Two years ago, a member of our WhatsApp community in Dubai put Rs 30 lakh into a small cap fund. He'd seen the 45% returns from 2023 and wanted in on the action.
By late 2025, that portfolio was down 15%. He messaged us: "I can't sleep at night watching this. Should I have chosen something else?"
Yes, he probably should have. Not because small cap funds are bad. They're not. But because he needed that money in 3-4 years for his daughter's education, and pure equity funds don't care about your timeline.
This is the question behind most NRI investment confusion: Should I go all-in on equity for maximum growth? Or should I choose hybrid funds that mix equity with debt for a smoother ride?
At Belong, we've spent years helping NRIs navigate this choice. The answer isn't which is "better." It's which is better for your specific situation, risk tolerance, and timeline.
This guide breaks down everything: how each works, real 2025 performance data, taxation, volatility during market corrections, and a practical framework for deciding. By the end, you'll know exactly which category suits you.
What Exactly Are Pure Equity Funds?
Pure equity mutual funds invest primarily in company stocks. SEBI mandates they hold at least 65% of assets in equity shares of listed companies. (SEBI)
When you invest in an equity fund, you're buying ownership pieces of dozens or hundreds of companies. Your returns depend entirely on how those stocks perform, which in turn depends on company profits, economic conditions, and investor sentiment.
The Main Categories:
Large Cap Funds: Invest in India's top 100 companies by market value. Think Reliance, TCS, HDFC Bank, Infosys. These companies are established and stable, but growth potential is moderate.
Mid Cap Funds: Focus on companies ranked 101-250. These are growing businesses that could become tomorrow's large caps. Higher growth potential, higher volatility.
Small Cap Funds: Invest in companies ranked 251 and below. Highest growth potential, but can swing 40-50% in a single year. Not for the faint-hearted.
Flexi Cap Funds: Complete freedom to invest across all market caps. The fund manager decides where opportunities are strongest. One fund, full market exposure.
Multi Cap Funds: Must invest at least 25% each in large, mid, and small caps. More structured than flexi cap.
The appeal of pure equity is simple: higher potential returns over long periods. The catch: you have to stomach significant volatility along the way.
👉 Tip: Pure equity funds work best when you have 7+ years to invest and can genuinely ignore short-term swings. If you'll check your portfolio daily and panic during corrections, equity may not suit your temperament.
What Exactly Are Hybrid Funds?
Hybrid mutual funds invest in a mix of equity and debt instruments. Think of them as pre-built diversified portfolios. The fund manager handles the balance between stocks and bonds, so you don't have to.
According to AMFI data, hybrid fund assets crossed Rs 10.03 lakh crore in 2025, with significant growth in balanced advantage schemes. (Business Standard) This growth signals that investors are increasingly seeking the balance hybrid funds provide.
The Main Categories:
Aggressive Hybrid Funds: Invest 65-80% in equity, 20-35% in debt. Get equity-like returns with some downside cushion. These are taxed as equity funds.
Balanced Advantage Funds (Dynamic Asset Allocation): No fixed allocation limits. Fund managers dynamically shift between equity and debt based on market valuations. When markets are expensive, they reduce equity. When cheap, they increase it.
Conservative Hybrid Funds: Keep 75-90% in debt, only 10-25% in equity. Primarily for stability with modest growth. Taxed as debt funds.
Multi-Asset Allocation Funds: Invest across at least three asset classes, typically equity, debt, and gold/commodities. Must hold minimum 10% in each.
Equity Savings Funds: Mix of equity, debt, and arbitrage positions. Maintain 65%+ equity exposure (including arbitrage) for tax benefits while reducing volatility.
Arbitrage Funds: Exploit price differences between cash and futures markets. Low risk, deliver debt-like returns (6-8%) with equity taxation benefits.
The magic of hybrid funds: automatic rebalancing. When equity rises too much, the fund trims it. When it falls, the fund buys more. You get disciplined investing without having to make those decisions yourself.
The 2025 Reality Check: How Both Categories Actually Performed
Theory is nice. Let's look at actual 2025 numbers to see how these categories behaved in a difficult year.
