How many flexi-, mid- & small-cap funds should the rich own?

Summary: More funds don’t always mean more safety; sometimes, they just water down your winners. Find out why wealth can quietly make your portfolio… ordinary.

There’s a special kind of confusion that only money can buy. Not “how do I pay my bills?” kind, but the “I have Rs 1 crore, what now?” kind.

For most people, investing begins with the need for survival. Build an emergency fund, buy insurance, save for the future. But once those boxes are ticked and your finances finally feel comfortable, a strange restlessness sets in. The pursuit of growth becomes a quest for perfection.

The irony of wealth is that it doesn’t bring peace; it brings second-guessing. You start asking whether you could be doing better, whether you should own more funds, more categories, more sophistication. That’s when portfolios start to grow sideways instead of forward.

The rich man’s diversification dilemma

As the corpus expands, so does the temptation to diversify endlessly. A large portfolio feels incomplete without a few more names added to it. More funds seem to promise more safety, and at the very least, they look impressive.

But a closer look at what’s inside these funds tells a different story. Large-cap and flexi-cap schemes often hold nearly identical portfolios. The overlap between the two categories stands at around 48 per cent, meaning half of what you own in one fund probably already exists in another.

What seems like variety is often repetition. Ten funds do not necessarily spread your risk better than six if they all own HDFC Bank, Reliance Industries, Infosys or ICICI Bank. During market swings, they rise and fall together, delivering the same experience dressed in different labels.

So while the number of funds may grow, the protection does not. This is diversification in form, not in substance.

When diversification starts hurting performance

Diversification is important, but only up to a point. The first few funds add balance risk and improve your returns. But adding too many can actually hurt performance.

Here’s why. Every time you add a new fund, your money gets split into more parts. The top-performing funds — the ones really driving your returns — start getting a smaller share of your total portfolio.

Take a look at the table below. It shows what happens when you keep adding new funds in the same category — flexi-cap, mid-cap and small-cap — one by one.

From the above data, you can see a clear pattern:

• The returns are highest when there are only one or two top-performing funds.

• As more funds are added, returns start to drop.

• By the time you reach 10 to 12 funds, the average return across all categories begins to flatten out.

This shows that adding new funds doesn’t necessarily add new opportunities. Instead, it reduces the impact and weight of your best funds. As a result, the portfolio starts to behave more like the market average.

In simple terms, spreading your money too wide spreads your success too thin.

Lower risk or just lower return?

Many investors assume that even if adding more funds doesn’t improve returns, it must at least make the portfolio safer. That’s not true, at least in most cases.

To test how much safety adding more funds actually provides, we ran a simple experiment. Imagine building your portfolio in batches: you start with one flexi-cap fund, one mid-cap fund and one small-cap fund, giving each an equal weight of 33.33 per cent. That makes your first set of three funds. Then you repeat the process — add another flexi, another mid, another small — until you reach as many as 12 funds, or four from each category.

Before we move to the findings, it’s worth understanding what we mean by volatility. In simple terms, it’s how much your portfolio’s value swings up and down. The more it moves, the riskier it feels.

To measure this, we use something called standard deviation, which tells us the typical amount by which returns deviate from their average. A lower number means smoother performance; a higher number means bumpier returns.

Now, to make the test more complete, we created three separate versions of this experiment:

1. One uses the least volatile funds or those with the lowest 12-year standard deviation.

2. One uses average volatility funds.

3. And one version that had the most volatile funds. Meaning, those funds with the highest 10-year standard deviation.

Our observation

Most investors believe that adding more funds will smoothen out their portfolio’s ups and downs. But the data here tells a very different story.

Least volatile portfolio

Upon investigating the data, we found that the least-volatile portfolio actually had the opposite effect. The overall standard deviation began to rise slightly. This means the portfolio became less stable as more funds were added.

We also looked at the return-adjusted risk, which can be thought of as what you earn for every unit of risk you take. For example, if a fund has delivered an average five-year rolling return of 18 per cent and its standard deviation is 12 per cent, then its return-per-unit-of-risk would be 1.5 (that’s 18 divided by 12). The higher this figure, the better the fund has rewarded you for the level of volatility you accepted.

Essentially, diversification diluted efficiency instead of improving it.

The most volatile portfolio

Here, the results looked different but told a similar story. The standard deviation (volatility) did decline as we added more funds. However, the return-adjusted risk also went down. In other words, the effort to calm the portfolio came at the cost of reduced performance.

The average portfolio

Then there’s the average volatility portfolio, the one most investors typically hold. Here, adding more funds barely moved the volatility needle. Whether you added six funds or 12, the portfolio’s volatility and return-adjusted risk efficiency stayed almost unchanged. It neither became safer nor more rewarding, as you can see in the table below.

So, when should you add a fund from the same category?

1. Choose funds that truly diversify and can reduce volatility

Before you add a new fund, make sure it brings something different to your portfolio. If it holds many of the same stocks as your existing funds, it’s not adding value; it’s just adding clutter. The goal is to include funds that introduce new companies or sectors you don’t already own.

You can check this easily by looking at the fund’s factsheet or visiting the Value Research website, where each fund’s holdings and overlap with others are clearly shown.

2. Diversify by investment style

Diversification isn’t only about categories; it’s also about how a fund invests. Some funds follow a growth approach—focusing on companies expanding quickly—while others follow a value approach, selecting strong businesses that may be temporarily undervalued. Having a mix of both styles helps balance your portfolio across market phases.

Together, they smooth your returns over both the short and long run. To know which style a fund follows, check its portfolio composition page on our website or review the fund’s factsheet for its listed investment style.

3. Spread across fund houses

Funds of an AMC (asset management companies, or fund houses) often share a similar research process and investment mindset. So, choosing funds from multiple fund houses broadens the range of ideas and reduces dependence on a single strategy.

4. Let every fund serve a purpose

Each addition should do one of three things: improve potential returns, lower correlation, or fill a meaningful gap. If it does none of these, it adds clutter, not value.

The last word

A well-built portfolio isn’t the one with the longest list of funds. It’s the one where every fund earns its place. True sophistication comes from simplicity, even if you have a crore or two in your portfolio.

Simplify your portfolio, amplify your returns

Build a portfolio that’s smart, not crowded. With Value Research Fund Advisor, you’ll know exactly which funds deserve a place and which ones only look good on paper. Invest with clarity, cut the clutter and let your money work harder for you.

Explore Fund Advisor today

Also read: Diversification is killing returns

This article was originally published on November 11, 2025.