Does bigger deviation from index help a mutual fund deliver higher returns than benchmark consistently?

“Our fund manager doesn’t like hugging,” teased DSP Mutual Fund’s ad campaign earlier this year, pitching its Top 100 Equity Fund as one that refuses to cling to the benchmark The message was clear: to win big, you’ve got to step off the beaten track.
When Samco Mutual Fund entered the scene with its Flexi Cap fund, it went a step further—accusing rivals of playing it too safe. Samco vowed to be truly active, hunting beyond the index and even disclosing its ‘active share’ every single day. For the uninitiated, that’s the measure of how boldly a fund’s portfolio strays from its benchmark.

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This is a growing narrative. With passive funds gaining ground, active managers are scrambling to prove they’re worth the higher fees. The war cry? “Don’t hug the index.” Those who do are dismissed as ‘closet indexers’, or charlatans charging active costs for passive work.

But if fortune favours the brave, does straying further from the index deliver better returns—or is it just dart-throwing in the dark? ET Wealth, in collaboration with research platform PrimeInvestor, digs deeper to uncover whether being different really pays.

How we tested

To test the active calls of the funds, we analysed portfolios in four mainstream fund categories—large cap, mid cap, small cap, and flexi cap—over six years from September 2019 to August 2025.

We compared their three-year rolling returns with the corresponding active share during this period to find any correlation with fund performance. So, the first three years of the study analyse performance from 1 September 2019 to 1 September 2022, while the last period covers performance from 31 August 2022 to 31 August 2025. To calculate the instances and extent of outperformance, each fund’s three-year return is compared against its respective benchmark’s three-year returns. Any study of active share beyond the past six years doesn’t allow for a fair comparison, as fund categories and their investible universe were crystallised only in 2018. Before 2018, funds retained the flexibility to invest in ideas without any defined borders. Only funds with a six-year track record or longer were considered, ensuring sufficient observations of rolling returns for the study. The benchmark indices used for the study are the Nifty 100 (for large-caps), Nifty Midcap 150 (for mid-caps), Nifty Smallcap 250 (for small-caps), and Nifty 500 (for flexi-caps).

For the calculation of active share, we decided to analyse one out of every three consecutive monthly portfolios of each scheme with its benchmark index. This means the study considers every fund’s active share taken three months apart, for the past six years. As stated earlier, active share measures the proportion of a fund’s portfolio that differs from its benchmark index. It represents the inverse of the overlap between the fund and its benchmark. For instance, if a fund has 40% overlap with the index, it has a 60% active share. Our active share calculations are based on this assumption. For funds using derivatives, the real active share may differ. Here’s what we found.

What is active share?

It measures what share of a fund’s portfolio differs from the benchmark index.

A fund manager can increase active share by

• Being underweight or avoiding stocks present in the index
• Being overweight on stocks present in the index
• Adding stocks that are not part of the index

Large cap funds

Large cap funds don’t get much room to pursue differentiation. By rule, 80% of their corpus must be invested in the top 100 stocks by market capitalisation, leaving little scope for bold deviations. No surprise, then, that their active share is the lowest among categories—just 42%. In other words, nearly 60% of their portfolios mirror the index. The question is: Are they making the most of their limited wiggle room? On the surface, returns look solid. Over three years, large cap funds clocked an average rolling return of 17.7%, edging past the index’s 17.03%. But dig deeper, and the link between active share and performance vanishes. Funds with the highest active share slightly lagged those with the lowest. What’s more, low active share funds outperformed more often (66% of observations) than those with high active share (59.5%).

Take Edelweiss Large Cap Fund. With an active share of just 36%, it delivered 19% returns, beating the index almost 97% of the time. Kotak Large Cap, with a 37% active share, posted an 18.5% return and outperformed 100% of the time. By contrast, Franklin India Large Cap (55.5%) and Taurus Large Cap (50%) stumbled, managing to beat the index only a third to half the time. “In large caps, the evidence suggests that being different for the sake of being different may be a fool’s errand. The regulatory constraints mean that most ‘active’ choices are marginal tweaks rather than bold bets,” remarks Bipin Ramachandran, Senior MF analyst, PrimeInvestor.in.

