How relevant is "Overlap" between funds in Portfolio Construction

Investing in Mutual funds is extremely popular and one of the best ways to get equity exposure for retail investors who do not want to or cannot invest directly into stocks. Investing in Mutual funds also seems like a maze, with more than 30 Mutual Fund houses and more than 300 equity schemes. To add to this there are various metrics on which MFs can be evaluated pertaining to risk, returns, rewards, etc. Now, if you managed to get all this analysis done and shortlisted 5-7 funds to invest in, someone would throw in more thing to look at – Overlap between the chosen funds.

Overlap essentially means, in two MF schemes the number of common stocks they hold or the value of stocks that they hold is common. If two funds have 40 stocks each in their portfolio and out which 30 stocks are common, that is a 75% overlap. Having two schemes with a high overlap is not recommended because it would essentially mean:

1) The funds behave similarly

2) You may not get diversification

3) You may not reduce risk meaningfully

On a social media post one investor posted his monthly SIP plan and asked for feedback. He had planned the following:

1)      Parag Parikh Flexicap: INR 5,000

2)      DSP Flexicap: INR 5,000

3)      UTI Nifty 50: INR 5,000

4)      Axis Midcap: INR 5,000

5)      ICICI Largecap: INR 5,000

Most comments revolved around the fact that there would be too much overlap especially in the largecap space since Parag Parikh Flexicap, DSP flexicap, Nifty 50 and ICICI Largecap would be largecap focussed. A lot of recommendations were to invest either in only in Nifty 500 or a combination of Nifty 50 and Nifty 500 only, which would provide better returns than the above portfolio.

While it is true the overlap would be significant and even I would not recommend such an overlap, we do not know the actual returns had such a portfolio been created. I thought of doing back testing of such a portfolio and comparing with Nifty 50 and Nifty 500.

Table 1 – Returns from January 2014 to September 2025

	XIRR
	SIP	Point to Point
UTI Nifty 50	13.30%	13.40%
Nifty 500	14.90%	15.30%
SIP portfolio of 5 MFs	17.10%	17.80%

Clearly returns are much higher for the proposed SIP plan rather than just going for a Nifty 50 or Nifty 500, even a combination of Nifty 50 and Nifty 500 which would have given returns of ~14% p.a. Now let us check how consistent is this combination in beating the two index.

Table 2 – No. of months (out of 140) in which individual MFs and 5 MF portfolio would have given higher returns than Nifty 50 or Nifty 500

	Nifty 50	Nifty 500
ICICI Largecap	139	121
Parag Parikh Flexicap	135	129
DSP Flexicap	131	130
Axis Midcap	138	138
Proposed SIP Portfolio	139	129

The interesting part is, this SIP combination would have lowered overall risk and volatility as well. Over the course of the investment (140 months), the proposed 5 MF SIP combination would have beaten Nifty 50 in 139 months and Nifty 500 in 133 months. The table clearly shows that adding more schemes has a better chance of providing consistent returns compared to investing in any one largecap or flexicap fund. In terms of maximum drawdown, the SIP portfolio would have given better downside protection in 8 out of 11 years against the Nifty 50 and 10 out of 11 years against the Nifty 500.

Conclusion

On paper, mutual funds with high stock overlap may appear inefficient or redundant.

But this criticism only evaluates funds in isolation, not how they behave as part of a real portfolio with real cashflows over long periods. However; data is only available for overlap between schemes, not for performance if multiple schemes with overlaps are taken to form a portfolio. From the example above it seems like despite the overlaps, portfolio performance is good in terms of returns and consistency.

Data Source: Base NAV data taken from www.advisorkhoj.com. Data analyzed through our in-house MF model for returns of individual schemes and portfolio.

Disclaimer- This is not a recommendation to invest in any of the instruments mentioned in the article. Nothing in the article is my solicitation, recommendation, endorsement, or offer. If you have any doubts as to the merits of the article, you should seek advice from an independent financial advisor. or tax advisor. Registration granted by SEBI, BASL membership, and NISM certification does not guarantee the intermediary’s performance or provide any assurance of returns to investors. Investment in the securities market is subject to market risks. Read all the related documents carefully before investing.