As deposit and credit growth accelerate in the Indian financial sector, concerns surrounding asset quality are expected to ease. This positive development strengthens the case for financial stocks, as improved asset quality fosters investor confidence and enhances the overall stability of the financial markets. While mutual fund inflows have shown a downward trend in recent months, targeted fund categories have managed to defy the odds, emerging as the only equity fund segment to record an increase in net flows for February 2025.
According to data from the Association of Mutual Funds in India (AMFI), equity-oriented mutual fund schemes witnessed a significant 26.17% decline in inflows, dropping to ₹29,303 crore last month. However, targeted funds bucked the trend, experiencing a robust 64.45% increase in net investments. This surge pushed net inflows into targeted funds to ₹1,287.72 crore in February 2025, a significant rise from ₹783.07 crore recorded in January.
This increase in targeted fund inflows came at a time when major stock indices like Sensex and Nifty suffered corrections of over 6%. Meanwhile, inflows into small-cap, mid-cap, and large-cap funds declined by up to 35%. The contrasting trends highlight shifting investor sentiment and a growing preference for focused investment strategies.
Understanding Targeted Funds: A High-Conviction Investment Approach
Targeted funds, also known as focused funds, are a distinct category of equity mutual funds that allocate capital to a concentrated portfolio of 20 to 30 stocks. Unlike diversified funds such as flexi-cap, large-cap, and mid-cap funds, which typically contain between 50 to 70 stocks, targeted funds emphasize a selective, high-conviction investment approach. Financial Stocks
The strategy behind targeted funds is to identify a limited number of stocks with strong growth potential, allowing fund managers to focus on generating higher returns from a concentrated selection of equities. This approach is particularly appealing to investors seeking exposure to a curated portfolio that capitalizes on specific market trends and economic cycles.
Market Correction and Its Impact on Mutual Funds
Since January 2023, net outflows from targeted funds have been influenced by several factors, including stellar performance in mid-cap and small-cap segments and increased investor interest in thematic funds. Between February 2023 and February 2025, targeted funds were the only category to record net outflows amounting to ₹1,821 million. Financial Stocks
The impressive returns delivered by mid-cap and small-cap funds over the last two years led to a recency bias among investors, prompting them to shift their capital away from concentrated funds in favor of higher-growth opportunities in smaller market-cap segments. Additionally, thematic funds gained substantial traction due to the introduction of multiple new fund offerings (NFOs) within this category.
A Shift in Investor Sentiment
Over the past three months, market trends have undergone notable shifts. Net inflows into large-cap funds have increased by 11%, while targeted funds have seen a remarkable 67% growth in net investments. Conversely, net inflows into mid-cap funds have plummeted by 43%, and small-cap funds have suffered a 10% decline due to heightened market volatility. Financial Stocks
Trideep Bhattacharya, Chief Investment Officer of Equities at Edelweiss Mutual Fund, explains the rationale behind this shift: “When the business cycle is on an upward trajectory, earnings momentum tends to be broad-based, benefiting companies across market-cap groups. This scenario favors diversified investment strategies with extensive stock portfolios.”
However, Bhattacharya notes that as the economy enters a more challenging phase—whether due to a mid-cycle slowdown or late-stage economic cycle—earnings momentum becomes concentrated in fewer stocks. Under such conditions, high-confidence bets on select companies tend to outperform broader investment strategies that spread capital across multiple Financial Stocks.
The Appeal of Targeted Funds During Economic Uncertainty
Feroze Azeez, Deputy CEO of Anand Rathi Wealth, attributes the recent surge in targeted fund inflows to their inherent bias toward large-cap stocks. He explains that during periods of market turbulence, investors gravitate toward stability, which large-cap stocks typically offer. Given that targeted funds often allocate a higher proportion of assets to large-cap companies, they provide a relatively safer investment avenue compared to mid-cap and small-cap funds.
Azeez also highlights the role of recency bias in shaping investor behavior. “When assessing various mutual fund categories, large-cap-focused funds have consistently outperformed in recent months. This historical success tends to attract more investors, leading to increased allocations in targeted funds.”
Furthermore, targeted funds offer greater flexibility in fund management compared to rigid structures found in other mutual fund categories. Unlike flexi-cap funds, which have the most inflows this month, targeted funds allow fund managers to maintain concentrated positions based on high-conviction investment strategies.
Will Targeted Funds Sustain Their Growth Momentum?
Since November 2024, net inflows into targeted funds have exhibited a consistent upward trend, with February 2025 witnessing the most significant monthly growth. Given current market conditions, financial experts anticipate that this momentum may continue in the coming months.
Bhattacharya remains optimistic about the prospects of targeted funds, stating, “Market cycles will continue to evolve, but if economic growth remains subdued, targeted funds are likely to deliver superior performance compared to other mutual fund categories.”
However, analysts caution that during market corrections, investors are unlikely to completely shift their portfolios toward targeted funds. Instead, they may opt for fund categories that offer greater flexibility in active management.
Investor Preferences Amid Market Volatility
During periods of heightened market uncertainty, investors tend to favor “safer” investment options, including large-cap funds, flexi-cap funds, and dividend-yield funds. These categories offer more stability and predictable returns, making them appealing choices for risk-averse investors.
The focused fund category currently comprises 29 mutual funds, the majority of which are predominantly invested in large-cap equities. Given their large-cap orientation and strong historical performance, analysts expect investor allocations to targeted funds to increase in the near future. However, a complete shift toward this category remains unlikely, as investors continue to explore diversified investment avenues.
Conclusion: Navigating the Future of Targeted Funds
The recent surge in targeted fund inflows underscores a fundamental shift in investor sentiment, driven by market volatility and economic uncertainty. As credit and deposit growth accelerate, concerns over asset quality are diminishing, reinforcing the investment appeal of financial stocks and mutual funds.
Targeted funds, with their high-conviction investment approach and emphasis on select large-cap stocks, have emerged as a preferred choice for investors seeking stability and growth potential. However, market dynamics remain fluid, and investors must adopt a strategic approach to portfolio allocation, balancing exposure to targeted funds with diversified investment strategies that align with broader economic trends.
Moving forward, financial markets will continue to evolve, presenting both challenges and opportunities for investors. By staying informed and making data-driven investment decisions, investors can navigate market fluctuations effectively and capitalize on emerging growth prospects within the mutual fund landscape.
