Index Funds In India: Comprehensive Investing Guide To Gain Maximum Returns

Asset allocation requires an investor to diversify their investment portfolio into various asset classes such as domestic equity, international equity, fixed income, gold, etc. There are two approaches that an investor can take to build an investment portfolio: active or passive investment portfolio. This article will discuss how to build an investment portfolio with index funds in India to gain maximum returns.

What are index funds?

An index fund invests in all the constituents of a benchmark index in proportion to their weightage in the index. It mirrors or replicates the benchmark. As per SEBI guidelines, an index fund has to invest a minimum of 95% of its total assets in the index securities that it is replicating. 

For example, a Nifty 50 index fund invests in all the 50 constituents of the Nifty 50 Index in proportion to their weightage in the Nifty 50 Index. A Nifty 50 index fund mirrors the performance of the Nifty 50 Index. Similarly, a gold ETF mirrors the performance of physical gold.

Who should invest in an index fund?

Index investing is for those people who don’t prefer active stock-picking either themselves or their fund manager. They prefer to invest in all the constituents of the particular index and are content with the index returns. Index fund investors prefer to take the market risk, and their objective isn’t to outperform the index.

Building a passive/index investment portfolio

Let us now understand how an investor can build a diversified index funds India investment portfolio. An investor can do this by investing in index funds in India in various asset classes such as domestic equity, international equity, debt, and gold.

  1. Domestic equity index funds in India

You can invest in domestic equity index funds based on market capitalisation as follows:

  1. Large-cap index funds: The first 100 companies (1st – 100th) based on market capitalisation constitute large-cap companies. There are two ways of investing in large-cap index funds in India. You can invest in an index fund with the Nifty 100 Index as the benchmark or invest in a combination of two index funds (one Nifty 50 Index Fund + one Nifty Next 50 Index Fund). Some of the large-cap index funds include IDFC Nifty Fund, UTI Nifty Index Fund, ICICI Prudential Nifty Next 50 Fund, SBI Nifty Next 50 Index Fund, Axis Nifty 100 Index Fund, etc.
  1. Mid-cap index funds: The 101st – 250th companies based on market capitalisation constitute mid-cap companies. You can invest in mid-cap index funds in India through Aditya Birla Sun Life Nifty Midcap 150 Index Fund, Nippon India Nifty Midcap 150 Index Fund, Motilal Oswal Nifty Index Fund, etc.
  1. Small-cap index funds: The 251st company onwards are classified as small-cap companies based on market capitalisation. You can invest in small-cap index funds through Motilal Oswal Nifty Smallcap 250 Index Fund, Aditya Birla Sun Life Nifty Smallcap 50 Index Fund, etc.
  1. International equity index funds in India

An international equity fund invests in shares of companies headquartered and listed in a foreign location, outside of the investor’s country. Investors looking for a hedge against country-specific risk can invest in an international fund. An Indian investor can also benefit from the depreciating Indian Rupee by investing in an international fund. 

International funds invest in shares of companies located in another country, such as the United States. Historically, the financial performance of these companies has a very low correlation with the financial performance of companies in the Indian market. Also, foreign markets give Indian investors an opportunity to invest in global companies such as Facebook, Apple, Amazon, etc., which is not possible in the Indian stock markets.

Investment can be made in international index funds in India through Motilal Oswal S&P 500 Index Fund or ICICI Prudential NASDAQ 100 Index Fund.

  1. Debt index funds in India

A debt index fund invests in fixed income securities that are a part of a fixed income index in the proportion of their weightage in the index. A debt fund lends stability to the investment portfolio when the equity markets fall. Debt funds provide a slow and steady appreciation of the investment portfolio.

The proportion of debt in the portfolio depends on the investor’s risk appetite. An aggressive investor will allocate a small portion of the investment portfolio to debt. On the other hand, a conservative investor will allocate a higher portion of the investment portfolio to debt. 

An investor can invest in debt index funds in India through Axis AAA Bond Plus SDL ETF – 2026 Maturity Fund of Fund, IDFC Gilt 2027 Index Fund, Aditya Birla Sun Life Nifty Index Fund, etc.

  1. Gold exchange-traded funds (ETFs) or gold fund of funds (FoFs)

Gold provides an investor’s portfolio with a hedge against inflation. Gold is also known to perform well during uncertainty such as war, political instability, recession, pandemic, etc. Hence, an investor should allocate a certain portion of their portfolio to gold. An investor can invest in gold through a gold Exchange Traded Fund (ETF). An ETF tracks the price of physical gold. An investor’s profit or loss depends on the movement of the gold ETF NAV from the purchase price.

An investor needs a Demat account to invest in gold ETFs. The purchased ETF units are credited to the Demat account, and the sold ETF units are debited from the Demat account. An investor cannot start a systematic investment plan in an ETF. Hence, to overcome this challenge, fund houses provide a gold fund of funds (FoFs).

A gold FoF invests in the units of a gold ETF. An investor doesn’t need to have a Demat account to invest in a gold FoF. An investor can also start a SIP in a gold FoF.

Conclusion

In the above sections, we have seen how an investor can build a diversified investment portfolio with index funds spread across various asset classes such as domestic equity index funds, international equity index funds, debt index funds, and gold fund of funds.