The popularity of focused funds is increasing as the funds aim at higher returns through limited stock investment. But, you should know the basics before you take the plunge. Here is what you should know about focused funds.
Mutual fund investment is a wise decision because of its variety and suitability for different investors. Since not all mutual funds are the same, investors must know the details about each type of funds to help make an informed decision.
A focused mutual fund is a type of equity mutual fund that invests in a limited or a small number of stocks. The Security and Exchange of India or SEBI guidelines allow focused funds to invest only in a minimum of 30 shares. Thus, focused fund meaning is that the investment focuses on just 30 stocks and not more.
It is the only mutual fund with such a guideline as the other mutual funds can invest in up to 100 stocks. A focused fund may focus on large-cap, mid-cap or small-cap funds. They do not spread assets over a large number of stocks and focus only on a few sectors. The main idea of a focused mutual fund is to ensure maximum returns through investment in high-performing assets. Thus, they choose stocks as per their mandate and hence focused funds are also referred to as ‘best idea funds.’
Before you invest in any mutual funds , it helps to know why it can work and the risks they may pose. Here are some benefits and risks with focused funds:
Since focused mutual funds invest only in around 30 stocks, they follow an orderly process. The fund manager selects stocks only after a thorough stringent filtering process after extensive research.
It means there is less room for trial and error, and they will pick up the stocks only after in-depth assessment. The process works in favour of investors.
Thus, the primary purpose of a focused equity fund is to be able to hit the bull’s eye through the choice of the right stocks with the possibility of high returns.
One of the best benefits of mutual funds is diversification. It helps to minimise risks and at the same time, maximising the returns. A drawback of investing across sectors and stocks is limited returns.
Since focused funds invest only in carefully researched stocks and are limited to only a few stocks, it could be possible to get high returns.
The main disadvantage is that investing only in a few stocks can either hit the target or miss the mark. So, there is a possibility of higher risk as well, along with higher returns.
The lack of diversification also poses a high risk. Thus, focused funds are highly volatile.
Focused mutual fund investment suits experienced investors better than new investors. The former has a high-risk appetite, which is crucial for focused funds. It is also suitable for those with a time horizon of five to seven years.
Focused equity mutual funds are regarded as high volatile funds, and hence those looking for safe investment should consider other mutual fund options.
Being an equity-oriented fund, focussed funds are taxed as equity funds. In case of LTCG or Long-Term Capital Gains, a 10% tax is applied on gains more than Rs. 1 lakh in a year. For STCG or Short-Term Capital Gains, the gains are taxed at 15% if the amount is withdrawn before one year.
The success of investment in a focused mutual fund depends on the skills and knowledge of the fund manager. They have to research well and exhibit expert screening process to be able to pick out the best-performing stocks to ensure high returns.
At the same time, working with the fund manager to know the top holding of the fund, the filters applied and understanding the history of the focused funds can also help.
Those seeking to invest for a short period may not benefit from focused fund investment. It is because the investment has to be for 5 to 7 years to help maximise returns. Another factor aligning with your financial goal is the choice of mid-cap or large-cap funds as it should depend on your investment purpose.
The limit on the number of stocks invested also poses high risks. Market downfall may affect focused fund investment, and hence, you should invest if you have a high-risk tolerance.
It may be tempting to invest in focused mutual funds because of the probability of high returns and limited stock choices. But, there are also other factors you need to consider before investing. Make sure you choose a fund wisely based on your risk profile and financial objectives. Read and understand all the risks associated with the fund before making a decision.