Is Mutual Fund Alpha Still Alive?

India’s Mutual Fund industry is moving from faith in fund selection to evidence-led portfolio Construction. Passive funds are larger and cheaper, active Large-Cap funds face a tougher scorecard, and alpha is becoming more selective in where it survives [EasyDNNnews:PaidContentStart]

A Turning Point in Indian Investment Landscape
Somewhere between the ₹39,955 crore that flowed into passive funds in January 2026 and the finding that nearly three-fourths of Indian active large-cap funds lagged their benchmark in calendar 2025, an old market assumption began to weaken. The assumption was simple: a mainstream active large-cap fund should be expected to beat the market often enough to justify its fee.

The numbers now make that belief harder to defend. Passive assets under management had already reached an all-time high of ₹15.41 lakh crore in January 2026. Even after a pullback, passive AUM stood at ₹14.12 lakh crore in March 2026. At the same time, the SPIVA India scorecard for year-end 2025 showed that large-cap underperformance was not a marginal issue. It was the dominant outcome. That is the real shift in Indian mutual funds. Active management has not suddenly become irrelevant. The market has simply become far more demanding about where investors should pay for it. In a scheme-level review of active large-cap funds with 10-year track records, only 3 of 23 regular-plan schemes beat their own benchmarks over the decade ended December 2025, or about 13 per cent. In direct plans, where expenses are lower, the number of outperformers rose sharply to 11.

That difference between regular and direct plans captures the story in one frame. In large-caps, investors are often not fighting only the market. They are fighting the market plus fees. For serious investors, the implication is uncomfortable but useful. The era of buying active large-cap funds by default is fading. What should replace it is not blind passivism. It is a cleaner separation between cheap market exposure and scarce manager skill. The core of the portfolio should buy efficient beta at a sensible cost. The satellite sleeve should pay for active skill only where the probability of genuine alpha is more defensible.

The Efficiency Shift
Data from the Association of Mutual Funds in India, regulatory changes from SEBI, and performance scorecards published by S&P Dow Jones Indices point in the same direction. Indian large-cap investing has become more competitive, more transparent, and less forgiving of fees.

SPIVA’s year-end 2025 numbers are stark. On an absolutereturn basis, 74.19 per cent of active large-cap fundsunderperformed over three years, 84.38 per cent underperformed over five years, and 76.29 per cent underperformed over 10 years.

The gap may look small on paper. It becomes meaningful when compounded over time. On SPIVA’s equal-weighted 10-year numbers, ₹1 crore compounded at the benchmark’s 14.68 per cent annualised return would have grown to roughly ₹3.93 crore. The average active large-cap fund, compounding at 13.21 per cent, would have grown to about ₹3.46 crore. The gap is roughly ₹47.6 lakh on a single ₹1 crore starting amount.

This is not merely a performance statistic. It is the cumulative cost of operating in a market segment where stock-picking edges are modest, quickly arbitraged, and easily consumed by expenses and execution friction. Large-caps sit in the top 100 companies by full market capitalisation. This is the part of the market with the deepest liquidity, the heaviest analyst coverage, the widest management access, and the largest institutional ownership.

INVESTOR LENS
In efficient segments, the first benchmark is not the index. It is the fee. A manager must beat the benchmark and recover the cost of active management before the investor receives net alpha.

The Passive Fund Revolution
The economics of passive investing have moved from interesting to unavoidable. In May 2025, passive fund assets touched a record ₹12.24 lakh crore. By February 2026, passive AUM had climbed to ₹15.24 lakh crore, with passive funds representing roughly 17 per cent of total industry AUM.

AMFI-Crisil data captures the scale of the shift. Passive funds’ share of industry assets rose from 7 per cent to 17 per cent over the five years ended March 2025. Investor behaviour has changed as well. By December 2025, direct plans accounted for 28 per cent of total individual investor AUM, while the share among women investors rose to 25.2 per cent.

