Diversified Mutual Funds

Diversification in mutual funds is one of the most effective ways to minimise risk and optimise returns, so you have a comfortable risk-reward outlook in your portfolio. While you can always attempt to manually diversify your portfolio, diversified mutual funds offer an easy alternative. They are inherently diversified, so you need not make the effort to curate a diversified portfolio from scratch.

In this article, we examine what diversified funds are, the different types of such funds and how they can benefit you.

What are Diversified Mutual Funds?

Diversified funds are mutual fund schemes that invest in different assets with varying market capitalisations and across multiple sectors. Some diversified mutual funds may also offer geographical diversification.

Since these funds are not concentrated either sectorally or in terms of the market cap, they give you broad market exposure. So, even if any one sector or category of investments performs poorly during a given period, the losses from this part of your portfolio may be offset by other investments.

Understanding Diversification in Mutual Funds with Example

Diversified mutual funds primarily aim to reduce unsystematic risk — which is essentially risk that is specific to an asset or asset class. For example, small-cap stocks may be susceptible to market volatility. So, diversified equity funds like multi-cap funds attempt to reduce this risk by diversifying across companies with different market caps.

Diversification can also happen across asset classes. For instance, a hybrid mutual fund may distribute its capital across equity, debt and other asset categories to offset the risk in one area and the returns in another. Depending on the kind of diversification in a mutual fund, the scheme may successfully navigate systematic and unsystematic risk too.

Different types of diversified funds

Some of the different kinds of diversified mutual funds you can choose from include the following:

• Index funds: Index funds offer diversification across different companies listed on the stock exchanges. The most popular index funds replicate broad market indexes like Nifty 50 or Sensex. However, there are also diversified mutual funds that replicate other sectoral, thematic or strategic indexes. That said, index funds can be risky because they are predominantly equity-oriented.
• Multi-cap funds: Multi-cap funds, also known as diversified equity mutual funds, invest at least 75% of their assets in equity and equity-related instruments. This 75% is distributed among small-cap, mid-cap and large-cap stocks in a predefined ratio. By adopting a balanced approach and diversifying across different market caps, these diversified funds minimise the risk associated with any one category.
• Hybrid funds: Hybrid funds are diversified mutual funds that invest in debt, equity and other asset classes. The proportion of investments in these categories can vary from as low as 10% to as much as 80% — depending on whether the fund is a conservative, balanced or aggressive hybrid fund. You can choose the risk level based on how conservative or aggressive your approach is.
• Balanced funds: Balanced funds are a type of hybrid funds that invest in debt and equity classes almost equally. The asset allocation for these funds as prescribed by the Securities and Exchange Board of India (SEBI) is 40% to 60% in equity and 60% to 40% in debt. This type of diversified mutual fund distributes the capital almost equally between two contrarian asset classes, so the risk-reward ratio is almost optimal.
• Multi-asset funds: A multi-asset fund is a type of diversified mutual fund that invests in different asset classes like equity, debt and money market instruments, among others. This also leads to a wide range of risk levels, return potential and liquidity levels, making such a fund a well-diversified portfolio in itself. Before you choose a multi-asset fund, ensure you check its investment strategy and see if it aligns with your goals.
  

Benefits of investing in Diversified Funds

Investing in diversified mutual funds gives you various benefits, such as:

• Protection against market volatility
• Minimised portfolio risk
• Optimised portfolio returns
• Access to different assets and asset classes
• Easier and less time-consuming portfolio monitoring
• Achievement of financial goals across different time horizons
  

Things to keep in mind before investing in diversified funds

Before you invest in a diversified fund, you need to look into the following aspects:

• Expense ratio
• Investment horizon and lock-in period, if any
• Objective of the fund
• Fund’s portfolio
• Risk metrics of the diversified fund
• Historical returns
• Fund manager’s expertise

Once you factor in these aspects, you can make an informed decision about which type of diversified fund to invest in. Whichever type of fund you choose, ensure that you do not diversify your investments too much as that brings in the risk of diluted returns.

Conclusion

Now that you know what a diversified fund is, you can assess your financial goals and check if these funds may be suitable for you. If you do decide to add these funds to your portfolio, you can make a lumpsum investment or opt for SIP investments.

Alternatively, you can also diversify your current portfolio with different types of mutual funds. The Bajaj Finserv Mutual Fund Platform, with 1,000+ schemes to choose from, can help you with this. Check out the fund options available, compare the schemes and make an informed choice.

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