Invest Smarter, Here's how to achieve Your Dreams 80% Faster - Let’s Get Started!Trusted by 3 Crore+ Indians
Dream Home
Dream Wedding
Dream Car
Retirement
1st Crore
credit-cards

Why Diversifying Mutual Funds Isn’t Always Effective

mutual-fund-image
Jun 17, 2024
8 Mins

Investing in multiple mutual fund schemes may not help you diversify adequately if they all have a sizable corpus parked in the same stocks. Here’s what to do.

We all know the investment dictum: ‘Don’t put all your eggs in one basket.’ It comes in quite handy while constructing a portfolio. Parking your money in multiple avenues not only provides a cushion if one of the avenues does not perform well but also reduces portfolio risk. For example, if you invest only in equities, a crash in the stock market can decimate your entire portfolio. However, your portfolio will probably not be so severely hit if you have allocations across debt and gold.

Another level of diversification is investing in multiple stocks or funds so that poor performance by one does not affect your portfolio too severely. But did you know that just investing in multiple funds may not mean that you are diversified? If there is a significant overlap in your funds’ holdings, diversification across schemes is of limited help. That’s why fund investors should actively avoid portfolio overlap. How to do so? Let’s see that in this blog.

What Is Portfolio Overlap in Mutual Funds?

Mutual funds invest in securities, such as stocks and bonds, on behalf of their clients. In the case of equity funds, which invest primarily in stocks, many of them may have invested their money in the same set of companies. As an investor, you might feel happy that you have diversified your portfolio across different equity funds, but in reality, your money might be getting invested in the same set of underlying stocks.

Let’s understand this with an example. The table below shows the mutual funds with a high overlap in their holdings. For example, Bandhan Large Cap Fund and Union Large Cap Fund have an allocation of 67% and 62%, respectively, towards the overlapping stocks.

So, if you invest Rs. 100 each in both funds, then Rs. 129 (Rs. 67 + Rs. 62) will get invested in the same set of stocks.

Overlap in funds across categories

Scheme 1

Scheme 2

Scheme 1: % of assets allocated to overlapping stocks

Scheme 2: % of assets allocated to overlapping stocks

3Y returns (% pa) – Scheme 1

3Y returns (% pa) – Scheme 2

Bandhan Large Cap Fund

Union Largecap Fund

67

62

20

21

Bandhan Flexi Cap Fund

Canara Robeco Flexicap Fund

68

56

23

20

PGIM India Flexi Cap Fund

Canara Robeco Flexicap Fund

66

55

23

20

Aditya Birla Sun Life Focused Equity Fund

LIC MF Focused 30 Equity Fund

54

52

21

22

From the same table, we can also see that the returns of both schemes are quite similar. So, if you invest in funds and they, in turn, have a considerable overlap in their holding, then you can expect similar results from those schemes. This means if they start to underperform, then your whole portfolio might take a nosedive. But why does this happen?

Why Does Portfolio Overlap Happen?

Portfolio overlap has two primary reasons

1. SEBI’s Category-Wise Mandate

Till 2018, there was no specific definition of where a fund of a specific category can invest. So you had funds that had large caps in their name but were putting a part of their AUM in small caps.

Then in 2018, SEBI stepped in and recategorised the investment universe from which different funds could pick stocks. It was done to ensure uniformity in funds of the same category and ensure no surprises for investors. For instance, large-cap funds must invest at least 80% of their corpus in the top 100 stocks by market size. So, when the universes were specified, the chances of funds picking the same stocks increased.

This increased the chances of a higher portfolio overlap. Another related aspect is that the tighter is the universe, the more significant the overlap would be. At 100 stocks, the universe for large-cap funds is really small.

But it’s comparatively bigger for mid-cap and small-cap funds. That’s because, as per SEBI’s mandate, mid-cap funds must invest at least 65% of their portfolio in the 150 stocks after the top 100 stocks by market size. So, their universe is 50% bigger than that of large-cap funds. And, of course, they can invest the remaining 35% of the portfolio the way they wish.

When it comes to small-cap funds, they must invest at least 65% of their portfolio in stocks beyond the top 250 stocks by market size. There are over 5,000 stocks listed on the stock exchanges, so their universe is virtually very large.