Pure Equity Fund Performance (2025):
Category | Average 1-Year Return |
|---|---|
Large Cap | 6.5% |
Mid Cap | 1.9% |
Small Cap | -4.4% |
Flexi Cap | 2.7% |
Multi Cap | 2.1% |
(Outlook Money, December 2025)
2025 was tough for equity investors. Small caps had their worst year in seven years. Mid caps barely broke even. Only large caps delivered decent single-digit returns.
Hybrid Fund Performance (2025):
Category | Average 1-Year Return |
|---|---|
Aggressive Hybrid | 8.1% |
Balanced Advantage | 5.5-6% |
Equity Savings | 6-7% |
Multi-Asset | 5-8% |
Notice something? In a year when most equity categories struggled, aggressive hybrid funds delivered 8.1% average returns. Their debt allocation cushioned the equity market's volatility.
During the September 2024 - March 2025 Correction:
This period was particularly telling. According to NISM analysis:
- Large Cap Funds fell significantly
- Small Cap Funds fell even more
- Balanced Advantage Funds fell less
- Equity Savings Funds showed the most stability
(NISM)
The message: Hybrid funds do what they're designed to do. They fall less during corrections because their debt allocation acts as a shock absorber.
👉 Tip: Don't judge fund categories by one year alone. But do understand how each behaves during corrections. That tells you what your experience will be like during the inevitable market downturns.
Long-Term Returns: Does Hybrid Lag Behind?
Here's the trade-off you need to understand: Over long periods, pure equity funds typically deliver higher returns than hybrid funds. But hybrid funds deliver those returns with significantly less volatility.
5-Year Returns Comparison:
Fund Type | 5-Year CAGR Range |
|---|---|
Flexi Cap (Top Performers) | 18-27% |
Small Cap (Top Performers) | 26-34% |
Large Cap (Top Performers) | 14-17% |
Aggressive Hybrid (Top Performers) | 15-24% |
Balanced Advantage (Top Performers) | 13-17% |
Specific Fund Examples:
- Parag Parikh Flexi Cap Fund: 20.65% annualized over 5 years (Value Research)
- HDFC Balanced Advantage Fund: 20.34% over 5 years (Groww)
- ICICI Prudential Equity & Debt Fund: 17-19% over 5 years
- Quant Flexi Cap Fund: 27.3% over 5 years (but -2.5% in 2025)
Wait, HDFC Balanced Advantage delivered 20.34%, nearly matching top flexi caps? Yes, but this is one of the best-performing hybrid funds. Category averages tell a different story.
10-Year Returns:
According to NISM analysis, over 10 years:
- Large Cap Funds delivered 11.1% annualized
- Balanced Advantage Funds delivered 10-12% annualized
(NISM)
The gap isn't as wide as you might expect. And during that 10-year period, hybrid fund investors had significantly smoother experiences, sleeping better during multiple corrections.
The Volatility Question: How Much Can You Actually Handle?
Here's what many investors don't realize until it's too late: Your actual risk tolerance is revealed during market crashes, not during rallies.
Everyone is an aggressive investor when markets rise 20%. The question is: Can you hold steady when your portfolio drops 30%?
Drawdown Comparison During COVID (March 2020):
- Pure equity funds: Fell 35-50%
- Aggressive hybrid funds: Fell 20-30%
- Balanced advantage funds: Fell 15-25%
That 15-20% difference in drawdown might seem small on paper. But when Rs 50 lakh becomes Rs 25 lakh versus Rs 37.5 lakh, the psychological impact is massive.
Why This Matters for NRIs:
You're not just dealing with rupee volatility. Add currency fluctuation on top. If the rupee weakens 5% during a market correction, your dollar-denominated losses are even higher.
Many NRIs in our community have told us: "I thought I could handle volatility. Then I experienced it and realized I couldn't." Hybrid funds offer a way to participate in equity markets without the full emotional rollercoaster.
👉 Tip: Be honest about your temperament. If you've never experienced a 30% portfolio drop, don't assume you'll handle it calmly. Start with hybrid funds if unsure, then increase equity exposure as you gain experience.
