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Why Equity Diversified and Index Funds together work for you

In the last couple of years, Index Funds have gained a lot of popularity and the asset under management (AuM) of Index Funds surged from Rs.5,719 Cr as of 30 June 2019 to Rs. 24,946 as of 30 June 2021, up by 336% in two years. Index Funds offers investment based on market capitalization where these funds mimic the indices created by NSE or BSE based on market cap and do not have any active role of the fund manager. Hence, the portfolio of the Index fund will have the same weightage of companies as its benchmark index.

Following are the major differences between actively managed Equity Diversified Funds and Index Funds

  Equity Diversified Fund Index Fund
Fund Management & Research Active role No role
Portfolio Construction Based on Market capitalization, Market Conditions, Economy Outlook, Interest Rate scenario, etc. Only market capitalization matters
Universe of companies to invest Technically, all listed companies Top 50 or Next 50 depending on Index
Portfolio churn (Buying and Selling) High Low
Expense Ratio High Low

Why equity diversified and index funds together work for you

A closer look at the performance of Index Funds along with present top-performing funds and past top performers does create a strong reason why both diversified and index fund together can work for you better than just one of them.

  Index Funds Top Funds Few Years Ago Top Funds at present
UTI Nifty Index HDFC Nifty Index ICICI Prudential Bluechip HDFC Top 100 ABSL Frontline Equity Axis Bluechip UTI Flexicap Canara Robeco Emerging Equities
Lumpsum 10 Year 11.75% 11.69% 13.53% 11.57% 13.42% 14.53% 15.65% 20.23%
5 Year 14.24% 14.03% 13.55% 12.27% 12.28% 16.20% 17.29% 18.27%
3 Year 14.31% 14.03% 14.29% 13.26% 13.31% 14.82% 18.82% 17.85%
1 Year 49.67% 49.38% 49.94% 53.18% 52.52% 43.68% 67.19% 64.31%
 
SIP 10 Year 14.05% 13.95% 14.78% 13.24% 14.50% 16.25% 17.96% 21.96%
5 Year 17.11% 16.88% 16.04% 14.08% 15.18% 18.74% 22.59% 20.37%
3 Year 23.01% 22.71% 22.71% 20.23% 22.86% 22.95% 32.33% 30.48%
1 Year 41.45% 41.18% 43.95% 46.66% 46.24% 37.68% 57.67% 59.60%
Return shown are as on 16 July 2021

Irrespective of the timeline or mode of investment i.e. SIP or Lumpsum the consistency of index funds to deliver returns is constant. On one hand, index funds have outperformed the top funds of a few years ago. At the same time, present top-performing diversified funds show the opportunities to target some additional return as they can invest in companies that are not in Index or different weightage compared to the index.

When you invest in both these funds together, it allows you to invest in large and well-established companies along with companies that have the potential to grow in future as well. The diversified funds can invest in companies that have the potential to grow at a faster rate compared to those with just higher market capitalization. There are many companies where the scope of improving efficiency and performing well across different sectors continue to exist. Through these diversified funds, you can invest in such businesses. Hence, a blend of diversified and index funds can work well over the long term.

How to build the portfolio with equity diversified funds and Index funds together

In our opinion, all investors can have an allocation in index funds along with equity diversified funds.