If we compare the portfolio overlap between the top two funds across these categories, we can assess the extent of overlap. The table below shows the degree of overlap fell from as high as 69% to 16% as we moved from large-cap funds to small-cap ones. So, the tighter the universe, the greater the chances of an overlap.

Overlap between top 2 funds across categories

Categories & funds

% of the portfolio allocated to overlapping stocks

Large-cap funds

ICICI Prudential Bluechip Fund

69

SBI Blue Chip Fund

65

Large & mid-cap funds

Canara Robeco Emerging Equities

57

Mirae Asset Emerging Bluechip Fund

44

Mid-cap funds

HDFC Mid Cap Opportunities Fund

37

Kotak Emerging Equity Fund

37

Small-cap funds

HDFC Small Cap Fund

44

Nippon India Small Cap Fund

16

Let’s now talk about the second reason for overlap: AMC-specific investment style.

2. AMC-Specific Investment Style

Portfolio overlaps can also happen if all your funds are from the same AMC. And it happens due to the AMCs’ investment styles. All AMCs have a philosophy and a method for picking investments. The fund managers have some biases reflected in their stock-picking approach. Hence, this can lead to common stocks or stocks from the same sectors getting shortlisted in funds even if they belong to different categories.

Let’s illustrate this with an example. If you are an investor in Axis Mutual Fund’s equity funds and have been concerned about the underperformance of several of them, portfolio overlap can help you understand it. Now, Axis follows a growth and quality style of investing. This philosophy underpins its funds, and as a result, many of its funds tend to have a high overlap.

Portfolio overlap in Axis funds in August 2020

Allocation to stocks present in (%)

  • Axis Long-Term Equity Fund

  • Axis Flexi Cap Fund

  • Axis Focused 25 Fund

  • Axis Growth Opp Fund

  • Axis Bluechip Fund

No. of overlapping stocks

All 5 schemes

51.87

41.68

53.78

24.77

47.16

11

At least 4 schemes

63.77

58.77

71.04

28.26

63.33

16

At least 3 schemes

83.64

89.09

87.82

39.65

93.96

29

As of August-end 2020, there were 11 overlapping stocks in 5 of Axis’ schemes. These stocks had assets ranging from 25% to 54%.

29 stocks were present in at least 3 schemes, with a whopping allocation of 40% to 94%.

Now thanks to this overlap, Axis’ schemes moved in tandem. In 2019-20, they all outperformed the respective benchmarks, and in the last two years, they all underperformed the benchmarks.

Performance of Axis funds in 2019-20, 2021-22 and 2022-23 ( 1 Year Return)

Fund & benchmark

Axis Long-Term Equity Fund

NIFTY 500

Axis Flexi Cap Fund

NIFTY 500

Axis Focused 25 Fund

NIFTY 500

Axis Growth Opp Fund

NIFTY LargeMidcap 250

Axis Bluechip Fund

S&P BSE 100

Sep-19 to Aug-20

9.37

8.45

8.95

8.45

10.53

8.45

19.96

11.77

9.32

6.96

Sep-21 to Aug-22

-6.26

6.71

-2.25

6.71

-6.86

6.71

3.20

8.55

-2.23

6.66

Sep-22 to Aug-23

3.64

12.55

6.81

12.55

-0.02

12.55

13.90

16.30

4.69

11.59

Data for direct plans

So, if you had invested in several of Axis’ funds, thinking that they had been doing well, your portfolio today will not be in great shape as all the funds are now underperforming at the same time.

This is the risk if you have high portfolio overlap. Now, it’s not that only the funds of Axis Mutual Fund exhibit overlap. It was also visible in India’s biggest fund house, SBI Mutual Fund.

Portfolio overlap in SBI funds

Allocation to stocks present in (%)

SBI Bluechip Fund

SBI Flexicap Fund

SBI Focused Equity Fund

SBI Large & Midcap Fund

SBI Long Term Equity Fund

No. of overlapping stocks

All 5 schemes

21.90

19.65

27.88

14.96

15.69

4

At least 4 schemes

50.22

50.40

48.24

37.13

30.67

18

At least 3 schemes

71.46

69.10

69.33

51.70

49.21

35

As of August-end 2023

There were 4 stocks that appeared in 5 of SBI’s funds: Bluechip, Flexicap, Focused, Large & Mid, and Long Term Equity, and these stocks had an allocation of 15% to 28% across funds.

