The Flexi-cap category of mutual funds came into existence in November-2020. It happened after the Restructuring done by SEBI in different fund categories and respective asset allocations. (Read: 5 important mutual fund changes that investors should know)
In fact, many Multicap funds (in their earlier avatar), were only converted to Flexicap by many fund houses.
Prior to the Restructuring, multi-cap funds were allowed to invest across the market segments- large, mid, and small-cap stocks in any proportion. The fund manager had full freedom to decide the stocks in which he wanted to allocate the funds, depending upon his discretion and fund house research. There was no restriction of any sort.
However, the Regulator was of the opinion that the name Multicap is catering to confusion and investors feel that this fund will give them exposure to all the market cap stocks, which sometimes is not the case.
Now, as per the new SEBI ruling, multi-cap funds will have to allocate at least 75% of their assets into equities with 25% to each large, mid, and small-cap stocks. The fund manager is free to allocate the rest of 25%, according to the fund mandate.
SEBI observed that most of the multi-cap funds are heavily allocated towards the large caps. So, this change in the fund asset allocation was brought about to make the multi-cap funds ‘true to their label’. Meaning, the reflection of the true characteristics of the name in the investment objective of the category.
But, this restriction is not accepted by many in the industry and several concerns were raised. To address these concerns, a new category of funds was introduced, i.e., Flexi-cap funds. These funds were provided with the same mandate as the old multi-cap funds.
They have to invest at least 65% of their assets into equities and can take the exposure to large, mid, and small-cap segments without any restrictions.
Hence, the fund manager can flexibly allocate money across different sectors or companies when they find suitable investment opportunities. Also, they can change the allocation as per the fund mandate.
Multi-cap vs Flexi-cap Fund- Which one is better?
This was the reason that after this SEBI notification, most of the fund houses had converted their then existing multi-cap scheme into a Flexi-cap fund to comply with the new regulations.
After that, the AMCs started coming up with the New Fund Offers (NFOs) of the fresh multi-cap funds in accordance with the new asset allocation rules.
You may find some Multicap funds with not that big a track record as many are recent launches, with not enough time frame to judge a fund’s performance. (Also Read: How do mutual fund benchmarks help in the selection of the right funds?)
To gauge any equity fund’s performance, we should at least see the performance track record of at least five years or so. This is essential to see the performance of the fund across market cycles.
In addition, multi-cap funds would at least have a 50% allocation to mid and small-cap stocks across market cycles, making them riskier as compared to the Flexi-caps. They have to follow this mandate rigidly and have no flexibility to reduce the same even when they foresee underperformance across these segments.
However, this may make the performance of Multicap funds look attractive in the bull market as Mid/Small-cap stocks perform better in those times.
Whereas, due to the flexibility in allocation, Flexi-cap funds can increase allocation to large caps and reduce the exposure to mid and small caps when there is underperformance in these segments. This would help in minimizing the downside risk of the portfolio to some extent and protecting investment returns.
This means that in bullish times, multi-cap funds may outperform the Flexi cap funds and in bearish times, Flexi-cap funds may outperform, protecting the downside risk of the portfolio. (Also Read: 5 ways to compare mutual funds)
So, all in all, in the current scenario, the Flexi-cap fund category is looking better placed as compared to the multi-cap because of the flexibility of allocation and decent performance track record available.
But, if you are an investor with a high-risk appetite and have an investment horizon of at least 7-10+ years, then you can choose multi-cap funds too.
Remember, your investment should always be commensurate with your risk appetite, investment horizon, and financial goals.