The focused mutual fund scheme category, as the name suggests, has been mandated by the Securities and Exchange Board of India (SEBI) to manage a concentrated portfolio consisting of a small number of stocks. A maximum of 30 stocks is allowed in a focused fund. This is much lower than that of categories like Flexicap, Largecap and Midcap Funds, which can have around 50-70 stocks.
How do Focused funds stand up to Flexicap funds?
However, there are no restrictions on where the fund can invest (like in flexicap funds). Also, focused funds can allocate as much as they want to different market capitalisations and sectors. So, in essence, focused funds are like flexicap funds, but with a far more concentrated portfolio of a lesser number of stocks.
Many investors look at focused funds as alternatives to PMS-style concentrated portfolio investing, given the low minimum investment requirement of focused funds compared to the Rs 50 lakh required for entry into PMS. But that is not a correct comparison. PMS is a different animal altogether in the way it is run by PMS managers. A better comparison would be the flexicap fund category.
The rationale for focused funds is their potential to achieve better returns from investing in a concentrated portfolio by taking comparatively larger positions in high-conviction bets.
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Here is how the concentrated portfolios of focused funds compare with those of flexicap funds:
But just because this category takes concentrated bets in search of better returns does not mean that it will always deliver on that front. More often than not, the return profile of the category is quite similar to that of flexicap funds.
Once every few years, the category does well. But that alone doesn’t justify the higher risk one takes by investing in a concentrated portfolio. And it is also for this reason that it is always advised not to not run after last year’s winners when investing in mutual funds.
Concentration is a double-edged sword. When a few of the stocks in the portfolio of focused funds do well, they can give very good returns. But if the tables turn and even a small number of bets by the fund manager goes down, it can push down the overall returns dramatically.
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Also, proper scheme selection becomes important in this category as there is a wide range and divergence in the performance of funds. Here is the range of returns that these funds have delivered in the last five years.
Should You Invest?
• New investors in the markets don’t need this fund category at all.
• For other investors too, this fund category is mostly not required. This alternative to flexicap funds delivers pretty similar return outcomes without taking the additional risks of having a concentrated portfolio and with comparatively less volatility. Flexicap funds have the same freedom to invest across market capitalisations but have a more diversified portfolio of 50-70 stocks. The fund manager can opportunistically move around for better returns. So, investors who, in addition to large exposure, also want exposure to potentially high-return mid- and small-cap stocks, can consider flexicap funds as well.
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• If one has to invest in focused funds, then they should not be part of the core portfolio. It can be a small allocation considered a riskier part of the overall portfolio’s tactical allocation for experienced investors who understand the pros and cons of higher risk-taking.
• The choice of fund manager is important in this category as it is all about generating extra returns by betting heavily on the manager’s high-conviction bets.
Also read | Do you need both largecap and flexicap funds?
(Dhuraivel Gunasekaran contributed to the story)
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