Your Questions Answered: We are a young couple with high risk appetite. Should we invest in consumption mutual funds?

Q. I am a fresher working with an MNC in Pune, my wife is a lawyer having her own practice. We are both young and have a high-risk appetite. We are planning to invest in sectoral mutual funds, some of our acquaintances have suggested investing in consumption mutual funds, can you please elaborate on what consumption mutual funds are and what are the pros and cons of investing in consumption mutual funds?

Praveen Jatav, Pune, Uttar Maharashtra

Consumption mutual funds are a type of thematic funds that invest in stocks of companies that benefit from the rising consumption demand in India. Thematic mutual funds are a type of equity mutual fund that invests in companies based on a specific theme or trend. These themes can be anything from artificial intelligence and robotics to clean energy and healthcare. Thematic funds are designed to offer investors exposure to a particular area of the market that is expected to experience strong growth.

Consumption mutual funds invest in companies which may belong to various sectors such as consumer durables, retail, FMCG, media, entertainment, travel, hospitality, etc. Consumption mutual funds aim to capture the growth potential of these sectors as India's economy expands and its middle class grows.

What are the pros of consumption mutual funds?

• Consumption mutual funds may offer higher returns than diversified equity funds in the long term, as consumption is a secular theme that is expected to grow steadily irrespective of economic cycles.
• Consumption mutual funds can provide exposure to niche sectors and emerging themes that may not be adequately represented in the broader market indices or diversified funds.
• Consumption mutual funds can benefit from the favourable demographics, urbanisation, rising income levels, changing lifestyles and preferences of Indian consumers, which are driving the demand for various goods and services.

What are the cons of consumption mutual funds?

• Consumption mutual funds are more volatile and risky than diversified equity funds, as they are concentrated in a few sectors and themes that may be affected by regulatory changes, competitive pressures, technological disruptions or consumer behaviour shifts.
• They may underperform the broader market or diversified funds in times of economic slowdown, as consumption demand may be impacted by lower income growth, higher inflation or lower consumer confidence.
• They may have higher expense ratios than diversified equity funds, as they require more research and active management to identify and select the best stocks in the consumption theme.

How are consumption mutual funds taxed in India?

The taxation of consumption mutual funds in India depends on the time period for which you have held the funds. Like other equity mutual funds, capital gains from consumption funds are classified as either short-term or long-term. Short-term capital gains (STCG) arise when you redeem your fund units within 1 year of purchase. These are taxed at a flat rate of 15%, irrespective of your income tax bracket. 

Long-term capital gains (LTCG) occur when you redeem your fund units after 1 year of holding. Up to ₹1 lakh of LTCG per year is exempt from taxes. Any LTCG exceeding ₹1 lakh is taxed at a rate of 10%, without the benefit of indexation.

Who should invest in consumption mutual funds?

• Consumption mutual funds are suitable for aggressive investors who have a high risk appetite and a long-term investment horizon of at least 5 years.
• These funds are ideal for investors who want to participate in the growth story of the Indian consumption sector and diversify their portfolio beyond the traditional sectors such as banking, IT, pharma, etc.
• Consumption mutual funds should not form the majority of the equity portfolio of an investor, as they are highly thematic and sector-specific. Investors should balance their portfolio with other diversified or large-cap equity funds to reduce the overall risk.

How to choose the best consumption mutual fund?

• Investors should look at the past performance, risk-adjusted returns, portfolio composition, fund size, expense ratio and fund manager's track record of the consumption mutual fund before investing.
• Investors should compare the consumption mutual fund with its peers in the same category and with the benchmark index to assess its relative performance and consistency.
• Investors should also check the investment objective, strategy and style of the consumption mutual fund to ensure that it matches their risk profile and return expectations.

Examples of consumption mutual funds

SBI Consumption Opportunities Fund: This fund invests in companies across sectors that are expected to benefit from the rising consumption demand in India. 

Nippon India Consumption Fund: This fund invests predominantly in FMCG stocks that have strong brands, pricing power and distribution networks. 

Mirae Asset Great Consumer Fund: This fund invests in companies that cater to the needs and aspirations of Indian consumers across sectors such as consumer durables, retail, media, entertainment, etc. 

In conclusion, consumption mutual funds or any other thematic mutual funds are best suited for investors who have a high-risk appetite and have some knowledge of the industry they are investing in. It is best to have a long-term horizon while investing in a sectoral mutual fund. It is advisable to have limited exposure to any sectoral/thematic mutual fund. Putting all your eggs in one basket will expose you to business cycle risk as many business sectors go up and down on a cyclical basis. 

Note: This is for informational purposes. Please speak to a financial advisor for detailed solutions to your questions.

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