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Chapter 3.17: What is a large-cap mutual fund?

Summary:

  • Large-cap mutual funds are those which invest 80% of their corpus into 100 of the top companies in terms of market capitalisation.
  • They have proved to be one of the best wealth creators in the long term.
  • They are relatively stable and ideal for investors with lower risk appetites.

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What is a large-cap mutual fund?

A large-cap mutual fund is a category of funds that invests majorly in companies with large market capitalisation.

If you are thinking about investing in mutual funds for the first time, large-cap funds can be a very good option. These funds have proved to be excellent wealth creators in the long term. The ‘cap’ in large-cap funds refers to market capitalisation. Large-cap funds have been both steady and sustainable in terms of generating returns and have endeared themselves to investors.

How to calculate market capitalisation

Market capitalisation is calculated by multiplying the number of shares issued by the company with the market price per share.

Let us understand large-cap mutual funds better.

What large-cap mutual funds do

Large-cap mutual funds invest 80% of their corpus in 100 of the biggest companies listed in the stock markets in terms of market capitalisation. There is no standard definition of what market capitalisation a large cap scrip should have. But it is usually perceived to be beyond Rs 10,000 crore. The top 50 of the NSE-listed stocks are of that size. Large-cap funds are allowed to invest the rest in mid- and small-caps to get an additional kicker in returns. These funds typically invest in companies like L&T, ACC, TCS, Reliance Industries, and so on.

Large-cap mutual funds are equity funds. Every mutual fund has a certain predetermined investment objective that is drawn up based on the fund's assets, regions of investment, and investment strategies.

These are mutual funds that invest only in stocks. As a result, they are usually considered high-risk, high-return funds. Most growth funds—those that promise high returns over the long term—are equity funds. (Read more: What is an equity fund?)

Size matters

Mutual funds pay attention to how big a company is. In this case, size does matter and it has an impact on the investment made. Large-cap fund investments carry certain advantages and disadvantages that are unique to them.

There are a number of reasons why large-cap companies are picked up by mutual funds. Some of these are listed below:

  • Large-cap companies are believed to be more trustworthy, enjoy a strong reputation, and are financially strong.

  • They have been operating in the market for some time. So, they have a track record.

  • Because of their size and organisational complexity, these companies follow strong corporate governance practices. Investors who put their money in such companies see a slow and gradual rise in their wealth over the long term.

  • There are plenty of research studies on these corporate organisations in the market.

Advantages of a large-cap mutual fund

  • Large-cap mutual funds have given better returns to investors in the short term.

  • They help in steady wealth creation and they pay out dividends regularly.

  • Large-cap fund investments offer steady and low-risk returns.

  • Investors with low risk tolerance can benefit from investing in large-cap funds.

  • They are capable of withstanding a bear market.

(Read more: What is a mutual fund?)

How large-cap funds differ from small-cap or mid-cap funds

Mid-cap funds primarily invest in securities of companies that are medium-sized. They have been mandated by the market regulator, Securities and Exchange Board of India (SEBI), to invest at least 65% of their corpus in the securities of companies ranked between 101 and 251 in terms of market capitalisation. Such companies take off during a bull phase in the market. This is because they look for expansion whenever the opportunity presents itself. Investing in these stocks can increase the chances of better returns but they may disappoint during a bear phase of the market. Mid-cap funds offer higher growth potential than large-cap funds but are also considered riskier.

Small-cap funds, on the other hand, invest in securities of companies which are small in terms of market capitalisation. They offer the highest potential for growth. That is because they typically invest in small companies that are aiming for quick expansion and growth. This is also why, in the event of an economic recession, these small-cap securities are subject to more volatility than large- and mid-cap stocks. During a bull phase of the markets, you can expect the small-cap stocks to fare better than large-cap or mid-cap funds. Studies reveal that small-cap stocks have historically outperformed large-cap stocks. However, a lot depends on the broader economic climate which determines how a particular stock will fare, be it large-, mid-, or small-cap. Investors who have a much bigger risk appetite can invest in small-cap funds.

(Read more: How mutual funds work?)

Bottom-line

Large-cap funds are ideal for people who are investing in mutual funds for the first time. Since 80% of the corpus of these funds is invested in large-sized companies, the investors are relatively safe. Large-cap companies are presumed to be financially solid. However, the performance of a large-cap fund is heavily dependent on how fund managers build their portfolio with the remaining 20% of the corpus. If that is handled well, large-cap funds can be a winner for you. (Read more: How to choose a mutual fund scheme?)

WHAT NEXT?

We are almost at the end. Before you start investing in mutual funds, there are a few more important points to keep in mind like taxation. This can affect your total financial returns. To know about these factors, Click here

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