June 14, 2024

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Confused between index funds and mid-cap funds? Know where to invest

Equity Funds: Types, Characteristics, and Investment Strategies

Making the right investments for your mutual fund portfolio can be challenging, especially when choosing between index funds and mid-cap funds. Since each investor has different needs and preferences, what works for one may not necessarily be suitable for another. Deciding which option to invest in depends on various factors, such as the amount of risk you are willing to take, the investment strategy you follow, the return expectations you have, your personal goals, and more. 

Here are some helpful pointers that will give you the insight and knowledge needed to decide if index or mid-cap funds or both are right for your portfolio.

What is a mid-cap fund?

Mid-cap funds are mutual funds that invest primarily in companies with mid-sized market capitalisation. These companies generally rank between 101 and 250 in terms of market capitalisation, meaning they tend to be more volatile than large-cap stocks but also represent a greater upside potential.  

What is an index fund?

Index funds are mutual funds that track a particular index, such as the NIFTY and BSE Sensex. The fund manager selects stocks that match the composition of the index they are trying to track and then holds them over a long period to achieve returns that closely match those of the benchmark index they are tracking.  

Top benefits of investing in mid-cap funds

  • Growth potential – Mid-cap companies can often generate higher returns than their larger counterparts. This is because these companies also have strong fundamentals and records and are less likely to be affected by external economic factors such as recessionary periods or market volatility. 
  • Lower risk than small caps – Mid-cap stocks offer a balance between growth potential and risk. They have larger capitalisations than small caps and consequently have more secure foundations built on stronger balance sheets. These qualities make them less risky investments than small caps while still delivering higher returns than large caps. 
  • Fund managers consistently look for opportunities – When you choose active management as a core part of your mutual funds investment strategy, a fund manager is constantly monitoring the market and making adjustments as needed to ensure maximum returns on investments. 

Key benefits of investing in index funds

  • Diversification – With index mutual funds, you get to diversify your portfolio by investing in all the stocks that make up an index. This helps reduce your risk and ensures that if one stock takes a downturn, it won’t heavily affect overall returns because you are spread across multiple stocks. 
  • Low cost – Index funds typically cost less than other types of mutual funds since they don’t require active management or research by fund managers. As a result, more of your money goes into the actual investments instead of overhead costs and fees.
  • Tax benefits – Index funds are favoured for their tax efficiency as they involve less buying and selling of individual securities. Fewer trades could result in lower capital gains and may reduce tax liability.

The bottom line | Where to invest?

Different types of mutual funds work for different investors. Mid-cap and index funds each have their own benefits, so the choice depends on multiple factors such as risk profile, market volatility, and investment duration. 

  • Generally, risk-averse investors tend to prefer index funds, while those with more aggressive or growth-orientated risk profiles may prefer mid-cap funds. 
  • While mid-cap funds can be more volatile than index funds due to their active management strategies, these funds offer the potential for higher returns during bull markets. In contrast, index funds may exhibit less volatility, but their return potential is comparatively lower. 
  • When it comes to investments, the longer you stay invested, the better the return will be. But index funds generally demand a longer holding period than mid-cap funds to generate significant returns. 

Index funds or mid-cap funds? With complicated financial decisions like this, it is essential to seek expert advice to make well-informed decisions that take into account your short and long-term financial objectives.