Taxation: Both Categories Can Be Equal
Here's good news: If structured properly, both pure equity and hybrid funds enjoy the same tax treatment.
For Funds with 65%+ Equity Allocation (FY 2025-26):
- Short-Term Capital Gains (held under 12 months): 20%
- Long-Term Capital Gains (held over 12 months): 12.5% on gains above Rs 1.25 lakh
(Income Tax Department, Tickertape)
This applies to:
- All pure equity funds (large cap, mid cap, small cap, flexi cap)
- Aggressive hybrid funds (65-80% equity)
- Balanced advantage funds (when they maintain 65%+ equity exposure)
- Equity savings funds (including arbitrage in the 65% calculation)
Conservative hybrid funds (with 10-25% equity) are taxed as debt funds, meaning all gains are taxed at your income tax slab rate.
NRI Tax Considerations:
For NRIs, TDS is deducted at source:
- Equity-oriented funds: 20% TDS on STCG, 12.5% TDS on LTCG
- Excess TDS can be claimed by filing an ITR
The tax treatment doesn't give pure equity funds any advantage over aggressive hybrid or balanced advantage funds. Both are treated equally.
The Automatic Rebalancing Advantage
This is hybrid funds' most underrated feature.
When markets rise sharply, a balanced advantage fund automatically reduces equity exposure and locks in profits. When markets crash, it automatically increases equity exposure, buying more at lower prices.
You don't have to make these decisions. The fund manager's model handles it.
Why This Matters:
Most individual investors do the opposite. They buy more equity when markets are at highs (greed) and sell when markets crash (fear). This is exactly backward and destroys returns.
HDFC Balanced Advantage Fund, for example, uses proprietary models to shift between equity and debt. During bull markets, it might hold 50-55% equity. During corrections, it might increase to 70-75%. (Value Research)
This disciplined approach is hard for individual investors to replicate. If you know you won't rebalance your own portfolio (be honest), letting a hybrid fund do it for you is valuable.
👉 Tip: If you've historically bought at market highs and panicked during lows, a balanced advantage fund might actually deliver better returns for you than a pure equity fund you mismanage.
Who Should Choose Pure Equity Funds?
Pure equity funds make sense when:
You have 7+ years before you need the money. Time smooths volatility. Over 7-10 year periods, equity has historically delivered inflation-beating returns despite multiple corrections along the way.
You genuinely won't panic during crashes. This means you've experienced a 30%+ drop before and held steady, or you can honestly ignore your portfolio during downturns.
You want maximum growth and accept maximum volatility. For long-term wealth building, retirement in 15+ years, or legacy planning, pure equity makes mathematical sense.
You're willing to manage allocation yourself. You'll need to decide how much to put in large cap, mid cap, small cap, and rebalance periodically.
You understand currency risk. As an NRI earning in dirhams or dollars, you're taking additional currency risk on rupee investments. Equity volatility compounds this.
Best Pure Equity Options for Long-Term Goals:
For growth with stability: Large cap or flexi cap funds with large cap bias (like Parag Parikh Flexi Cap)
For aggressive growth: Mid cap or small cap funds (only if you have 10+ years)
For diversification: Multi cap funds that spread across all segments
Who Should Choose Hybrid Funds?
Hybrid funds make sense when:
Your investment horizon is 3-7 years. This is the sweet spot for hybrid funds. Long enough for equity to contribute growth, short enough that you need some stability.
You're a first-time equity investor. Hybrid funds provide a gentle introduction to equity markets without the full volatility shock.
You want a single-fund solution. Rather than managing separate equity and debt allocations, one balanced mutual fund handles everything.
You know you'll panic during crashes. Be honest. If you'll sell at the bottom, a hybrid fund's smaller drawdowns might actually deliver better long-term results for you.
You're approaching a financial goal. Have a child's education in 5 years? Planning to return to India in 4 years? Hybrid funds reduce the risk of a market crash derailing your plans.
You want regular rebalancing without effort. Balanced advantage funds automatically adjust based on market valuations. You don't have to do anything.
