ET Explainer: Why largecaps are gaining appeal as Nifty consolidates

Given a range-bound movement in the benchmark Nifty 50 over the last 20 months after creating a new peak in September 2024, wealth managers point out that valuations in largecap stocks are reasonable and in line with long term averages.

They believe investors can allocate to this part of the market and use a mix of active and passive funds.

WHAT ARE LARGE CAP FUNDS ?
As per regulatory guidelines, a large-cap company is one that is ranked from 1st to 100th on the Indian stock exchanges in terms of market capitalization. For a mutual fund, an actively managed large cap fund is one that allocates at least 80% of its assets to large cap companies, with a flexibility to invest the balance 20% at the fund manager’s discretion.


On the other hand, a passive large cap fund is a plain vanilla fund that mimics a large cap index such as the BSE Sensex, Nifty 50,
Nifty Next 50 and Nifty 100.

HOW DO ACTIVE AND PASSIVE FUNDS DIFFER?
A passive fund merely mimics its underlying index, and there is no fund manager bias. In an active fund, it is the fund manager who picks and chooses stocks and builds a portfolio in line with his view of the equity markets. The two strategies differ on cost.

While passive funds cost anywhere between 5 basis points to 50 basis points for a direct plan, active funds cost 50-125 basis points.

WHY ARE LARGE CAP FUNDS RECOMMENDED NOW BY ANALYSTS?
The price-earnings (P/E) multiple of the Nifty 50 stands at 21, close to its historical long term average. In an environment of global uncertainty where oil prices have risen amid the West Asian crisis, analysts believe it is safer to allocate to large companies.

These companies have experienced promoters, strong balance sheets, access to talent and resources due to their strong brand name.

They are tracked by both Indian institutional as well as foreign investors and hence there is higher transparency and availability of reports on the performance and outlook of these companies. From a stock market perspective, such companies are likely to be more stable and there is visibility of earnings and longevity of such companies compared with their smaller counterparts.

HOW SHOULD YOU ALLOCATE TO A LARGE CAP FUND?
Depending on their cash flows, investors can make a lump sum or staggered allocation to large cap funds which should be a core allocation of their portfolio. Investors may split it between an active and passive fund, as this will give them the best mix of both the strategies.

Conservative investors who are scared of volatility can own only large cap oriented funds.