Equity funds are a popular choice for investors who want to participate in the stock market but do not have the time or expertise to analyse individual stocks. An equity fund is a mutual fund that invests at least 65% of its corpus in equity instruments while the remaining portion goes to debt and money market instruments.
With a wide range of equity funds available, selecting the right one can be overwhelming, especially for novice investors. Choosing the best equity fund requires understanding financial goals, investment time horizon, and risk tolerance. Here’s a guide to help you navigate through the available options.
Choosing an Equity Fund Based on Investment Goals
1. Long-term Investor (7 Years or More)
Investors with a long holding period and higher risk appetite can go for small and mid-cap funds. These funds invest in stocks of emerging companies with lower market capitalisations but high growth potential. While these funds offer substantial returns, they are riskier than large-cap funds.
2. Mid-term Investor (5 – 7 Years)
Multi-cap funds can be suitable for those seeking a balance between risk and returns. These funds provide exposure to large, mid, and small-cap equities by investing across market capitalisations. They have a potential for better returns than large-cap funds but with lower risk than small and mid-cap funds.
3. Short-term Investor (3 – 5 Years)
Investors looking for relatively stable returns over a shorter duration may consider large-cap funds. These funds invest in stocks of well-established companies, making them less volatile and a safer bet compared to small and mid-cap funds. While the return potential may be lower, the stability and reliability make them attractive to cautious investors.
4. Novice Investor
A new investor unfamiliar with market trends and risks may benefit from a hybrid fund. These funds maintain a balance between equity and debt instruments, offering relatively higher returns than debt funds while reducing exposure to market volatility. Hybrid funds allow investors to experience equity markets with reduced risk.
5. Investors Seeking Tax Savings
Equity Linked Savings Schemes (ELSS) provide tax benefits while offering growth opportunities. These funds come with a mandatory three-year lock-in period, making them suitable for investors looking to reduce their taxable income while investing in equities. ELSS helps save taxes under Section 80C of the Income Tax Act and provides an opportunity for long-term wealth creation.
How to Select the Right Equity Fund?
Once you determine the type of equity fund that suits your goals, you can narrow down specific funds within that category based on the following parameters:
- Historical Performance: Analyse the fund’s past performance over different market cycles to gauge consistency.
- Fund Rating and Management: Review the asset management company’s credibility and the fund manager’s expertise.
- Expense Ratio: Lower expense ratios ensure a larger portion of your investment is utilised for generating returns.
- Entry and Exit Loads: Some funds charge fees on investment and withdrawal, which can impact overall returns.
- Investment Modes: Investors can choose from lump sum investment, Systematic Investment Plan(SIP), Systematic Transfer Plan (STP), and Systematic Withdrawal Plan (SWP).
- Dividend vs. Growth Option: Depending on income regularity needs, investors can opt for dividend payouts or a growth option for capital appreciation.
The Role of SIP in Equity Fund Investments
One of the most effective ways to invest in an equity fund is through SIP. SIP allows investors to contribute a fixed amount at regular intervals, mitigating the risks associated with market fluctuations. SIPs help inculcate financial discipline and offer benefits such as rupee cost averaging and compounding.
1. Rupee Cost Averaging
SIP investment helps reduce the impact of market volatility by averaging the purchase cost of mutual fund units. Fewer units are purchased when the market is high, and when the market is low, more units are acquired.
2. Power of Compounding
The longer you stay invested in an SIP, the greater the benefit of compounding. Reinvesting returns over time leads to exponential growth, allowing investors to build significant wealth.
3. Flexibility and Affordability
SIP allows investors to start with a small amount and gradually increase contributions. This makes it an excellent choice for those who want to invest without straining their finances.
Conclusion
Investing in an equity fund can be a rewarding experience when aligned with financial objectives and risk tolerance. Whether opting for small, mid, large-cap, multi-cap, hybrid, or ELSS funds, careful assessment of investment goals and fund performance is crucial. Leveraging SIP investments and utilising an SIP calculator can further enhance financial planning, making equity investments more structured and goal-oriented.