For most retail investors, Mutual Funds are synonymous with equity investing. Yes, some of us are beginning to know Debt but for most of us mutual funds offer a moderated route to invest in equities. The discussion among investors often revolves around identifying the “Best Funds” and experts are tempted to present their “Top Three”. Thankfully, been blessed with a clientele where such requests are far & few, my knowledge or the lack of it is rarely tested. The regulator threw its protective ring around me and as a SEBI Registered Mutual Fund Distributor, I am relieved of the role to play an Advisor, beyond offering incidental advice.
Yet, as an investor, I am equally keen to identify the “Best Funds” for my portfolio and at times end up peeping at the “Top Schemes” section in my mobile app, Sudipta Sengupta. As an investor, I do refer to the fund facts as available in the scheme factsheets and these also come handy when I review the funds in my portfolio. However, with such a large basket of schemes to choose from, I have the challenge of shortlisting the schemes even before considering the fund facts. With more than 40 fund houses and each having multiple schemes across categories, even shortlisting schemes is a daunting task. To simplify product offering, SEBI has resorted to categorise mutual fund schemes in five clear categories.
- Equity Funds
- Debt Funds
- Hybrid Funds
- Solution Oriented Funds
- Other Funds.
The above categories have several sub-categories and this classification will help the discerning investor evaluate different options before selecting the scheme. Schemes are now distinctly classified based on asset allocation, investment strategy and the whole exercise has brought in an element of uniformity in scheme offering across fund houses. Further each fund house can offer only one scheme across these sub-categories, except of course Index funds.
Each sub-category has a clear description and investment mandate. A large cap scheme must invest a minimum 80% of its asset in shares of first 100 companies in terms of Market Capitalisation. Similarly, a Mid-cap scheme will invest a minimum 65% of its assets in 101st to 250th companies in terms of market capitalisation. Fund houses are allowed only one scheme per sub-category and knowing the subcategory mandates will bring in uniformity in scheme selection and help appreciate scheme performance better.
Whether we are risk averse or one with a high risk appetite, debt funds are for both of us. Debt Mutual Funds invest in debt instruments and are considered an outstanding alternative to fixed deposits. They are liquid, tax-friendly and are known for their consistent returns though at times can be a bit volatile. Though considered a better alternative to fixed deposits, the ordinary investor needs to navigate through the multiple product offerings, potential volatility and yet know how to get consistent returns. SEBI has categorised the Debt funds in sixteen distinct categories based on duration, asset mix and credit quality. The first ten funds are based on duration, while the remaining funds on credit quality and asset mix. Past performance never matters in debt but knowing the categories is a prerequisite to scheme selection.
Hybrid funds are of six different types and include Debt Hybrids and Equity Hybrids both. The category description will help investors differentiate between an Aggressive Hybrid from a Balanced Advantage fund and appreciate their difference. With each fund house offering only one scheme per category, investors will be able to do peer to peer comparison better.
Fund houses can float two types of Solutions Oriented funds, Retirement and Children’s planning fund. These funds design their portfolio to achieve the mentioned long-term goals. Schemes in this category have a long-term focus and are likely to have a lock-in period allowing the fund managers to ride short term volatility better.
Funds which do not fall in these four categories are classified as Other Funds. They include the Index Funds, Exchange Traded Funds and Fund of Funds. AMCs can have more than one fund in this category and its common to see multiple index funds within the same fund house.
SEBI’s categorization of funds will help the ordinary investors to know the scheme type and assess suitability to their portfolio. Investors and prospective investors can now have more clarity on the type of funds and compare funds intra-category as against any fund. Fund performance and associated risks can be appreciated better as investors will not compare performance of a flexicap fund with a value fund.
There is more to fund selection than just knowing the fund categories, but this is a starting point and an important one. Before scheme selection it is advisable to identify the right category and only then proceed to select the scheme within the category. Best Funds are an elusive concept and what is Right Fund to me may not the Right Fund for another investor. Fund rankings are dynamic and the ordinary investor would benefit more by knowing the categorization by the regulator ahead of seeking fund recommendation.
Disclaimer: Sudipta Sengupta is a SEBI Register Mutual Fund Distributor and not an Investment Advisor.