The Index Fund story is even sharper. Index fund folios grew at a CAGR of 78 per cent between March 2020 and December 2025. That rise is not merely a product trend. It reflects a gradual change in investor preference: more people are willing to separate market exposure from manager selection.

The Cost Equation
SEBI’s revised framework has also tightened the cost conversation. The base expense ratio for equity-oriented open-ended schemes with AUM up to ₹500 crore has been reduced from 2.25 per cent to 2.10 per cent, while the cap for index funds and ETFs has been lowered from 1.00 per cent to 0.90 per cent. These revised limits exclude statutory levies, making the fee structure more transparent for investors.

The direction is clear. Lower-cost models are gaining relevance, and new digital-first entrants such as JioBlackRock Asset Management plan to follow a direct-only model that bypasses traditional distribution layers. On average, distributed active funds charge about 1.78 per cent in total expense ratios, while direct plans can reduce investor cost by 0.5 to 0.6 percentage points.

The Survival of Alpha
If all this sounds like the end of alpha, it is not. It is the relocation of alpha. The sharper question is no longer simply active or passive. It is active where?

SPIVA’s year-end 2025 scorecard makes that distinction visible. While active large-cap funds continued to face a difficult benchmark challenge, Indian equity Mid-Cap and Small-Cap funds delivered a much stronger relative showing in the same period.

The market backdrop supported active decision-making. SPIVA recorded a sector return spread of more than 39 per cent between the best-performing Energy sector and the worst-performing Information Technology sector in 2025. Energy alone beat its benchmark by almost 20 per cent. Such dispersion creates room for stock selection, sector positioning, and portfolio judgement to matter.

This is the essential nuance. Alpha may be harder to find in the crowded large-cap space, but it has not disappeared. It has shifted to areas where information gaps, liquidity differences, and dispersion remain meaningful.

Long-Horizon Data: The Paradox
The mid-cap and small-cap data also reveal a paradox. The equal-weighted average active mid-cap and small-cap fund beat its benchmark across multiple long-term periods, yet a meaningful share of individual funds still underperformed. This is exactly why manager selection matters.

The contradiction is the message. Less efficient segments can still house real alpha, but that alpha is uneven. It is lumpy, concentrated, and deeply dependent on which manager the investor chooses. Alpha survives, but selection risk rises with it.

Why Efficiency Is Uneven
Efficiency is not uniform across the market. In the top 100 companies, information is abundant, and most investors are evaluating the same businesses. In the broader mid-cap and small-cap universe, analyst coverage is thinner, liquidity is less uniform, and benchmark weights leave more room for managers to express differentiated views.

That differentiation may come from earnings quality, capital allocation, management behaviour, balance-sheet discipline, sector cycles, or valuation gaps. This does not make smaller companies easy. It makes them less fully arbitraged. Large-cap alpha is structurally harder because the universe is narrower and information travels faster. In smaller companies, the opportunity set is wider, but the cost of mistakes is also higher.

Thematic And Sector Opportunities
Niche thematic and sector funds belong in this conversation, but with caution. Wide sector dispersion can create windows for managers with genuine frameworks, domain knowledge, and decisiveness. Yet thematics are not substitutes for a core portfolio. They are tactical satellites at best.

The same features that create alpha opportunities also create risk. Narrow universes, narrative-driven flows, lower liquidity, and faster changes in sentiment can lead to deeper drawdowns and higher timing risk. Inefficiency can be investable, but it is never free.

The Core And Satellite Solution
This is where portfolio construction must catch up with market reality. A core-and-satellite framework is not a fashionable label. It is an operating system for dealing with an uneven market. The core should seek broad-market exposure at the lowest sensible all-in cost. Representative passive large-cap products show expense ratios around 0.04 per cent for a Nifty 50 ETF, 0.07 per cent for a Nifty 50 index fund, and 0.20 per cent for a direct-plan Nifty 50 index fund. By contrast, representative direct-plan active large-cap funds show expense ratios around 0.71 per cent, 0.83 per cent, 0.86 per cent, and 1.26 per cent.