Best Hybrid Options by Situation:
For moderate growth with stability: Aggressive hybrid funds like ICICI Prudential Equity & Debt Fund
For hands-off investing: Balanced advantage funds like HDFC Balanced Advantage or ICICI Prudential Balanced Advantage
For conservative investors wanting some equity: Equity savings funds
For multiple asset exposure: Multi-asset allocation funds like ICICI Prudential Multi-Asset Fund
The "Why Not Both?" Approach
Here's what many experienced investors do: They don't choose between hybrid and pure equity. They use both.
A Practical Portfolio Structure:
Core (60-70%): Balanced advantage or aggressive hybrid fund. Provides stability and automatic rebalancing.
Satellite (30-40%): Pure equity funds (flexi cap, mid cap, or small cap). Provides higher growth potential.
This approach captures most of equity's upside while limiting downside during corrections. The hybrid core anchors your portfolio. The equity satellite provides growth kicker.
Example Allocation:
- Rs 50 lakh to invest
- Rs 30 lakh in HDFC Balanced Advantage Fund (core)
- Rs 12 lakh in Parag Parikh Flexi Cap Fund (growth)
- Rs 8 lakh in a mid cap fund (aggressive growth)
During a 30% market correction:
- Your flexi cap and mid cap portions might drop 30%
- Your balanced advantage portion might drop only 15-20%
- Your overall portfolio drops 20-22%, not 30%
This structure lets you participate in equity growth while sleeping better at night.
👉 Tip: If you're unsure between the two categories, start with a hybrid fund. You can always add pure equity later as you become more comfortable with volatility.
The GIFT City Alternative: Zero Tax on Both
Here's something most articles won't tell you: For NRIs investing significant amounts, GIFT City funds eliminate the tax question entirely.
GIFT City (Gujarat International Finance Tec-City) offers:
- Zero capital gains tax for NRIs and OCIs
- Zero Securities Transaction Tax (STT)
- No TDS hassles
- Investments can be in USD
Whether you choose equity or hybrid funds through GIFT City, you pay no capital gains tax. This changes the math entirely for large portfolios.
At Belong, we offer access to GIFT City mutual funds including:
- Tata India Dynamic Equity Fund for dynamic equity exposure
- DSP Global Equity Fund for global diversification
For portfolios above Rs 50 lakh, the tax savings from GIFT City funds can be substantial over a 10-15 year period.
Common Mistakes to Avoid
Chasing last year's returns. Just because small caps delivered 45% in 2023 doesn't mean they'll repeat. In 2025, they were the worst performing category at -4.4%.
Ignoring your actual timeline. Your daughter's college fee in 5 years shouldn't be in a small cap fund, no matter how exciting the returns look.
Overestimating your risk tolerance. Almost everyone thinks they can handle volatility until they actually experience it. Start conservative.
Switching categories at the wrong time. Moving from equity to hybrid after a crash (when equity is cheap) or from hybrid to equity after a rally (when equity is expensive) is precisely backward.
Ignoring expense ratios. A 0.5% difference in expense ratio compounds to lakhs over decades. Check fund expenses before investing.
Not considering currency. Your base currency is dirhams or dollars. Add 3-4% annual rupee depreciation to your volatility calculations.
The Bottom Line
The hybrid vs pure equity question isn't about which is better. It's about which suits your specific situation.
Choose pure equity if: You have 7+ years, genuinely tolerate volatility, and want maximum long-term growth.
Choose hybrid if: You have 3-7 years, prefer stability, or want automatic rebalancing without managing it yourself.
Choose both if: You want to balance growth potential with smoother experiences.
The worst choice? Selecting pure equity because returns look higher, then panicking during a correction and selling at the bottom. A hybrid fund held through market cycles will beat an equity fund you mismanage.
Start where you're comfortable. You can always adjust as you gain experience.
If you're still unsure about which suits your situation, join our WhatsApp community where NRIs discuss these decisions daily. Get perspectives from others who've faced the same choice.
Download the Belong app to explore GIFT City mutual funds with zero capital gains tax, compare fund options, and use our Residential Status Calculator to ensure you're investing with the right NRI classification.
Your investments should match your life, not the other way around.
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