What is an Equity Mutual Fund? Its Meaning, Types and Benefits

So you’ve finally decided to start your mutual fund investment journey. As you explore your options, you will find that the MF market has something to offer to every investor – risk-loving, risk-averse, short-term, long-term, and more. But, if you’re wondering if equity funds are the ideal pick for your investment portfolio, this guide will help you decide.

What are equity mutual funds?

These funds invest a predominant share of their assets, as much as 60%, in stocks of companies. As a result, the company's performance in which the funds are invested plays a key role in determining returns. They are often broadly described as 'risky', but that's just half the truth. With equity funds, it is the investment horizon that you need to pay attention to. If you stay invested for the long term, you can build a healthy corpus.

How Does an Equity Mutual Fund Work?

An equity mutual fund pools money from multiple investors to invest in stocks of various companies. At least 60% of the fund’s assets are invested in equities, while the remaining portion can be allocated to money market instruments or debt securities. 

The fund is managed by professional fund managers who aim to maximise returns through strategic stock selection and portfolio management. The performance of the fund is influenced by both the underlying stocks' performance and the decisions made by the fund managers.

Investors can choose between growth-oriented and value-oriented equity funds based on their risk appetite and financial goals.

Who Should Invest in Equity Mutual Funds?

Equity mutual funds are suitable for investors aiming for long-term growth and can withstand market volatility. They are well-suited for those with financial goals spanning at least five years, such as retirement or a child’s education.

These funds accommodate small investors with modest starting amounts and provide the benefit of professional management, eliminating the need for constant market tracking. Equity mutual funds are also advantageous for those looking for tax-saving opportunities and wealth growth over time.

Features of an Equity Mutual Fund

• Risk factor

The risk factor ranges from high to moderate, but it all boils down to risk diversification and portfolio rebalancing. Ensure that you spread the risk over a mix of equity, debt, and alternative market instruments. Also, sell and buy units from time to time to always maintain desirable asset allocation levels, and you have nothing to fear.

• Ticket size

Building a balanced portfolio can prove to be pricey. If you cannot afford to pay a lump sum, simply opt for the monthly Systematic Investments Plans or SIP. You can start your investment journey with just Rs. 500 per month.

• Investment horizon

The equity market is highly volatile in the short run. However, the probability of being affected by market turbulence significantly reduces in the long run. These funds are ideal for investment goals like retirement planning, building an education corpus, etc.

Additional Read: Mutual Fund Trends to keep an eye on in 2021

Types of equity funds

Based on market capitalisation

• Large cap funds – invest in stocks of top 100 companies. Since the companies hold significant market share and enjoy a good reputation, these funds are the least risky.
• Mid cap funds – invest in companies ranking between 101 and 250. Though riskier than large cap funds, mid cap funds offer higher earning potential.
• Small cap funds – invest in start-ups or small companies that rank from 251 or above. The earning potential is extremely high, and so is the risk factor.

Based on investment style

• Thematic or sectoral funds – invest at least 80% of their assets in a particular theme or sector, as per the SEBI mandate. These equity mutual funds are usually added to the portfolio to augment returns.
• Dividend yield funds – invest predominantly in high yielding dividend stocks. Meaning, stocks of companies with stable cash flows and business models. Hence, they are a low-risk option.

Based on tax efficiency

ELSS, short for Equity Linked Savings Scheme, are the only tax-saving funds, and they are equity-oriented. Income Tax Act's Section 80C allows tax exemptions of up to Rs. 1.5 lakhs of your yearly taxable income. You can save up to Rs. 46,800 with these funds.

Additional Read: Direct Equity vs. Equity Mutual Funds: Which should be preferred?

Taxation of Equity Mutual Funds

According to the Budget 2024, the short-term capital gains tax on equity mutual funds has been increased from 15% to 20% if the investment is held for less than a year. The long-term capital gains tax has also been increased from 10% to 12.5% if held for over a year. It's important to note that the tax-free limit for LTCG has been increased from Rs. 1 lakh to Rs. 1.25 lakh.

Over to you

Want to know about the best equity mutual funds available today? Compare funds on Tata Capital’s Moneyfy app. See our top picks, match the fund features with your investment goals, and build a balanced portfolio. Start investing in the equity market from the comfort of your home!

Frequently asked questions

Which investment gives the highest return in the short term?

The highest short-term returns depend on your risk tolerance and market conditions. Investments with higher potential returns often involve greater risk, so it’s important to balance potential gains with your comfort level and financial objectives.

Which fund is best for the short term?

Liquid funds are ideal for very short-term investments, covering periods from 15 days to 2 months. Ultra-short-term funds are more appropriate for slightly longer durations, typically 3 to 6 months. Both types offer relatively low risk and liquidity for short-term needs.

What is the safest investment?

The safest investments generally include government securities, high-quality corporate bonds, and money market funds. These options provide stable returns and minimal risk, making them suitable for risk-averse investors aiming to protect their capital while earning a modest return.