct plans with growth option. The one-year returns are absolute. The three and five-year returns are CAGR. The funds have been ranked based on five-year returns.
The above table shows how the top five focused funds have given five-year returns in the range of 14.6% to 16.6% CAGR. These are good returns for long-term investors.
As discussed earlier, focused funds have to invest a minimum of 65% of their total assets in equity and equity-related instruments. Hence, from a taxation point of view, focused funds are taxed as equity funds.
- Short-term capital gains (STCG) tax
If an investor sells their focused fund units within twelve months of purchase, the profit is known as short-term capital gain (STCG). The STCG tax is levied at a flat rate of 15%.
- Long-term capital gains (LTCG) tax
If an investor sells their focused fund units after twelve months of purchase, the profit is known as long-term capital gain (LTCG). In a financial year, the first Rs. 1 lakh LTCG is exempt. The incremental LTCG is taxed at 10% without indexation benefit.
Should you invest in a focused fund?
You should consider the following factors to decide whether you should invest in a focused fund. Are you looking for long-term wealth creation? Focused funds are suitable for investors willing to invest towards their long-term financial goals wherein the investment time horizon is five years or more. What is your risk profile? Focused funds are meant for mature investors with a high-risk profile as they have a concentrated portfolio. To summarize, you may consider investing in focused funds if you have a high-risk profile and an investment time horizon of five years or more.
Investing in mutual funds with the Glide Invest App
In this blog, we have understood focus funds, how they work, the returns generated, taxation, and whether you should invest in them. You can partner with the Glide Invest App for your financial planning journey to get recommendations for the appropriate mutual fund schemes based on your risk profile. You will get advice on planning and systematically investing towards your financial goals.
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- A personalized risk profile assessment
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