For the satellite sleeve, discipline matters more than optimism. Active exposure should not become a parking lot for every exciting market story. It should be consciously risk-budgeted and allocated to a small number of managers or mandates where the case for alpha is more defensible.

The most suitable satellite areas may include mid-cap funds, small-cap funds, select sector funds, tactical thematic strategies, or mandates where benchmark inefficiency remains materially higher than in the large-cap core. The sleeve must be small enough to ensure that one bad idea does not damage the portfolio, but large enough to matter if the manager is genuinely skilful.

PORTFOLIO ARCHITECTURE
Use the core for market participation and cost efficiency. Use the satellite for selective courage, manager skill and differentiated opportunity. Do not confuse the two jobs.

Due Diligence: Looking Beyond Trailing Returns
The harder the market segment, the more important due diligence becomes. A fund that tops a one-year return table may simply be benefiting from a style tailwind. Good manager assesSMEnt must separate durable skill from favourable timing.

✓ Check whether the fund has generated net alpha across rolling periods, not just over one start and end date.
✓ Compare risk-adjusted performance through alpha, beta, Sharpe ratio, standard deviation, and upside/downside capture.
✓ Study whether the portfolio is genuinely different from the benchmark or merely charging active fees for low-active-share exposure.
✓ Review the fund’s behaviour in weak markets, because downside control often reveals process quality better than bull-market returns.
✓ Assess the stability of the investment team, research process, valuation discipline, and portfolio construction framework.
✓ Treat cost as part of the investment decision, not as an afterthought.

Risks And Nuances
Passive Is Not Automatically Perfect — Low cost is not the same as good implementation. Tracking difference depends on expense ratio, rebalancing efficiency, Dividend handling, securities lending, order execution, and the way a fund manages inflows and outflows.

ETFs also carry ownership costs such as brokerage, bid-ask spreads, demat charges, securities transaction Tax, and exchange fees. Long-term investors cannot choose passive products by TER alone. Tracking discipline and benchmark quality matter as much as headline cost.

Active Management Is Not Dead —The large-cap story also contains nuance. In calendar 2025, asset-weighted large-cap funds returned 9.42 per cent against 8.91 per cent for the benchmark over one year, even though about 75 per cent of individual funds underperformed on a count basis. This suggests that skill may be concentrated rather than absent.

Mid-Cap and Small-Cap Require Caution — Investors should avoid romanticising less efficient segments. Mid-cap and small-cap alpha may be more available, but the path is rougher. Liquidity risk, larger drawdowns, benchmark mismatch, and behavioural mistakes can hurt when markets turn.

That is why the satellite sleeve must remain a sleeve, not a substitute for the whole portfolio. If passive is a poor excuse for laziness, active is an even poorer excuse for indiscipline. The real mistake in 2026 is not choosing one camp over the other. It is paying for the wrong tool in the wrong segment.

Conclusion: The 2026 Playbook
The Indian mutual fund industry has crossed an important line. Passive funds reached ₹12.24 lakh crore in May 2025, roughly 17 per cent of industry AUM at that time. By January 2026, passive AUM had touched a record ₹15.41 lakh crore. Direct plans are gaining share. Fee caps have been tightened. New digital-first entrants are targeting lower-cost distribution.

None of this kills active management. But it does weaken the complacent assumption that investors should continue paying large-cap active fees simply because the category has traditionally been sold that way.

For investors and advisers thinking about 2026 and beyond, the playbook is sharper: use passive large-cap funds and ETFs for the core, use active funds selectively where inefficiency remains visible, and judge every rupee of cost against the probability of real net alpha.

The question is no longer whether active or passive is superior in the abstract. The question is where each tool belongs. In an efficient market, alpha does not vanish. It becomes choosier. The investor’s job is to become choosier with it.

Large-cap exposure should increasingly be bought for efficiency. Active management should be paid for only where manager differentiation is visible in both holdings and outcomes.

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