As many as 35 stocks were common in at least 3 of these funds and had 49% to 71% of assets across funds. Such a pattern was seen even in ICICI Prudential’s funds.

Portfolio overlap in ICICI Prudential funds

Allocation to stocks present in (%)

ICICI Pru Bluechip Fund

ICICI Pru Flexicap Fund

ICICI Pru Focused Equity Fund

ICICI Pru Large & Mid Cap Fund

ICICI Pru LT Equity Fund

No. of overlapping stocks

All 5 schemes

54.68

60.32

60.39

38.26

53.79

14

At least 4 schemes

62.72

69.43

69.74

45.42

61.89

21

At least 3 schemes

72.15

73.01

83.87

58.40

71.94

33

As of August-end 2023

There were 14 stocks that appeared in five of ICICI’s funds: Bluechip, Flexicap, Focused Equity, Large & Mid Cap and Long Term Equity. These stocks had allocations ranging from 38% to 60%.

There were 33 stocks that occurred in at least 3 of these funds. These had allocations from 58% to 84%.

So, portfolio overlap is not restricted to a specific fund house. It’s quite pervasive, and if you have multiple funds from the same fund house in your portfolio, there will likely be an overlap. Now, the question is how you can avoid this problem of portfolio overlap while building a mutual fund portfolio.

How Can You Reduce Portfolio Overlap in Your Holdings?

Now, you can’t eliminate portfolio overlap, as there will always be stocks common across funds. If a company is good, it’s only natural that most funds would like to buy a piece of it, isn’t it?

Plus, there are other factors as well that result in an overlap. For instance, an attractive value stock will find a place in many value funds, and a fast-growing company will be lapped up by many growth-oriented funds. If many funds are bullish on a particular sector or a theme or a pocket, the best stocks of that sector will naturally occur in many funds.

So, if you can’t avoid the overlap, the next question is how much of it should be acceptable. Honestly speaking, there is no hard and fast rule around it. The lower the overlap, the better it is for diversification. Still, if you would like to put a number to it, try to bring it below 33%.

Now, to reduce the portfolio overlap, you can do 3 things

Invest in funds across categories in a structured way

Invest in funds across AMCs

Check portfolio overlap before investing and recheck it as part of the review process

Let’s see these points one by one to understand how they can help.

1. Invest in funds across categories in a structured way

If you invest in different fund categories but do so without a structure, you will still end up with a high overlap despite having funds from different categories. Let’s see this with an example. Suppose you invest in the largest large-cap, large & mid-cap and multi-cap funds. Now, technically, you have funds from 3 different categories, so the overlap should be less. But that’s not the case. The table below shows the overlap between the three funds is quite substantial.

Overlap across the largest large-, large & mid- and multi-cap funds

No. of overlapping stocks = 19

Funds

% of assets invested

ICICI Pru Bluechip Fund

61.82

Mirae Asset Emerging Bluechip

40.82

Nippon India Multi Cap Fund

34.88

As of August-end 2023.

Now, this happens because the investment universe of these three categories overlaps quite a bit, and so they end up investing in similar stocks. So you need to make sure the categories you are picking don’t have a big overlap in their mandate. For example, if you had picked the largest large-cap, mid-cap, and small-cap funds, the overlap would be minimal with just one overlapping stock.

Overlap across the largest large-, mid- and small-cap funds

No. of overlapping stocks = 1

Funds

% of assets invested

ICICI Pru Bluechip Fund

0.38

HDFC Mid-Cap Opportunities Fund

2.48

Nippon India Small Cap Fund

1.07

As of August-end 2023.

Let’s look at how investing across AMCs can reduce the overlap.

2. Invest across AMCs

Now, when you invest across AMCs, the investment philosophy and the stock-picking framework will change. This can also help reduce overlap.

For instance, let’s see the overlap in the top 3 flexi-cap funds. Now even though you invest in funds from the same category, these funds have only 6 overlapping stocks. The allocation to these overlapping stocks ranges from 22% to 31%. So, investing across AMCs can help limit portfolio overlap. Since the investment philosophy of fund houses is different, it is reflected in how they pick stocks and build portfolios.

Overlap across the largest 3 flexi-cap funds

No. of overlapping stocks = 6

Funds

% of assets invested

HDFC Flexi Cap Fund

30.89

Kotak Flexicap Fund

26.80

Parag Parikh Flexi Cap Fund

22.48

As of August-end 2023.

