In the early days of mutual funds, names were confusing. A fund named "Prudence Fund" might have been taking high risks, while a fund named "Opportunity Fund" might have been conservative. It was the Wild West.
To fix this, SEBI (Securities and Exchange Board of India) introduced a strict categorization mandate in 2017. They standardized the definitions of Large, Mid, and Small Cap stocks and forced every mutual fund scheme to fit into a specific category. This ensures that when you buy a "Large Cap Fund," you know exactly what you are getting.
In this module, we will dissect the different types of Equity Mutual Funds (funds that invest >65% of assets in stocks). These are the wealth generators of your portfolio.
1. The Market Cap Definitions
Before understanding the funds, we must define the universe of stocks. SEBI ranks all companies listed on the Indian stock exchanges by Market Capitalization (Share Price × Number of Shares).
(High Risk / High Return)
(Growth Phase)
(Bluechips / Stability)
Large Cap Funds
Definition: Must invest at least 80% of assets in the Top 100 companies.
Profile: These invest in giants like Reliance, HDFC Bank, TCS, and Infosys. These companies are stable, market leaders, and less likely to go bankrupt.
Who should invest? Conservative equity investors looking for steady growth with lower volatility.
Mid Cap Funds
Definition: Must invest at least 65% of assets in companies ranked 101-250.
Profile: These are the "Future Large Caps." They are growing faster than large caps but are more vulnerable to economic downturns.
Who should invest? Investors with a 5-7 year horizon willing to tolerate moderate swings.
Small Cap Funds
Definition: Must invest at least 65% of assets in companies ranked 251 and below.
Profile: These are undiscovered gems or risky bets. In a bull market, they can deliver 50-100% returns. In a bear market, they can crash by 40-60%.
Who should invest? Aggressive investors with a 7-10 year horizon.
2. The Diversified Categories
Most investors do not want to decide how much to put in Large vs. Mid vs. Small. They want the Fund Manager to decide. This brings us to the two most popular categories: Flexi Cap and Multi Cap.
Note: These two sound similar but are very different in risk profile.
Best for: Passive/Moderate investors who trust the manager's view.
Best for: Aggressive investors who want guaranteed exposure to small/mid caps at all times.
Large & Mid Cap Funds
Definition: Must invest at least 35% in Large Cap and 35% in Mid Cap.
Profile: A balanced approach that cuts out the extreme volatility of Small Caps while providing better growth than pure Large Caps.
3. ELSS (Equity Linked Savings Scheme)
This is a favorite among salaried employees because it helps save tax under Section 80C of the Income Tax Act.
- Tax Benefit: Investments up to ₹1.5 Lakh per year are deductible from taxable income.
- Lock-in Period: 3 Years (The shortest lock-in among all 80C options like PPF or FD).
- Strategy: It is essentially a Diversified Equity Fund (usually Flexi Cap style) with a lock-in.
4. Thematic & Sectoral Funds (High Risk)
These funds invest in a specific sector (e.g., Banking, Pharma, Technology) or a theme (e.g., Consumption, ESG, Infrastructure).
- Risk: Very High (Concentration Risk). If the Banking sector faces a crisis, your Banking Fund will crash, even if the rest of the market is doing well.
- Usage: These are "Satellite" portfolio holdings. They require precise timing (entry and exit). Beginners should generally avoid these.
Visualizing Risk & Return
Where do these funds sit on the risk spectrum?
Summary
Choosing the right category is more important than choosing the "best" scheme. If you are a conservative retiree, the best Small Cap fund is still a bad choice for you. If you are a young professional, a Large Cap fund might be too safe.
For most beginners, a Flexi Cap Fund or a Large & Mid Cap Fund serves as an excellent core portfolio. But what about the other side of the coin? What about safety? In the next module, we will explore Debt Funds and Hybrid Funds.