Can I invest in a single multi-cap mutual fund if I am a new investor?

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I received two interesting questions received on email. (1) As a new investor, how many mutual funds do I need to begin with? (2) Can I begin investing with a single multi-cap fund? Interestingly, the answer to the second question is “yes” and that is the also the answer to the first question – “one”.

Yes, most investors, whether old or new need just one equity mutual fund (the fixed income allocation is essential and separate, we shall not consider this here). If I could go back in time and correct one mistake, it would be buy a fewer number of funds. So you could either learn from my mistake or disregard this hindsight gyan and reinvent the wheel.

This post is part of  MF FAQ a series in which we answer basic newbie questions. As a sample check out: MF FAQ: 20 Basic Questions on mutual funds answered – part one and part 2

What is a multi-cap mutual fund?

The “official definition” is :  An open ended equity scheme investing across large cap, mid cap, small cap stocks (min 65%).  This differs from a large and mid-cap fund where individual allocations are defined: min 35% in large caps and min 35% in mid caps.

However as the AUM of a fund increases, a multi-cap fund tends to become a large and mid-cap fund. So from a practical point of view, there is not much difference between multi-cap and large and mid-cap.

Can I invest in a single multi-cap mutual fund if I am a new investor?

Why only one (diversified) equity mutual fund?

Why not? A single fund typically offers a basket of 40-60 stocks across sectors (although typically finance heavy) and decent spread across market cap. What else does one need? I am not trying to say a two fund portfolio like one large cap and one mid cap is right or wrong. Just pointing out that one fund can get the job done.

How? What are the advantages?

Imagin you hold a two fund portfolio (which is pretty rare!): 60% of large cap and 40% of mid caps. After a couple of years, the mid-cap stocks have either moved up or down significantly. What would you do?

(A) Nothing (B) shift from mid-caps to large caps to book profit or vice versa to buy low. Option B would lower risk, make you sleep better and with luck might even fetch better returns. Most investors, whether they hold 2 funds or 10 or unlikely to re-balance within an asset class (or re-balance period) fearing exit loads and taxes – penny wise pound foolish approach.

If instead of 2 funds (or 20), the investor held a single multi-cap or large and mid-cap fund, the fund manager would do such re-balancing with no additional cost to the investor. Not only does the investor get a minimalist portfolio trivial to track, she also gets active market cap risk management.

Surely, there are disadvantages?

First, that is a statement not a question, but I get it. Second yes there are always disadvantages. The investor can keep worrying if they have picked the “right” fund and get all worked up. The truth is they do that even with 20 or rather 1/2 become 20 because of that attitude. So there is not much one can do about this.

I would say there are mental issues (like with most things concerning money) than actual portfolio issues. The investor must:

  1. have conviction to pick a fund and stick to it
  2. know how to review a fund performance without emotions
  3. have conviction and courage to shift mutual funds completely. That is if the fund held does not work after a 3Y* period, switch completely  to another fund (both future and past investments).

* Remember that this is an equity fund and you are investing for a long-term goal (10Y + away)

Most people cannot pull this off even if they get paid advice. However, if you think that you can pull it off, then I am fairly confident it will work well.

Wait. Will I not get averaging benefit with many funds?

No, you won’t. Rather, you would average something somewhere but is that a benefit or not is impossible to judge or back-test. So it is merely psychological.

Hang on, you said one aggressive hybrid fund is enough or one balanced advantage fund is enough. Now you are saying one multi-cap fund is enough? This is so annoying and confusing

The problem is to expect and look for the “best solution” to an answer. You can build a one-fund equity portfolio in many ways, a two-fund equity portfolio in many ways. Multiple solutions is how nature operates. Get with the programme!

I have had enough of you, just tell me the fund names

Likewise. Glad you said names because there are so many of them:

But how to choose one from this?

I thought you have had enough off me? You have the following option(yeah there is a choice everywhere)

However you pick, unless you know how to review and when to exit, there is no point. The essential point of this post is that is it is important to have a plan before buying mutual funds.

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About the Author M Pattabiraman author of freefincal.comM. Pattabiraman is the co-author of two books: You can be rich too with goal based investing and Gamechanger. “Pattu” as he is popularly known, publishes unbiased, promotion-free research, analysis and holistic money management advice. Freefincal serves more than one million readers a year with numbers based analysis on topical issues and has more than a 100 free calculators on different aspects of insurance and investment analysis, including a robo advisory template for use by beginners. Contact information: freefincal {at} Gmail {dot} com He conducts free money management sessions for corporates (see details below). Previous engagements include World Bank, RBI, BHEL, Asian Paints.

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2 Comments

  1. Finally one multicap specific article from professor.
    I prefer to have a separate midcap fund because when the sector is beaten down like it is now, you can invest a little more in the midcap fund. I am not sure if the multicap fund manager will invest more in midcaps during these times. He might take profits out when it is going down but will probably not invest more to show better performance at all points. An investment in midcap heavy portfolio of a multicap will not show good performance when they are down.
    So midcap fund is a massive component in any portfolio for 10 or more years.

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