3. Review portfolio overlap periodically

Another way to reduce the portfolio overlap is to check portfolio overlap before investing and review it periodically. For instance, if you check the holdings of Axis Long Term Equity and Axis Bluechip Fund on the ET Money app, you can figure out how many stocks are the same. So, there is a high overlap; you can avoid adding that fund to your portfolio.

Lastly, keep in mind that portfolios are ever-evolving. So, even if your funds have a lower overlap currently, it doesn’t mean that they can’t have a greater overlap later.

For instance, consider SBI Bluechip and SBI Focused Equity Funds. The assets allocated to overlapping stocks have gone up in these funds over the last 3 years. SBI Bluechip had an allocation of 21% to overlapping stocks at August-end 2021. It now has a 36% allocation to such stocks. For SBI Focused Equity, the overlap has risen from 34% to 46%.

Changes in Portfolio Overlap

Funds

% of assets invested

2021

2022

2023

SBI Bluechip Fund

20.54

29.35

35.65

SBI Focused Equity Fund

33.66

46.75

46.11

As of August-end of each year

So, it’s essential that you keep an active eye on your funds’ holdings and review them from time to time. The Portfolio Health tool on the ET Money app can help you check redundancy in your portfolio, so use it regularly.

Conclusion

Portfolio overlap in mutual funds can limit the benefits of diversification. While it cannot be eliminated entirely, investors should actively try to reduce it. Investing across categories and fund houses can help achieve this aim.

If you are a mutual fund investor, then you can do a free Mutual fund portfolio health check up on ET Money. It will analyze your portfolio across as many as 12 parameters, from asset allocation to portfolio returns to management fees, and help you with the precise problems that are ailing your portfolio.

Available on both IOS and AndroidTry Pluto Money Today 👇
Author
Team Pluto
Have a question?
Digital GoldInvest in 24K Gold with Zero making ChargesLearn More
Digital SilverInvest in silver with Zero making ChargesLearn More
Pluto FixedEarn from 11% to 14% Returns annually in a fixed lock-in periodLearn More
Invest Smarter, Here's how to achieve Your Dreams 80% Faster - Let’s Get Started!Trusted by 3 Crore+ Indians
Dream Home
Dream Wedding
Dream Car
Retirement
1st Crore
credit-cards

Why Diversifying Mutual Funds Isn’t Always Effective

mutual-fund-image
Jun 17, 2024
8 Mins

Investing in multiple mutual fund schemes may not help you diversify adequately if they all have a sizable corpus parked in the same stocks. Here’s what to do.

We all know the investment dictum: ‘Don’t put all your eggs in one basket.’ It comes in quite handy while constructing a portfolio. Parking your money in multiple avenues not only provides a cushion if one of the avenues does not perform well but also reduces portfolio risk. For example, if you invest only in equities, a crash in the stock market can decimate your entire portfolio. However, your portfolio will probably not be so severely hit if you have allocations across debt and gold.

Another level of diversification is investing in multiple stocks or funds so that poor performance by one does not affect your portfolio too severely. But did you know that just investing in multiple funds may not mean that you are diversified? If there is a significant overlap in your funds’ holdings, diversification across schemes is of limited help. That’s why fund investors should actively avoid portfolio overlap. How to do so? Let’s see that in this blog.

What Is Portfolio Overlap in Mutual Funds?

Mutual funds invest in securities, such as stocks and bonds, on behalf of their clients. In the case of equity funds, which invest primarily in stocks, many of them may have invested their money in the same set of companies. As an investor, you might feel happy that you have diversified your portfolio across different equity funds, but in reality, your money might be getting invested in the same set of underlying stocks.

Let’s understand this with an example. The table below shows the mutual funds with a high overlap in their holdings. For example, Bandhan Large Cap Fund and Union Large Cap Fund have an allocation of 67% and 62%, respectively, towards the overlapping stocks.

So, if you invest Rs. 100 each in both funds, then Rs. 129 (Rs. 67 + Rs. 62) will get invested in the same set of stocks.

