Flexi Cap Funds: A Sensible Choice That’s Attracting Investors

April 30, 2024 Mutual Fund

Among the 11 sub-categories of equity mutual funds in India, after Small Cap Funds and Mid Cap Funds, the Flexi Cap Funds have been among the preferred investment options.

In the ongoing calendar year 2024, Graph 1 reveals that Flexi Cap Funds are getting the attention of investors. In March 2024, 2.56 lakh new folios were added to the Flexi Cap Funds sub-category, taking their total folio count to 1.42 crore.

Perhaps, investors, rightly so, are looking at de-risking their portfolio with Flexi Cap Funds (while approaching equities) amidst geopolitical tensions and macroeconomic uncertainty. The total AUM of Flexi Cap Funds has touched Rs 3.51 lakh crore, currently comprising 15% of the equity-oriented mutual funds’ net AUM (the highest).

Graph 1: Flexi Cap Funds in the Spotlight – Net Inflows Increase

Data as of March 2024
In the case of inflows in sub-categories of equity funds, the segment-wise data reported by AMFI is from April 2019 onwards.
(Source: AMFI, data collated by PersonalFN Research) 

Investors seem to be wisely recognising the unique blend of adaptability, diversification (across market capitalisations), and growth potential these funds offer with the risk being mitigated.

Flexi Cap Funds carry less risk compared to Small Cap Funds and Mid Cap Funds, as the fund manager has the mandate to flexibly invest across the market capitalisations, i.e. large-caps, mid-caps, and small-caps, without any upper or lower limit. So, their allocation within equity as an asset class is dynamic. All that the regulatory guideline mandates is investing a minimum of 65% of their assets in equity and equity-related instruments.

Depending on the outlook for large-caps, mid-caps, and small-caps, the fund manager has the flexibility to tactically decide how much to allocate to these segments — depending on the market conditions, which market cap segment looks attractive, the opportunities therein, and the liquidity conditions. This offers a large universe of stocks.

Moreover, the fund manager could increase or decrease holdings within a respective market cap segment, as the outlook alters. In effect, for you, the investors what it does is mitigates the volatility of one market cap segment and you have the opportunity to earn decent risk-adjusted returns.

Graph 2: Year-on-Year Returns of Market Cap Segments

*Data as of April 25, 2024
(Source: ACE MF, data collated by PersonalFN Research) 

The graph above shows that within India equities as an asset class, not all segments of the markets have been winners at all times, nor have the returns clocked been similar. In certain years (like 2018, 2019, and 2022) large-caps have fared well and displayed stability, while in some years it is mid-caps and small-caps that have accelerated wealth creation. So, there is merit in having exposure to all three market caps.

Graph 3: The latest Allocation of Flexi Cap Funds

Data as of March 2024 Portfolio
(Source: ACE MF, data collated by PersonalFN Research 

At present, when valuations in the small and mid-caps seem frothy, most Flexi Cap Funds are holding a dominant portion of their assets in large-caps for stability and hoping to earn decent returns.

Table 1: Flexi Cap Funds Have Rewarded Investors Well

Data as of April 25, 2024
The list of funds cited here is not exhaustive. Only the top 10 funds are considered on 3-year returns.
Returns expressed are rolling returns in %. calculated using the Direct Plan-Growth option.
Standard Deviation indicates Total Risk and Sharpe Ratio measures the Risk-Adjusted Return. They are calculated over 3 years assuming a risk-free rate of 6% p.a.
*Please note, that this table represents past performance. Past performance is not an indicator of future returns.
The securities quoted are for illustration only and are not recommendatory.
Speak to your investment advisor for further assistance before investing.
Mutual Fund investments are subject to market risks. Read all scheme-related documents carefully.
(Source: ACE MF, data collated by PersonalFN Research) 

The table above shows how Flexi Cap Funds across time periods have so far delivered appealing returns. Particularly over longer horizons, such as 3-year and 5-year periods, the compounded annualised returns clocked by these funds have been very appealing — which is also one of the factors attracting investors.

The top 3 Flexi Cap Funds over a 3-year period are Quant Flexi Cap Fund, HDFC Flexi Cap Fund, and Bank of India Flexi Cap Fund

Whereas on 5 years, Quant Flexi Cap Fund, Parag Parikh Flexi Cap Fund, and JM Flexicap Fund are the top 3 ones.

[Read: Quant Flexi Cap Fund vs. JM Flexi Cap Fund: Which One’s Better?]

