Equity funds: Multi- vs flexi-cap – Where to invest?

See the difference between the two in conjunction with what is the mid-cap and small-cap exposure, and how they have performed in uncertain market situations.

With increasing volatility in the markets, individuals are preferring to invest in multi-cap funds to diversify their portfolio. These funds invest a minimum 25% each in large-cap, mid-cap and small-cap stocks after the new asset classification norms introduced by the markets regulator in September 2020. Before that, most multi-cap funds invested a higher proportion in large-cap funds.

In order to make the transition smooth for multi-cap investors, Securities and Exchange Board of India (Sebi) introduced a new category called ‘flexi-cap’, where fund managers have to invest at least 65% of the corpus in equity without any restrictions on investing in large-, mid- or small-cap companies. Experts say investors are looking at investing in multi-cap funds because of higher returns than flexi-cap funds.

Volatility is here to stay

Experts say as the market volatility is here to stay for some time given the current macroeconomic and geopolitical factors, diversification is the key to managing market volatility. Moreover, diversification across asset classes helps in providing stability, and diversification within an asset class can also help in improving the risk return profile of a portfolio. However, they suggest that investors must look at their portfolios carefully before taking a call on investing in multi-cap or flexi-cap funds.

D P Singh, deputy managing director and chief business officer, SBI Mutual Fund, says multi-cap funds are inherently diversified as they invest minimum 25% in each of the three market caps, irrespective of the market cycle. “Whichever direction the market moves, investing across market cap would mean under-performance of one market cap is offset by relatively better performance of the others. Thus, these funds can be a good investment avenue for investors looking to diversify within equities,” he says.

Competing with each other

Multi-cap and flexi-cap funds are competing with each other at some level. In a flexi-cap, the fund manager selects the exposure in each capitalisation, whereas in multi-cap there is a minimum requirement. Thus, if an investor wants to give the fund manager a free hand, he can go for a flexi-cap fund.

Santosh Joseph, founder and managing partner, Germinate Investor Services, says from an investor perspective, they usually choose something on the basis of the prevailing scenario. “Whether it is mid/small or large caps, we always want to buy the stable/performing ones. Whereas, when you give the fund manager the ability to buy in a minimum guarantee of 25% each, then you tend to buy tremendous value in uncertain markets like the one we are in currently,” he says. According to him, conservative investors looking to have good exposure to mid/large, small caps and leaning towards large can go for a good multi-cap fund as the present data suggests that most of the flexi-caps are 70-75% large cap funds.

However, Arun Kumar, head of research at FundsIndia, prefers the flexi-cap segment over the multi cap segment as the fund manager has the flexibility to adjust the allocation across large, mid and small cap segments based on their evaluation of market conditions, risks and opportunities.

What to consider before investing

In case of diversified equity funds (which includes multi-cap funds), investors should evaluate the consistency in the underlying investment strategy and performance across long periods of time. Before investing in any fund, investors must consider their risk profile and investment horizon. Singh says the percentage allocation to any fund should be based on individual risk appetite and they should assess how investing in a multi-cap fund will alter the overall risk of their portfolio. “Further, being an equity scheme, this fund carries high risk and investments in these funds should be made only from a long-term perspective,” he says.

Investors must look at the exposure of the fund, stance of the portfolio and the size and track record of the fund. Joseph says though flexi-cap and multi-cap are well- demarcated categories, investors have to see the difference between them in conjunction with what is the mid-cap and small-cap exposure, and how they have performed in these markets. “It gives you a heads up of what to expect and what is the outcome to anticipate,” he says.

DIFFERENT STROKES

* Multi-cap funds invest a minimum 25% each in large-cap, mid-cap and small-cap stocks

* In a flexi-cap, the fund manager can choose the exposure in each capitalisation

* Investors are looking at multi-cap funds due to higher returns compared to flexi-cap

* Current data suggests that most of the flexi-caps are 70-75% large cap funds