Overlap in funds across categories

Scheme 1

Scheme 2

Scheme 1: % of assets allocated to overlapping stocks

Scheme 2: % of assets allocated to overlapping stocks

3Y returns (% pa) – Scheme 1

3Y returns (% pa) – Scheme 2

Bandhan Large Cap Fund

Union Largecap Fund

67

62

20

21

Bandhan Flexi Cap Fund

Canara Robeco Flexicap Fund

68

56

23

20

PGIM India Flexi Cap Fund

Canara Robeco Flexicap Fund

66

55

23

20

Aditya Birla Sun Life Focused Equity Fund

LIC MF Focused 30 Equity Fund

54

52

21

22

From the same table, we can also see that the returns of both schemes are quite similar. So, if you invest in funds and they, in turn, have a considerable overlap in their holding, then you can expect similar results from those schemes. This means if they start to underperform, then your whole portfolio might take a nosedive. But why does this happen?

Why Does Portfolio Overlap Happen?

Portfolio overlap has two primary reasons

1. SEBI’s Category-Wise Mandate

Till 2018, there was no specific definition of where a fund of a specific category can invest. So you had funds that had large caps in their name but were putting a part of their AUM in small caps.

Then in 2018, SEBI stepped in and recategorised the investment universe from which different funds could pick stocks. It was done to ensure uniformity in funds of the same category and ensure no surprises for investors. For instance, large-cap funds must invest at least 80% of their corpus in the top 100 stocks by market size. So, when the universes were specified, the chances of funds picking the same stocks increased.

This increased the chances of a higher portfolio overlap. Another related aspect is that the tighter is the universe, the more significant the overlap would be. At 100 stocks, the universe for large-cap funds is really small.

But it’s comparatively bigger for mid-cap and small-cap funds. That’s because, as per SEBI’s mandate, mid-cap funds must invest at least 65% of their portfolio in the 150 stocks after the top 100 stocks by market size. So, their universe is 50% bigger than that of large-cap funds. And, of course, they can invest the remaining 35% of the portfolio the way they wish.

When it comes to small-cap funds, they must invest at least 65% of their portfolio in stocks beyond the top 250 stocks by market size. There are over 5,000 stocks listed on the stock exchanges, so their universe is virtually very large.

If we compare the portfolio overlap between the top two funds across these categories, we can assess the extent of overlap. The table below shows the degree of overlap fell from as high as 69% to 16% as we moved from large-cap funds to small-cap ones. So, the tighter the universe, the greater the chances of an overlap.

Overlap between top 2 funds across categories

Categories & funds

% of the portfolio allocated to overlapping stocks

Large-cap funds

ICICI Prudential Bluechip Fund

69

SBI Blue Chip Fund

65

Large & mid-cap funds

Canara Robeco Emerging Equities

57

Mirae Asset Emerging Bluechip Fund

44

Mid-cap funds

HDFC Mid Cap Opportunities Fund

37

Kotak Emerging Equity Fund

37

Small-cap funds

HDFC Small Cap Fund

44

Nippon India Small Cap Fund

16

Let’s now talk about the second reason for overlap: AMC-specific investment style.

2. AMC-Specific Investment Style

Portfolio overlaps can also happen if all your funds are from the same AMC. And it happens due to the AMCs’ investment styles. All AMCs have a philosophy and a method for picking investments. The fund managers have some biases reflected in their stock-picking approach. Hence, this can lead to common stocks or stocks from the same sectors getting shortlisted in funds even if they belong to different categories.

Let’s illustrate this with an example. If you are an investor in Axis Mutual Fund’s equity funds and have been concerned about the underperformance of several of them, portfolio overlap can help you understand it. Now, Axis follows a growth and quality style of investing. This philosophy underpins its funds, and as a result, many of its funds tend to have a high overlap.

Portfolio overlap in Axis funds in August 2020

Allocation to stocks present in (%)

  • Axis Long-Term Equity Fund

  • Axis Flexi Cap Fund

  • Axis Focused 25 Fund

  • Axis Growth Opp Fund

  • Axis Bluechip Fund

No. of overlapping stocks

All 5 schemes

51.87

41.68

53.78

24.77

47.16

11

At least 4 schemes

63.77

58.77

71.04

28.26

63.33

16

At least 3 schemes

83.64

89.09

87.82

39.65

93.96

29

As of August-end 2020, there were 11 overlapping stocks in 5 of Axis’ schemes. These stocks had assets ranging from 25% to 54%.

