New Categorization of Mutual Funds

What is the new categorization of mutual funds in India?

The market regulator SEBI has come up with a new categorization of mutual funds. The new categorization of mutual funds system aims to bring uniformity among the schemes launched by different mutual fund houses, thus enhancing scheme comparison across mutual fund houses. Based on the new categorization of mutual funds, they will be forced to merge or change the fundamental characteristics of a particular scheme. This move might have both short and long-term impacts on your investment portfolio depending on the schemes you have currently invested.

So what are the new categorization of mutual funds in India?

Mutual funds are formally categorized by the asset class of investments they own. Mutual Funds are also classified based on their structure like open-ended and closed-ended. Open-ended funds buy and sell units on a continuously and, thus, allow investors to enter and exit as per their convenience. As per the new classification, all open-ended mutual fund schemes will be placed under the following categories:

1. Equity
2. Debt
3. Hybrid
4. Solution-oriented
5. Others (index funds/ETFs/fund of funds)

Only one scheme per category would be permitted per fund house except for index funds/ETFs, fund of funds and sectoral/thematic funds.

However, each of these categories will have subcategories:
1. Equity will have 10 sub-classifications: These include Multi-Cap Fund, Large Cap Fund, Large & Mid Cap Fund, Mid Cap Fund, Small Cap Fund, Dividend Yield Fund, Value Fund, Focused Fund, Sectoral/Thematic and ELSS Funds.

2. Debt will have 16 sub-classifications: These include Overnight Fund, Liquid Fund, Ultrashort duration Fund, Low Duration Fund, Money Market Fund, Short Duration Fund, Medium Duration Fund, and Medium to Long Duration Fund, Long Duration Fund, Dynamic Fund, Corporate Bond Fund, Credit Risk Fund, Banking and PSU Fund, Gilt Fund, Gilt Fund with 10 year constant duration and Floater Fund.

3. Hybrid will have 6 sub-classifications: These include Conservative Hybrid Fund, Balanced Hybrid Fund, Dynamic Asset Allocation, Multi-Asset Allocation, Arbitrage Fund, and Equity Savings.

4. Solution Oriented will have 2 sub-classifications: These include the Retirement Fund and Children’s Fund.

5. The other will have 2 sub-classifications: These include Index Funds/ETF’s and FoFs (Overseas/ Domestic).

Overall it is a grand total of 36 classifications an investor can choose from.

What is the definition of Large Cap, Mid Cap, and Small Cap?

  • Large Cap: 1st- the 100th company in terms of full market capitalization.
  • Mid Cap: 101st – the 250th company in terms of full market capitalization
  • Small Cap: 251st company onwards in terms of full market capitalization

How to choose a mutual fund?

  • The investment is for short-term, then go for debt funds.
  • The investment is midterm, then go for hybrid funds.
  • The investment is for long-term, then go for equity funds.

Or you can choose FinVizer’s financial planner/advisor who will guide you through all the risk, terms and conditions falls under the mutual funds investment.

How does the new categorization of mutual funds impact me?

As such, these new classifications will have varying impact on existing funds and consecutively on investor’s portfolio. Such impacts could include:

a) Schemes will be forced to stick to their mandate: Funds often change their investing style based on market conditions. For example, a large-cap fund may have sizeable mid-cap exposure because it’s chasing higher alpha. But now, any drastic change will force the scheme to change its characteristics resulting in the same being communicated to the investors. So now the investor will not have to worry about the fund becoming something it originally was not set out to do.

b) Stock List: While preparing the single consolidated list of stocks, average full market capitalization of the previous six months of the stocks will be considered.

c) Like for Like Comparison: As AMCs will have one scheme per category, it will be easier for the investor to compare the options available. All schemes of different AMCs of a category will have similar styles and characteristics, which will result in a “apples to apples” comparison.

d) The better choice by fewer options: With AMCs forced to ensure one scheme per category and fund labeling to be made in line with investment strategy, options will become lesser which should result in investors being more aware of their choice.

e) Need for review in the short term: With the latest mandates, one can expect a short period of fund houses realigning their products. As such, many schemes may end up being quite different than what they originally were. Therefore, investors may need to keep a thorough eye on their funds to watch out for any changes that may occur and act accordingly.

f) The possibility of the reduction in performance: Like mentioned above, funds often change their investing styles to generate significant alpha. But after these regulations, alpha creation may be more difficult as the universe of stocks will be the same for all schemes in a category. Furthermore, as per the latest mandate, if a fund wants to be categorized say as a large cap, it will have to invest only stocks defined as the large-cap as per regulations. So in the short term, it may have to sell or buy some stocks which could have an impact on cost that would be borne by the investor. Also, as regulations would demand funds to rebalance their stocks as per the semi-annual publications of AMFI which enlist large, mid and small cap stocks, it may result in forced selling to accommodate any change in the status of a stock, resulting in a possible negative impact on the performance of the fund.

What practices are available during the purchase of a mutual fund plan?

“90% of the people buy the mutual fund which involves a brokerage fee to the mutual fund agent. Only 10% of people are smart enough to buy the mutual fund without brokerage”

Now the question is how do we know if the mutual fund has brokerage or not?

Mutual fund falls under 2 categories: Direct vs Regular

Direct Mutual fund: These are the mutual funds which do not involve any brokerage. They can be bought directly from “specific” mutual fund office. For example, if you want to buy Axis mutual fund products, you need to login to axis/mf website and register. If you want to buy HDFC bank mutual fund, you need to register to hdfcfund.

Regular Mutual Fund: These are the mutual fund which is managed by the distributor/broker. They charge a brokerage on buying mutual fund on behalf of you. They don’t tell you the commission they will get. But remember, there is nothing called free lunches.

Now the question is: How big is the difference between “Direct vs Regular” mutual fund?

Let’s do some real-world calculations:

Let’s compare DSP Top 100 Equity Fund-Direct Plan (G) vs DSP Top 100 Equity Fund-Regular Plan (G):

Source: moneycontrol

Can you observe something?

Returns from regular plans are lower with an absolute difference of 7.1% in just 5 years.

Let’s look at the asset value:

DSP Top 100 Equity Fund-Direct Plan (G):-

DSP Top 100 Equity Fund-Regular Plan (G):-

Can you observe something?

Asset size of a regular plan is almost 4 times of direct plan. It means 80% of the money is being pumped in a regular plan where distributors are getting the brokerage.


Overall, while there may be short-term practical hurdles for both investors and fund houses alike while adjusting to the new mandates, the general consensus has been that this move is a positive step taken by the regulators in the right direction as it will bring reliability and simplicity to investors. For any investor, it would be prudent now to get professional advice on how such changes may impact their own portfolios.

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