Mid cap funds aren’t bound as tightly in regulatory handcuffs as large caps. With only 65% of assets mandated in stocks ranked 101–250 by market cap, managers have a far broader canvas. Indeed, this greater flexibility should be leveraged.

On aggregate, mid cap funds displayed an active share of nearly 70% during the study period. Yet, the category disappointed. Mid-caps averaged 25.9% three-year returns—below the index’s 27.5%. Only six of the 23 funds managed to beat the benchmark. On paper, the group showed the strongest correlation between active share and returns (0.41). Funds in the top quartile of active share posted a 27% return, versus 25.3% for the least active.

But the story isn’t that neat. Outliers like Quant Mid Cap and Motilal Oswal Midcap, with active shares above 80%, clocked returns of 33-34%, consistently outperforming the index. Others with a high active share—SBI Midcap, DSP Midcap, and Invesco India Midcap—failed to deliver. Meanwhile, less adventurous funds such as Nippon India Growth (58%) and Edelweiss Mid Cap (64%) outperformed steadily without soaring too far above the index.

Ramachandran observes that, barring outliers, the disconnect between active share and performance was more evident in mid cap funds than in large cap funds. “More freedom to be different doesn’t automatically translate to better outcomes. In fact, it might create more opportunities to go wrong. The weak correlation suggests that in mid-caps, execution matters far more than the degree of deviation from the benchmark.’”

Small cap funds

Small cap funds are blessed with a significantly larger playground. These can hunt for stocks beyond the top 250 by market capitalisation for 65% of their portfolio. Riding on these open roads, small cap funds naturally exhibit a proclivity to roam freely. The category runs an active share of 83% on average—the highest across all fund categories. On aggregate, funds have clocked 30.6% over three-year time frames, outperforming the index return of 28.7%. Is it because the funds squeezed the most out of their bold active bets?

It turns out that this is far from reality. The funds ranked in the top quartile in terms of active share have fetched 31.7%, lagging behind the 32.45% return of the least active funds. To be sure, only two of the five boldest small cap funds—Tata Small Cap and Quant Small Cap—have outperformed the index consistently. SBI Small Cap, DSP Small Cap and Kotak Small Cap have all trailed the index with alarming regularity.

Here is the really interesting part: All five of the schemes running the lowest active share in this category have beaten the index. This includes Nippon India Small Cap, Canara Robeco Small Cap, HSBC Small Cap, Edelweiss Small Cap and Franklin India Small Cap.

The verdict is unequivocal, according to PrimeInvestor’s Ramachandran. “For investors, small cap funds offer a sobering lesson about the dangers of conflating activity with skill. The best managers in this space seem to be those who resist the temptation to be maximally different and instead focus on being selectively smart,” he asserts.

Flexi cap funds

With their flexible mandate and vast investible universe, flexi cap funds enjoy the broadest freedom—required only to keep 65% in equities, with no sector limits. Yet most don’t fully exploit it. The category’s average active share stood at 63%—lower than mid- and small-caps—though individual funds varied widely, from Canara Robeco Flexi Cap’s 48% to Quant Flexi Cap’s 82% and Parag Parikh Flexi Cap’s 79%.

How active share is calculated

It is the inverse of overlap between the fund and its index.

Performance has been middling. The category’s three-year rolling return of 19.56% barely edged past the index’s 19.46%. A modest correlation (0.38) exists between active share and returns, with top-quartile funds in terms of active share averaging 20.5% versus 19.6% for the least active funds. However, the link remains shaky. Quant Flexi Cap’s standout 30.8% return skews the picture, while Parag Parikh is the only other high active share fund to beat the index consistently. Meanwhile, several funds with modest active share—Edelweiss, Union, HSBC— delivered steady outperformance without straying too far.

Large cap funds are constrained in taking bold calls

Contribution of active share to fund return is insignificant.

Mid cap funds enjoy more freedom, but lag index

Barring two outliers, high active share has not translated into outperformance.

Flexi cap funds offer the best evidence that active share can matter, suggests Ramchandran. “But even here, the correlation remains weak enough that fund selection should focus on manager skill rather than simply deviation metrics,” he says.