29 stocks were present in at least 3 schemes, with a whopping allocation of 40% to 94%.

Now thanks to this overlap, Axis’ schemes moved in tandem. In 2019-20, they all outperformed the respective benchmarks, and in the last two years, they all underperformed the benchmarks.

Performance of Axis funds in 2019-20, 2021-22 and 2022-23 ( 1 Year Return)

Fund & benchmark

Axis Long-Term Equity Fund

NIFTY 500

Axis Flexi Cap Fund

NIFTY 500

Axis Focused 25 Fund

NIFTY 500

Axis Growth Opp Fund

NIFTY LargeMidcap 250

Axis Bluechip Fund

S&P BSE 100

Sep-19 to Aug-20

9.37

8.45

8.95

8.45

10.53

8.45

19.96

11.77

9.32

6.96

Sep-21 to Aug-22

-6.26

6.71

-2.25

6.71

-6.86

6.71

3.20

8.55

-2.23

6.66

Sep-22 to Aug-23

3.64

12.55

6.81

12.55

-0.02

12.55

13.90

16.30

4.69

11.59

Data for direct plans

So, if you had invested in several of Axis’ funds, thinking that they had been doing well, your portfolio today will not be in great shape as all the funds are now underperforming at the same time.

This is the risk if you have high portfolio overlap. Now, it’s not that only the funds of Axis Mutual Fund exhibit overlap. It was also visible in India’s biggest fund house, SBI Mutual Fund.

Portfolio overlap in SBI funds

Allocation to stocks present in (%)

SBI Bluechip Fund

SBI Flexicap Fund

SBI Focused Equity Fund

SBI Large & Midcap Fund

SBI Long Term Equity Fund

No. of overlapping stocks

All 5 schemes

21.90

19.65

27.88

14.96

15.69

4

At least 4 schemes

50.22

50.40

48.24

37.13

30.67

18

At least 3 schemes

71.46

69.10

69.33

51.70

49.21

35

As of August-end 2023

There were 4 stocks that appeared in 5 of SBI’s funds: Bluechip, Flexicap, Focused, Large & Mid, and Long Term Equity, and these stocks had an allocation of 15% to 28% across funds.

As many as 35 stocks were common in at least 3 of these funds and had 49% to 71% of assets across funds. Such a pattern was seen even in ICICI Prudential’s funds.

Portfolio overlap in ICICI Prudential funds

Allocation to stocks present in (%)

ICICI Pru Bluechip Fund

ICICI Pru Flexicap Fund

ICICI Pru Focused Equity Fund

ICICI Pru Large & Mid Cap Fund

ICICI Pru LT Equity Fund

No. of overlapping stocks

All 5 schemes

54.68

60.32

60.39

38.26

53.79

14

At least 4 schemes

62.72

69.43

69.74

45.42

61.89

21

At least 3 schemes

72.15

73.01

83.87

58.40

71.94

33

As of August-end 2023

There were 14 stocks that appeared in five of ICICI’s funds: Bluechip, Flexicap, Focused Equity, Large & Mid Cap and Long Term Equity. These stocks had allocations ranging from 38% to 60%.

There were 33 stocks that occurred in at least 3 of these funds. These had allocations from 58% to 84%.

So, portfolio overlap is not restricted to a specific fund house. It’s quite pervasive, and if you have multiple funds from the same fund house in your portfolio, there will likely be an overlap. Now, the question is how you can avoid this problem of portfolio overlap while building a mutual fund portfolio.

How Can You Reduce Portfolio Overlap in Your Holdings?

Now, you can’t eliminate portfolio overlap, as there will always be stocks common across funds. If a company is good, it’s only natural that most funds would like to buy a piece of it, isn’t it?

Plus, there are other factors as well that result in an overlap. For instance, an attractive value stock will find a place in many value funds, and a fast-growing company will be lapped up by many growth-oriented funds. If many funds are bullish on a particular sector or a theme or a pocket, the best stocks of that sector will naturally occur in many funds.

So, if you can’t avoid the overlap, the next question is how much of it should be acceptable. Honestly speaking, there is no hard and fast rule around it. The lower the overlap, the better it is for diversification. Still, if you would like to put a number to it, try to bring it below 33%.

