Investors are often advised to take a diversified approach to their portfolio holdings. But, sometimes, spreading yourself too thin across too many stocks, for example, would mean that you may not be able to make the most of a market rally. It is here that focused investing comes to the limelight. Investing in a concentrated portfolio, though a tad risky, may deliver on the upside.

SEBI has carved a separate category for focused funds – that are allowed to invest in a maximum of 30 stocks – for such concentrated investing.

In this regard, ITI has come out with a new focused equity fund. The new fund offer (NFO) will close on June 12.

Should you invest in the NFO? Read on for more perspective on focused funds to make an informed call.

Investing in a concentrated portfolio

From an academic standpoint, there is this modern (not recent) portfolio theory that states that the unsystematic risk – i.e., risk specific to a company – in a portfolio reduces only till the point when there are 20-30 stocks in a portfolio. Adding a few more stocks does not reduce unsystematic risks anymore. This phenomenon sometimes holds in practice, though it may not always play out that way.

But specifically, and what seems more relevant for fund outperformance, giving a higher weight to potentially winning bets would deliver higher returns than just assigning small weights just to reduce risk via greater diversification.

A focused fund is diversified like any flexi-cap fund with no market cap bias, with the only difference being that there is a 30-stock limit in the portfolio.

Of course, the downside may be that a correction can hurt the portfolio due to the concentration of stocks.

How ITI Focused Equity is positioned

The new fund will follow a growth-oriented strategy of investing in stocks. ITI Focused Equity will invest 40 per cent of its portfolio (called the core) in stocks with low volatility that are steady compounders. Another 40 per cent would be parked in companies that are gaining market share in their operations – this portion is called the alpha portfolio. The balance 20 per cent would be invested in new-age companies and emerging themes.

The new-age part would be investments in electric vehicle manufacturers (including batteries and ancillaries), renewable energy players, e-pharmacy companies and firms in the shared mobility space.

For the core and alpha parts, broadly, the investment thesis is similar to most diversified funds. The themes of interest would be the financialization of savings, leveraging demographics, capex recovery cycle, real estate upcycle, and export opportunities (China plus 1).

The fund will be benchmarked to the Nifty 500 TRI.

What investors should do

There are currently 26 focused funds offered by various asset management companies. Of these 16 have a track record of more than five years. Focused equity funds from the houses of 360 ONE, ICICI Prudential and Franklin India have done well over the years. For investors looking to concentrated exposures, these schemes may offer reasonable risk-adjusted returns. The top funds have beaten the S&P BSE 500 TRI and Nifty 500 TRI by two percentage points over a five-year period.

Given that ITI Mutual itself is a relatively new fund house that started operations a little over four years back, it may be early to judge the performance of schemes of the AMC.

For retail investors, it may be better to go with established names and wait for the ITI Focused Equity Fund to develop a track record before taking the plunge.

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