Focused funds are equity schemes that invest in a limited number of stocks, allowing fund managers to take concentrated bets. These funds are suitable for investors willing to take on higher risk to earn better returns from a quality-focused portfolio.
So, let’s understand what focused funds are, how they work, the key factors to consider before investing, and the benefits and risks associated with them.
What are focused funds?
Under regulations, focused funds can invest in up to 30 stocks. Earlier, these schemes were required to invest at least 65% of their assets in equity and equity-related instruments. However, effective 1 April, 2026, SEBI revised the definition of focused funds.
Under the new rules:
- Focused funds can invest in a maximum of 30 stocks.
- They must invest at least 80% of their total assets in and equity-related instruments.
- The scheme must clearly specify its investment focus, such as large-cap, mid-cap, small-cap, or multi-cap.
The revised framework aims to provide greater clarity on the investment universe while ensuring a higher allocation to equities.
How do focused funds work?
Focused funds follow a concentrated portfolio strategy. Fund managers begin by screening a broad universe of stocks based on factors such as business quality, earnings growth, management strength, valuation, and future prospects. They then select a limited number of companies that best fit their investment thesis.
Since the portfolio is restricted to 30 stocks or fewer, each holding typically carries a larger weight than it would in a diversified equity fund. As a result, the performance of individual stocks can significantly impact the fund’s overall returns.
These funds also have the flexibility to allocate capital across sectors and market capitalisations, allowing managers to capitalise on opportunities wherever they see the greatest potential.
Key factors to consider before investing in focused funds
Here is the list of factors or metrics to consider for focused funds.
Investment horizon
Focused funds are best suited for investors with a long-term horizon of 5-7 years or more. The portfolio of a few stocks may take time to play out and can experience periods of underperformance.
Risk appetite
Since these funds invest in a limited number of stocks, they tend to be more volatile than diversified equity funds. Investors should be prepared for sharper ups and downs.
Past performance across market cycles
Reviewing a fund’s performance over 3-year, 5-year, and 10-year periods can provide insights into how it has navigated different market environments. Investors should focus on consistency rather than short-term outperformance.
Alpha
Alpha measures the fund manager’s ability to generate returns above the benchmark after adjusting for risk. An alpha above the benchmark’s alpha indicates that the fund manager has added value through stock selection and portfolio construction.
Beta
Beta indicates a fund’s sensitivity to market movements. A beta greater than 1 suggests the fund is more volatile than the market, while a beta below 1 indicates relatively lower volatility.
Portfolio turnover ratio
This ratio shows how frequently the fund manager buys and sells securities within the portfolio. A very high turnover ratio may indicate aggressive trading, which can increase costs and affect long-term returns.
Fund manager track record
The performance of focused funds is heavily influenced by the fund manager’s stock-picking skills. Investors should evaluate the manager’s experience, investment philosophy, and strategy.
Portfolio composition
Review the fund’s top 5 holdings, sector allocation, and market-cap allocation. Excessive exposure to a few stocks or sectors can increase portfolio risk.
Expense ratio
As actively managed schemes, focused funds charge management fees. A lower expense ratio can provide better returns over time.
Benefits of investing in focused funds
Focused funds can offer several advantages to investors who are comfortable taking on higher risk to potentially earn better returns.
Higher conviction portfolio
Unlike diversified equity funds that spread investments across 50 or 100 stocks, focused funds on investing in a limited number of companies. This allows fund managers to allocate more capital to the quality ideas, potentially enhancing returns if their investment thesis plays out as expected.
Potential to outperform during certain market cycles
In periods when a select group of stocks or sectors drives market performance, focused funds can outperform broader diversified funds because successful stock picks have a larger impact on the portfolio.
Greater flexibility across market segments
Focused funds are not restricted by market capitalisation. Fund managers can invest across large-, mid-, and small-cap stocks, depending on where they identify opportunities, enabling them to adapt to changing market conditions.
Easier portfolio monitoring
With fewer holdings, investors can more easily understand what the fund owns and why. This transparency can help investors track portfolio developments and evaluate whether the fund’s strategy aligns with their expectations.
Opportunity to generate alpha
A concentrated portfolio gives skilled fund managers a better chance to outperform the benchmark through stock selection. Since each holding carries meaningful weight, successful investment decisions can lead to stronger alpha generation.
Risks of investing in focused funds
While focused funds can deliver good returns, the same concentration that creates opportunities can also amplify risks.
Concentration risk
Since focused funds invest in a relatively small number of stocks, poor performance in even a few holdings can significantly impact overall returns. The margin for error is lower compared with diversified funds.
Higher volatility
Focused funds tend to experience sharper ups and downs than diversified equity funds. Investors must be prepared for periods of substantial underperformance, especially during market corrections.
Dependence on the fund manager’s skill
The success of a focused fund depends heavily on the fund manager’s stock-picking ability and investment process. A few incorrect investment decisions can directly affect returns over time.
Sector and theme concentration
Although focused funds can invest across sectors, fund managers may develop significant exposure to specific industries or themes. If those sectors fall out of favour, the portfolio could face prolonged pressure.
Disclaimer: This is purely for educational/ informational purposes and should not be taken as any sort of investment advice. Always consult a SEBI-registered advisor before making any investment decisions.