Now, to reduce the portfolio overlap, you can do 3 things

Invest in funds across categories in a structured way

Invest in funds across AMCs

Check portfolio overlap before investing and recheck it as part of the review process

Let’s see these points one by one to understand how they can help.

1. Invest in funds across categories in a structured way

If you invest in different fund categories but do so without a structure, you will still end up with a high overlap despite having funds from different categories. Let’s see this with an example. Suppose you invest in the largest large-cap, large & mid-cap and multi-cap funds. Now, technically, you have funds from 3 different categories, so the overlap should be less. But that’s not the case. The table below shows the overlap between the three funds is quite substantial.

Overlap across the largest large-, large & mid- and multi-cap funds

No. of overlapping stocks = 19

Funds

% of assets invested

ICICI Pru Bluechip Fund

61.82

Mirae Asset Emerging Bluechip

40.82

Nippon India Multi Cap Fund

34.88

As of August-end 2023.

Now, this happens because the investment universe of these three categories overlaps quite a bit, and so they end up investing in similar stocks. So you need to make sure the categories you are picking don’t have a big overlap in their mandate. For example, if you had picked the largest large-cap, mid-cap, and small-cap funds, the overlap would be minimal with just one overlapping stock.

Overlap across the largest large-, mid- and small-cap funds

No. of overlapping stocks = 1

Funds

% of assets invested

ICICI Pru Bluechip Fund

0.38

HDFC Mid-Cap Opportunities Fund

2.48

Nippon India Small Cap Fund

1.07

As of August-end 2023.

Let’s look at how investing across AMCs can reduce the overlap.

2. Invest across AMCs

Now, when you invest across AMCs, the investment philosophy and the stock-picking framework will change. This can also help reduce overlap.

For instance, let’s see the overlap in the top 3 flexi-cap funds. Now even though you invest in funds from the same category, these funds have only 6 overlapping stocks. The allocation to these overlapping stocks ranges from 22% to 31%. So, investing across AMCs can help limit portfolio overlap. Since the investment philosophy of fund houses is different, it is reflected in how they pick stocks and build portfolios.

Overlap across the largest 3 flexi-cap funds

No. of overlapping stocks = 6

Funds

% of assets invested

HDFC Flexi Cap Fund

30.89

Kotak Flexicap Fund

26.80

Parag Parikh Flexi Cap Fund

22.48

As of August-end 2023.

3. Review portfolio overlap periodically

Another way to reduce the portfolio overlap is to check portfolio overlap before investing and review it periodically. For instance, if you check the holdings of Axis Long Term Equity and Axis Bluechip Fund on the ET Money app, you can figure out how many stocks are the same. So, there is a high overlap; you can avoid adding that fund to your portfolio.

Lastly, keep in mind that portfolios are ever-evolving. So, even if your funds have a lower overlap currently, it doesn’t mean that they can’t have a greater overlap later.

For instance, consider SBI Bluechip and SBI Focused Equity Funds. The assets allocated to overlapping stocks have gone up in these funds over the last 3 years. SBI Bluechip had an allocation of 21% to overlapping stocks at August-end 2021. It now has a 36% allocation to such stocks. For SBI Focused Equity, the overlap has risen from 34% to 46%.

Changes in Portfolio Overlap

Funds

% of assets invested

2021

2022

2023

SBI Bluechip Fund

20.54

29.35

35.65

SBI Focused Equity Fund

33.66

46.75

46.11

As of August-end of each year

So, it’s essential that you keep an active eye on your funds’ holdings and review them from time to time. The Portfolio Health tool on the ET Money app can help you check redundancy in your portfolio, so use it regularly.

Conclusion

Portfolio overlap in mutual funds can limit the benefits of diversification. While it cannot be eliminated entirely, investors should actively try to reduce it. Investing across categories and fund houses can help achieve this aim.

If you are a mutual fund investor, then you can do a free Mutual fund portfolio health check up on ET Money. It will analyze your portfolio across as many as 12 parameters, from asset allocation to portfolio returns to management fees, and help you with the precise problems that are ailing your portfolio.

Available on both IOS and AndroidTry Pluto Money Today 👇
Author
Team Pluto
Have a question?
Digital GoldInvest in 24K Gold with Zero making ChargesLearn More
Digital SilverInvest in silver with Zero making ChargesLearn More
Pluto FixedEarn from 11% to 14% Returns annually in a fixed lock-in periodLearn More