Thursday , 16 August 2018

The other flavours of equity funds

By Tensing Rodrigues

Apart from the ‘market cap’ of the stocks in which they invest, there are other aspects along which the equity mutual funds (MFs) can be categorized. It is these that define the remaining categories of MFs.

The first of these is the ‘Dividend Yield Fund,’ an open ended equity scheme investing minimum 65 per cent in dividend yielding stocks. What are dividend yielding stocks? These are simply the shares of those companies that pay an above-average dividend regularly. The return from these funds tends to be more stable and less volatile compared to other equity funds. The main drawback of dividend yield funds is that they tend to underperform the growth funds in rising markets. If you are looking for higher returns and can digest the accompanying risk, these funds are not for you. On the other hand, if you wish to have a smooth ride, then you can have a good part of your portfolio in these funds.

The next category of equity funds is ‘Value Fund’. This is a rather vague category, because there cannot be an absolute quantitative measure of  value orientation of a stock and such a measure can be very volatile– what is value stock today may not be so tomorrow. So the value is to a large extent the perception of the fund manager. After all when do you consider a stock as a value stock? When it’s current intrinsic value is more than its current price. You expect the price to catch up with the value over time and deliver you returns. But the moment the price catches up with the value it ceases to be a value stock! Also you do not know when the catching will take place and it may not happen at all because value is after all your calculation. While price is real as you see it in the market. There is every possibility that you may not be exactly right.

To place the ‘value stock’ idea in perspective, you need to see what a ‘growth stock’ is – it’s mirror image! A growth stock is that whose price is more than its intrinsic value. You will say, then why buy it? The reason driving you to buy it is the fact that this ‘more than justified’ price reflects the market’s high expectations of growth of the company. So you expect to earn returns through further increases in price driven by increasing value. But what happens if the expectations do not materialize? That is the flip side of the growth stocks and growth funds that are overweight on them. Unlike ‘Value Fund’, SEBI has not allowed ‘Growth Fund’ as a separate category; perhaps it has assumed that the ‘market cap’ based categories will ordinarily be populated by funds driven by growth strategy.

Very similar to Value Fund, is the next category ‘Contra Fund’. Here too the USP of the fund is the basket of stocks whose price is below their value. But here there is a special condition, viz. the stocks are mostly of companies which have had temporary setbacks from events that have dampened their valuation. The expectation is that the companies will eventually get over these ‘bad patches’ and their valuation will get on the even keel. Keeping in mind their close resemblance, SEBI has mandated that a fund house should have either a Value Fund or a Contra Fund, but not both.

The next category is what SEBI has called a Focused Fund. The ‘focus’ is in terms of restricting the number of stocks – maximum 30 stocks. But there is a further focusing. The 30 stocks have to be from either large cap or mid cap or small cap universe – not across the caps. Like ‘Multicap Fund’, this seems to be a rather hard to define category from the point of view of the investor; in the sense that it is difficult to answer the question: Why should I pick such a fund?

As against that the last of the equity categories is sharper: the Sectoral/ Thematic Fund that invests in stocks of companies belonging to a particular industry/sector or in stocks of businesses associated with a particular theme. Sectoral delimitation is quite unambiguous; but thematic delimitation can be hazy. For instance, an ‘Infrastructure Fund’ can buy everything from cement companies to banks.


*The author is an investment consultant. Readers can send their comments and queries to


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