Diversified equity mutual funds are often recommended by
financial advisors as an investment instrument to first-time investors, who is
new to the vagaries of the stock market.
This strategy will act like a rite of passage for young
investors who had not been exposed to instruments other than the traditional
avenues of fixed deposits or small savings schemes.
A diversified investment strategy across market
capitalizations can help ensure balance in terms of risk and return over the
long term for a portfolio of first-time investors.
But will buying a mutual fund scheme, holding 500 stocks,
add value for first-time investors?
The largest asset management company in India, SBI Mutual
Fund, on Wednesday launched a SBI Nifty 500 Index Fund. It will comprise the
top 500 stocks by market capitalisations, covering large-cap, mid-cap and
small-cap segments.
To be sure, Motilal Oswal Nifty 500 Index Fund was the first
scheme based on this theme and launched five years ago. Axis Nifty 500 Index
Fund was launched two months back.
What's on offer?
The Nifty 500 Index covers around 92 per cent of India's
listed universe and includes all 21 sectors across large-cap, mid-cap and
small-cap companies.
The financial service sector has the highest weightage in
the index at 27.60 per cent. IT accounted for 9.90 per cent, oil, gas and
consumable fuels 8.75 per cent, automobile and auto components 7.46 per cent,
and FMCG 7.24 per cent.
Top constituents by stock weightage are HDFC Bank, 6.41 per
cent; Reliance Industries, 5.31 per cent; ICICI Bank, 4.5 per cent; Infosys,
3.65 per cent; and ITC, 2.41 per cent.
Mirroring the index, Motilal Oswal Nifty 500 Index Fund has
given 35.29 per cent, 16.73 per cent and 21.84 per cent returns over one-year,
three-year and five-year periods, respectively. The scheme's performance is
better than Nifty 100 Total return Index (TRI) and Nifty 50 TRI returns.
Large-cap dominated the scheme's portfolio with 74.5 per cent allocation,
followed by mid-cap stocks at 16.6 per cent and small-cap at 8.9 per cent.
What works?
Because Nifty 500 Index Fund consists of companies across
different industries comprising financial services, consumer goods, healthcare,
and technology, it reduces the risk of any one industry or company.
By investing across market capitalization and sectors, the
Nifty 500 reduces its effect in a volatility of individual stocks or sector.
What doesn't work?
The Nifty 500 is market-capitalisation-weighted, wherein
larger companies dominate the index. This lopsided weightage can somewhat
dilute the influence of mid-cap and small-cap stocks as well as reduce the
diversification that is expected from a 500-stock index.
The Nifty 500 is often concentrated in sectors such as
financial services, IT, and energy. If these sectors face downturns, then the
overall performance of the index can get impacted significantly.
Should new investors take the plunge?
Says experts, a plunge is good for new, uninitiated
investors with a broad-based index fund as drawdowns in such schemes may not be
that sharp.
"Even in a sharp market correction, certain sectors and stocks tend to perform differently and offer positive returns. So, having broad-based index like Nifty 500 gives comfort. Most of the ultra high net worth individual and family offices investors do approach for passive funds," said Deepak Chhabria, CEO at Axiom Financial Services.
However, more demand comes from ultra high net worth
investors (HNIs) and family offices to passive funds.
According to Ravi Kumar TV, founder of Gaining Ground
Investment Services: "This is an active multi-cap fund. So, considering
various factors, I think it will make it a more suitable choice for first-time
investors.".
We think that the overall market will move upwards as
economic conditions continue to stabilise. But that's where the question
arises: which companies are going to do well and how do their stock prices
happen to do so. Screening and analysis would ideally be left to a fund
manager. For a first-time investor, though, a multi-cap fund would be a good
starting point through SIP, Kumar said.
Although this type of fund offers broad exposure and
diversification, it also has the limitations like over-reliance on large-cap
stocks, a major part of a sector, and extreme vulnerability to market
conditions.
While choosing between passive and active funds, investment objectives, risk tolerance, market outlook, and preference for fees become a few factors playing their parts in making the decision.
