Equity Mutual Funds – How to evaluate, compare and pick ?

Equity mutual funds are investment vehicles that pool money from multiple investors to invest predominantly in stocks or equities of various companies. They offer investors the opportunity to participate in the potential returns and growth of the stock market, managed by professional fund managers.

Investing in equity mutual funds can be an exciting way to grow your money over time. However, before you dive in, it’s crucial to familiarize yourself with some important terms that will help you make informed investment decisions.

Formulae mention in this article is only for the purpose of understanding and it is not necessary for an investor to remember these formulae.


Beta is a measure of risk that tells us how much a mutual fund’s returns typically move in relation to the overall market. The formula to calculate beta is:

Beta = Covariance(Fund Returns, Market Returns) / Variance(Market Returns)

A beta less than 1 indicates that the fund may be less volatile than the market, which implies lower risk. A beta greater than 1 suggests the fund could be more volatile, indicating higher risk. In general, a lower beta is considered better for conservative investors, while a higher beta may be suitable for those seeking higher returns at a higher risk.



Alpha measures a mutual fund’s ability to outperform its benchmark index, considering the risks taken by the fund manager. A positive alpha suggests that the fund has performed better than expected, while a negative alpha means the fund underperformed. A higher alpha is generally considered better.

Example: Fund B has generated an alpha of 2%. This implies that the fund has outperformed its benchmark index by 2% after adjusting for the risk it took. Positive alpha indicates the fund manager’s skill in generating excess returns.


Standard Deviation

Standard deviation shows how much a mutual fund’s returns have varied from its average return over time. It measures the fund’s volatility. A higher standard deviation indicates greater volatility, while a lower standard deviation suggests more stable returns. Lower standard deviation is generally preferred for conservative investors.

Comparing standard deviation with the industry benchmark would give a better idea about the volatility of the particular fund.


Sharpe Ratio

The Sharpe ratio assesses the risk-adjusted returns of a mutual fund. It measures the excess return earned per unit of risk taken. The formula to calculate Sharpe ratio is:

Sharpe Ratio = (Fund’s Return – Risk-Free Rate) / Standard Deviation of Fund’s Returns

(90-day Treasury bill rate is taken as risk-free rate)

A higher Sharpe ratio indicates better risk-adjusted returns. Therefore, a higher Sharpe ratio is generally preferred.


Capture Ratio

It is metric to evaluate how well the fund captures both upside and downside returns. Comparing the fund’s capture ratio with that of its category provides insights into its relative performance in different market conditions.

Example: Fund X has an upside capture ratio of 99, indicating that it captures 99% of the positive returns of the benchmark index. Its downside capture ratio is 119, implying that it captures 119% of the negative returns of the benchmark. A lower downside capture ratio is generally preferred as it means the fund has managed to avoid a significant portion of the benchmark’s losses during market downturns. Ideally, investors seek a mutual fund with a capture ratio close to or above 100% for positive returns and below 100% for negative returns, signifying outperformance during upward movements and minimized losses during downward movements.


Expense Ratio

The expense ratio represents the annual fees charged by the mutual fund company for managing the fund. It is expressed as a percentage of the fund’s assets. A lower expense ratio is generally better for investors as it means lower costs.

Note: Expense ratio is deducted from the total investment, not just the profits.

Image Source: ValueResearch.com


Rolling Returns

Rolling returns calculate investment returns over specific periods, like one, three, or five years, continuously moving forward. They give a comprehensive perspective on a mutual fund’s performance by considering various holding periods. By analyzing rolling returns, investors can evaluate a fund’s consistency and stability over time, filtering out short-term fluctuations.

Rolling returns are a more useful metric of investment performance than CAGR with respect to mutual funds. This is because mutual funds are often subject to significant volatility, and CAGR can be misleading in these cases. Rolling returns can help to smooth out the volatility and provide a more accurate picture of the fund’s performance over time.


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