What is Mutual Fund Portfolio Overlap?

Investing in mutual funds is a popular way to grow wealth over time. However, while diversifying your portfolio is essential, an often overlooked aspect is portfolio overlap. Understanding mutual fund portfolio overlap can help you avoid over-concentration in specific stocks or sectors. 

This blog will explain what portfolio overlap is, how to check for overlap in mutual funds, and why it’s crucial to compare mutual funds’ overlap before making investment decisions.

Overview of Mutual Fund Portfolio Overlap

Mutual fund portfolio overlap occurs when two or more mutual funds have similar investments in the same stocks or securities. 

For example, if you invest in two different funds, and both own shares of companies like Reliance or Infosys, this creates an overlap. 

While investing in multiple mutual funds is a good way to diversify your investments, too much overlap can reduce the benefits of diversification. 

Instead of spreading risk, you may end up concentrating your money in the same assets. This can increase your exposure to risk if those particular stocks or sectors perform poorly. 

Therefore, understanding and checking for portfolio overlap is important to ensure that your investments are truly diversified and that you’re not unintentionally putting too much of your money into the same stocks.

Example of Portfolio Overlap

When investing in multiple mutual funds, it’s important to check for portfolio overlap to ensure you’re not unintentionally concentrating your investments on the same stocks. 

Let’s look at an example comparing two popular large-cap mutual funds in India: The SBI Bluechip Fund and the HDFC Top 100 Fund. 

By analysing their portfolios, we can see how much they overlap in specific stocks like HDFC Bank, Reliance Industries, and Infosys. 

In this, the “Total Overlap” percentage for both funds is calculated by adding the percentage holdings of HDFC Bank, Reliance Industries, and Infosys across both funds.

For both SBI Bluechip Fund and HDFC Top 100 Fund, the total overlap is 39.89%. This means that nearly 40% of the portfolios of these two funds are invested in the same three companies.

This total overlap indicates that while you may own two different mutual funds, a substantial portion of your investment is concentrated in the same stocks, which can reduce diversification.

Why Is Portfolio Overlap Important?

The importance of Portfolio Overlap are:

• Portfolio overlap affects how well your investments are diversified.
• Diversification reduces risk by spreading money across different assets, like stocks, bonds, or sectors.
• The goal of diversification is to balance risk, so if one investment underperforms, others may perform better.
• Significant overlap in mutual funds can compromise diversification.
• When multiple funds hold the same stocks, you’re investing in the same companies multiple times.
• This increases your exposure to specific stocks or sectors.
• Poor performance in overlapping stocks or sectors could impact your entire portfolio.
• Portfolio overlap can lead to a concentration of investments in specific sectors.
• If those sectors experience a downturn, your portfolio is more vulnerable to sector-specific risks.
• Too much portfolio overlap increases investment risk and reduces the benefits of diversification.
• Monitoring and managing portfolio overlap is essential to maintain effective diversification in your mutual funds.

How to Check Overlapping in Mutual Funds

Checking for mutual fund portfolio overlap is a simple process that can help you understand how diversified your investments really are. Here are a few methods to do it:

Fund Fact Sheets

Mutual fund companies typically provide fact sheets that list the top holdings of their funds.

By reviewing and comparing the fact sheets of different funds, you can spot common stocks they both hold. This helps you see where overlaps occur.

Online Tools

There are several online tools available that make checking for portfolio overlap easy. These tools allow you to compare multiple mutual funds and see the percentage of overlap between them. 

They also highlight which specific stocks are shared between the funds, giving you a quick overview of how much overlap exists.

Manual Comparison

If you prefer doing things manually, you can compare the portfolios of two or more mutual funds by examining their holdings. 

This involves looking at each fund’s list of stocks and identifying any that appear in multiple funds. While this method takes more time, it offers a detailed view of exactly where your investments overlap.

Comparing Mutual Fund Portfolio Overlap

When comparing mutual funds, it’s important to pay attention to how much their portfolios overlap. Overlap can reduce the benefits of diversification, so understanding it helps you make better investment decisions. Here are key factors to consider:

Percentage of Overlap

This tells you how much of the funds’ portfolios are the same. If the percentage of overlap is high, it means the funds share many of the same investments. 

This can limit your diversification because you’re not spreading your investments across different assets as effectively.

Concentration in Specific Stocks

Even if the overall percentage of overlap is low, you should look at how much of the funds are invested in the overlapping stocks. 

If these stocks make up a large part of both funds, your portfolio could be too heavily focused on a few companies, which increases risk.

Sector Overlap

It’s also important to check if the funds are concentrated in the same sectors, such as technology or finance. 

If they are, and that sector faces a downturn, all the overlapping funds in your portfolio could be affected, putting your investments at greater risk.

By carefully comparing these factors, you can ensure that your mutual fund investments are truly diversified and balanced.

Conclusion

In conclusion, portfolio overlap is a critical factor to consider when diversifying your mutual fund investments. By understanding and comparing mutual fund portfolio overlap, you can make informed decisions and avoid over-concentration in specific stocks or sectors. Remember, the goal is to build a well-diversified portfolio that minimises risk while maximising potential returns.

So, the next time you’re adding a new mutual fund to your portfolio, make sure to check for any overlaps to ensure your investments are truly diversified.