Equity mutual funds cash rich even as inflows decline, shows data

Equity mutual fund (MF) schemes were flush with cash at the start of this month, even as fresh investments shrank in February.  As of February 28, equity schemes from the top 20 fund houses held 6.8 per cent of their portfolios in cash, up from 6.1 per cent in January and 5.9 per cent in December 2024, according to a report by Motilal Oswal Financial Services. This marks the highest aggregate cash holding since at least May 2021. 

Cash levels are often viewed as an indicator of fund managers’ market outlook. While MF executives emphasise their mandate to remain fully invested, they strategically maintain cash reserves during periods of market uncertainty, expectations of better buying opportunities ahead, or excessive valuations. 

However, experts note that changes in cash levels in equity schemes can also be transitory, driven by sizeable portfolio adjustments or sharp inflows or outflows at month-end. Cash holdings (as a percentage of total assets) is also subject to the market movement. Even if cash holdings remains the same at an absolute level, the percentage will go up during market correction due to decline in value of equity holdings. 

The equity market has been in a correction phase for several months. In February, it recorded its fifth consecutive monthly decline. The benchmark Nifty 50 fell 5.9 per cent, while midcap and smallcap indices dropped over 10 per cent. 

Despite the recent correction easing equity valuations, fund managers highlight that valuations beyond the largecap space remain expensive. Midcap and smallcap stocks, which attract the majority of MF inflows, continue to trade at an appreciable premium to largecaps, although this premium has narrowed in recent months. According to a Tata MF note, the valuation premium for the Nifty Midcap 100 versus the Nifty 50 declined to 47 per cent by the end of February 2025, down from a high of about 71 per cent in July 2024. Similarly, the valuation premium for smallcaps versus the Nifty 50 also fell to 25-30 per cent in February. 

Among the top 20 fund houses, SBI, Axis, DSP, and Tata saw notable increases in cash holdings in February. However, only four fund houses — Axis, Quant, Motilal Oswal, and Parag Parikh — held cash levels above 10 per cent. Fund managers suggest that while short-term market turbulence may persist, the correction has created buying opportunities for long-term investors. 

SBI MF noted in a report, “We believe the turbulence offers saner entry points for long-term investors. The mid- to long-term outlook for equities remains tied to an earnings upcycle. While we are navigating a near-term slowdown, medium-term trends remain encouraging.”