It should be noted that not all Flexi Cap Funds have been able to outperform their benchmark. On 3-year and 5-year returns, only 10 out of 24 schemes outperformed. In other words, you ought to be very careful and selective when choosing Flexi Cap Funds if you endeavour alpha returns.

Overall, on a risk-adjusted basis too, as denoted by the Sharpe Ratio and Sortino Ratio (see Table 1), only some Flexi Cap Funds have rewarded investors well for the risk taken.

The freedom to diversify the portfolio and increase/decrease allocation dynamically to the respective market cap segment is well displayed in the capital appreciation potential of some Flexi Cap Funds.

Want to know which are the best 4 Best Flexi Cap Funds for 2024? Watch this video:

Will Flexi Cap Funds Continue to Deliver Attractive Returns?

Well, the key characteristic of Flexi Cap Funds is the flexibility to dynamically manoeuvre the equity portfolio across large-cap, mid-caps, and small-caps.

In complex scenarios when there are macroeconomic and geopolitical risks in play, at the same time there are investment opportunities — given that the Indian economy is a ‘bright spot’ (with reforming being pushed) and the profit share of India Inc. in GDP is expanding (abetted by the capex/investment cycle, credit growth, healthy banking system, stable tax policies, PLI, and structural improvement in demand) — and therefore, you don’t want to miss the bus, holding a Flexi Cap Fund in your core portfolio certainly makes sense.

A Flexi Cap Fund could potentially help limit the downside risk and earn decent risk-adjusted returns.

Table 2: Performance of Flexi Cap Funds During the Bear Phase of Global Financial Crisis and the Ensuing Bull Phase

Returns expressed are point-to-point in %. calculated using the Direct Plan-Growth option.
Returns over 1-year are compounded annualised.
*Please note, that this table represents past performance. Past performance is not an indicator of future returns.The securities quoted are for illustration only and are not recommendatory.
Speak to your investment advisor for further assistance before investing.
Mutual Fund investments are subject to market risks. Read all scheme-related documents carefully.
(Source: ACE MF, data collated by PersonalFN Research) 

History reveals that during the bear phase of the Indian equity markets during the Global Financial Crisis of 2008-09, the limited set of pure Flexi Cap Funds then, on average, also plunged but they did better than Mid Cap Funds of those years (See Table 2). Small Cap funds were just seven in number in 2008-09.

Table 3: Performance of Flexi Cap Funds During the Bear Phase of the COVID-19 Pandemic and the Present Bull Phase

Returns expressed are point-to-point in %. calculated using the Direct Plan-Growth option.
Returns over 1-year are compounded annualised.
*Please note, that this table represents past performance. Past performance is not an indicator of future returns.The securities quoted are for illustration only and are not recommendatory.
Speak to your investment advisor for further assistance before investing.
Mutual Fund investments are subject to market risks. Read all scheme-related documents carefully.
(Source: ACE MF, data collated by PersonalFN Research) 

In the recent bear phase of the COVID-19 pandemic, Flexi Cap Funds held ground compared to Small Cap Funds (more in numbers now: 29) and Large Cap Funds. Also, Flexi Cap Funds have fared well in the current bull phase with their active and dynamic fund management style.

That being said, if the judgement about which and how much to allocate to a particular market cap segment goes wrong and/or the portfolio quality is compromised with high-risk bets, then Flexi Cap Funds can be vulnerable to downside risk.

What matters is how prudently you select Flexi Cap Fund/s for your core portfolio. You should not just consider the historical returns (which are in no way indicative of the future), but also assess the risks you would be exposed to, and whether the fund under consideration has delivered a consistent performance across market phases (bull and bear).

Other than the quantitative aspects, pay heed to the qualitative aspects, viz. portfolio characteristics – the market capitalisation bias, investment strategy, liquidity of the portfolio, top 10 stocks in the portfolio, top 5 sector exposure, etc. Plus, the risk management framework at the fund house. It would do well to understand the investment processes and systems at the fund house.

Flexi Cap Funds are suitable for high-risk investors, and if you wish to have a tactical and dynamic allocation to large-caps, mid-caps, and small-caps, and have an investment time horizon of around 3 to 5 years or so.

If you find it challenging to choose the right Flexi Cap Fund for your portfolio (or any other investment product for that matter), seek the help of SEBI-registered investment advisors who can guide you throughout your investment journey.

Be a thoughtful investor.

Happy Investing!

This article first appeared on PersonalFN here