More mutual funds don't always mean better diversification. Here's how to spot portfolio overlap

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Over the years, it’s easy to accumulate schemes. You start a SIP in one fund, add another after a recommendation, invest in an ELSS to save tax, and perhaps buy a flexi-cap fund after seeing its recent performance. Before long, your portfolio could have six, eight or even 10 mutual fund schemes.

India’s mutual fund industry today offers investors a choice of 1,945 schemes. While that means more investment options, it also increases the chances of ending up with multiple funds that invest in many of the same companies.

This is known as portfolio overlap, when different mutual fund schemes hold a significant number of common stocks, sectors of investment styles. While some overlap is inevitable, too much of it can reduce the diversification investors think they’re getting.

Even different mutual funds can end up owning the same stocks

Portfolio overlap isn’t just a theory, it is fairly common, even among popular mutual funds.

The first example shows that two actively managed large-cap funds can have more than half of their portfolios in common. The second shows that overlap isn’t limited to the same category, even a large-cap fund and a flexi-cap fund can share nearly one-third of their holdings.

The takeaway is simple: different fund names, or even different categories, do not automatically mean different portfolios.

More funds don’t always mean better diversification

Many investors believe adding more mutual funds automatically spreads risk. “Diversification is about the uniqueness of exposure each fund provides, not the number of schemes in your portfolio,” says Vijay Maheshwari, Founder of Stocktick Capital.

If several funds invest heavily in the same banking, IT or energy stocks, they are likely to move in a similar direction during both market rallies and corrections. As a result, investors may unknowingly be taking concentrated bets despite owning multiple funds.

Aditya Agarwal, Co-Founder of Wealthy.in, points out, “Most diversified equity mutual funds already own 40 to 100 companies. Adding more schemes does not necessarily improve diversification if the underlying holdings continue to overlap. Beyond a point, investors may simply end up tracking more funds without meaningfully reducing risk.”

How to check if your portfolio has excessive overlap

A few simple checks can quickly reveal whether multiple funds are providing similar exposure.

Experts also recommend reviewing your portfolio whenever you add a new fund, increase your SIP or rebalance investments. The real test of diversification is not the number of schemes you own, but whether each one adds something different to your portfolio.

How many mutual funds do you really need?

There is no ideal number of mutual funds for every investor. It depends on factors such as portfolio size, investment goals and asset allocation. However, Agarwal says, “investors often end up owning more schemes than they actually need.”

These broad thumb rules can help:

Portfolio up to Rs 25 lakh: Around 3-4 well-chosen funds are generally sufficient.

Portfolio around Rs 50 lakh: Around 4-6 funds may be adequate.

Portfolio of Rs 1 crore and above: Even larger portfolios usually do not need more than 8-10 funds.

Maheshwari also believes that. He adds, “In many cases, a portfolio of three to five differentiated funds can provide effective diversification.”

• However, both experts stress that these are broad guidelines rather than fixed rules. What matters more is ensuring that every fund has a clearly defined role instead of duplicating another investment.Found significant overlap? Don’t rush to redeem Discovering portfolio overlap doesn’t automatically mean you should sell a fund. Some overlap is perfectly normal, especially among diversified equity funds that invest in India’s largest companies. The concern arises when two or more schemes are offering almost identical exposure and serving the same purpose in your portfolio.Before making any changes, review a few key factors:
• Does each fund have a clearly defined role in your portfolio?
• Are two or more funds investing in largely the same stocks and sectors?
• Which fund has been more consistent over time and delivered better risk-adjusted returns?
• What will be the tax implications and exit loads if you redeem?
• Can you simply redirect future SIPs instead of selling your existing investments?Maheshwari recommends consolidating gradually rather than making abrupt changes, as phased withdrawals or redirecting future SIPs can help reduce the tax impact.

While Agarwal adds, “The objective should be to remove unnecessary duplication, not every common holding. If two funds have some overlap but serve different purposes, there may be little reason to exit either one.”

With nearly 2,000 mutual fund schemes available today, reviewing your portfolio has become just as important as choosing a new investment. The goal isn’t to own the highest number of funds, but to ensure every scheme has a clear role and genuinely adds to your portfolio’s diversification.

Disclaimer: The views and investment tips expressed by experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.