Bold not always beautiful

In actively managed funds, pursuing bold deviations offers a ticket to outsized performance. “Rarely is the benchmark itself the ideal portfolio to invest in, so it is expected that a manager goes beyond it to generate excess returns over the benchmark,” points out Nirav Karkera, Head of Research, Fisdom. “The preferred managers will be those who can consistently identify and execute high-conviction active bets relative to the index. This includes taking sizeable overweight or underweight positions, or even choosing to have no exposure at all, in certain stocks or sectors, regardless of their representation in the benchmark,” says Kunal Valia, Founder and Compliance Officer, StatLane, a Securities and Exchange Board of India (Sebi) registered Research Analyst. For DSP Mutual Fund, running a high active share is not the goal, but rather an outcome of their investment approach. “We don’t set out to be different; we set out to be right,” insists Kalpen Parekh, CEO, DSP MF. He explains that indices, by design, reward size and liquidity, not necessarily future cash compounding. This makes it unwise to follow the index blindly, but avoiding such crowding creates distinct positions, which naturally leads to high active share.

But even as this pursuit can prove rewarding, it often leads fund managers into tight spots. Experts point out that active share can cut both ways. Rajani Tandale, Senior Vice President, Mutual Fund at 1 Finance, observes, “Active share shows the manager’s intent to be different, but it’s not proof of superior active management by itself. If those active bets are backed by strong research and solid stock-picking, the fund can deliver impressive outperformance. If not, it can lead to significant underperformance.” DSP MF’s Parekh argues, “Markets can often reward liquidity and momentum in the short run, and in such phases, our differentiated stance may lag. But when fundamentals like cash flow quality, governance, and capital discipline regain importance, the benefit of our approach becomes evident.”

Further, evidence suggests funds can achieve healthy outcomes without straying far from the index. Valia reckons, “Excess returns do not always require a high degree of deviation from the benchmark. Success can also depend less on the extent of deviation and more on the effectiveness of it. Even modest tilts can compound into meaningful alpha over time.”

Flexi cap funds roam with limited success

Despite freedom to stray, funds have exhibited erratic outcomes.

Small cap funds show why not to conflate activity with skill

Funds running lower active share show that execution matters.

Tandale suggests that funds with low active share may yet achieve better outcomes because their strategy relies less on extreme stock-level deviations and more on smart tilts or factor exposures, such as favouring highquality companies or low-volatility stocks. In other cases, the strength lies in execution: fund managers who excel at timing, risk control, or careful position sizing can generate meaningful outperformance. Karkera adds “There are phases when the benchmark itself is close to the ideal portfolio. In broad-based rallies, an index-hugging strategy can effectively capture returns. During secular rallies led by dominant factors, low active share but strong participation in those factors can deliver absolute returns.”

Evaluating active share

Active share is one ingredient for generating excess returns, but execution matters. Edelweiss MF, which has exhibited consistent outcomes with limited deviations, admits active calls can’t be rigid. “Active share is a dynamic measure that evolves with changing market conditions, relative valuations, and the opportunity set available. It may vary meaningfully as the manager responds to market dynamics and valuations over time,” insists Radhika Gupta, MD & CEO at Edelweiss Asset Management. DSP MF’s Parekh emphasises discipline in sizing and portfolio construction. “We concentrate where conviction is high and expected value is strong, but we are equally humble where uncertainty is higher. That balance helps us aim for better outcomes.”

Evidence of high active share showing superior outcomes is weak

Many funds taking bold calls have struggled even as conservative ones have put up a decent show.

High active share is neither good nor bad. Karkera says, “Active share is simply an indicator of how independent a fund’s portfolio is from its benchmark. At best, it shows whether a fund manager is genuinely active or drifting toward ‘closet indexing’.” Valia maintains, “Active share is just one dimension of evaluating an active fund; it does not by itself guarantee outperformance over the benchmark.” It must be read in conjunction with other metrics. For instance, the Information Ratio shows how much excess return the manager delivers per unit of risk taken, making it a sharper test of skill. Up- and down-capture ratios provide insight into how the fund performs across different market cycles. The consistency of outperformance across rolling periods indicates whether it is due to skill or luck. Piyush Gupta, Director – Funds Research, Crisil Intelligence, says, “Investors should use the active share as one of the tools to understand the investment style of the fund manager rather than as a measure of expected performance.