Walk into any bank branch or scroll through an investment app, and you will see the same names over and over again. Popular mutual funds dominate advertisements, financial news, and online rankings. Investors often assume that popularity equals performance. Big assets under management, five-star ratings, and long track records create an image of safety and superiority.
However, many popular mutual funds fail to deliver the wealth creation investors expect. The gap between perception and reality surprises most people. If you invest in mutual funds—or plan to—you need to understand why this gap exists.
Let’s break down the real reasons popular mutual funds often underperform and what that means for your portfolio.
1. Large Fund Size Slows Performance
Success attracts money. When a fund performs well for a few years, investors rush in. Assets swell from a few hundred crores to thousands of crores. While this growth looks impressive, it creates a serious problem.
A large fund loses flexibility.
Smaller funds can quickly buy or sell mid-cap or small-cap stocks without affecting prices. A massive fund cannot move as easily. When it buys shares in bulk, the stock price rises. When it sells, the price drops. The fund’s own size works against it.
Large funds often shift toward safer, large-cap stocks to manage liquidity. This shift reduces the chance of sharp underperformance—but it also limits upside potential. As a result, returns start to resemble the index rather than beat it meaningfully.
Popularity creates size. Size limits agility. Limited agility weakens performance.
2. Expense Ratios Eat Into Returns
Every mutual fund charges a fee called the expense ratio. This fee covers fund management, marketing, distribution, and administration. Investors rarely focus on this number, but it directly reduces their returns.
A fund that generates 12% annual return but charges 2% expense ratio leaves you with 10%. Over 15–20 years, that 2% difference compounds into a massive gap in wealth.
Popular funds often carry higher expense ratios because they spend heavily on advertising and distributor commissions. Investors pay for that visibility.
Many investors compare gross returns but ignore net returns after expenses. Over long periods, high costs quietly erode wealth.
3. Past Performance Does Not Predict Future Results
Financial media highlights top-performing funds every year. Investors chase those winners. However, performance tends to revert to the mean.
A fund that tops charts this year may struggle next year.
Markets move in cycles. A fund that benefits from a particular sector boom may suffer when that sector cools. Investors who enter after strong performance often buy at peak valuations. When markets correct, returns disappoint.
Studies consistently show that top-quartile funds rarely stay in the top quartile for long periods. Yet investors continue to invest based on recent rankings.
You buy yesterday’s success. You rarely capture tomorrow’s opportunity.
4. Closet Indexing Reduces Real Alpha
Many popular actively managed funds claim they aim to beat the benchmark index. However, several of them closely mirror the index while charging active management fees. Industry experts call this strategy “closet indexing.”
These funds hold stocks in proportions very similar to their benchmark. They avoid taking bold bets to prevent underperformance relative to peers. Fund managers fear short-term ranking pressure more than they pursue long-term outperformance.
If a fund behaves like an index fund but charges higher fees, you lose twice. You do not receive strong alpha, and you pay more than necessary.
Investors often fail to examine portfolio overlap. They assume active management means meaningful differentiation. In reality, many popular funds prioritize asset gathering over genuine alpha generation.
5. Herd Mentality Drives Investment Decisions
Investors feel safer when they follow the crowd. If millions of people invest in a particular fund, it must be good—right?
This mindset creates demand spikes. Fund houses launch similar schemes to capitalize on trends. Distributors push funds that generate higher commissions. Media attention reinforces popularity.
However, herd-driven investing inflates valuations. When too much money flows into the same set of stocks, prices rise beyond reasonable levels. Future returns decline because investors pay too much upfront.
By the time retail investors join, institutional investors may already prepare to exit.
Popularity often signals that easy gains have already passed.
6. Benchmark Comparison Creates False Confidence
Investors often compare mutual fund returns to a benchmark index such as the S&P 500 in the United States or the NIFTY 50 in India.
If a fund beats its benchmark by 1% annually, marketing teams celebrate. However, that outperformance may not justify higher risk or fees.
A fund may outperform in a rising market but fall sharply during corrections. Benchmark comparison rarely shows volatility, drawdowns, or consistency.
Investors need to analyze risk-adjusted returns, not just raw outperformance. A small edge over an index may disappear after taxes and costs.
7. Taxes Reduce Real Returns
Mutual fund returns often appear attractive on paper. However, taxes reduce your actual gains.
Frequent portfolio churn within actively managed funds can generate short-term capital gains distributions. Even if you do not sell your units, the fund’s internal trading may create taxable events.
Index funds typically trade less frequently and therefore generate fewer taxable distributions.
After taxes, the difference between popular active funds and low-cost passive funds often narrows significantly—or disappears entirely.
8. Marketing Creates Illusion of Safety
Fund houses design advertisements to highlight best-performing schemes. They emphasize five-year or ten-year returns that look impressive. They rarely highlight periods of underperformance.
Colorful brochures, celebrity endorsements, and award badges influence decision-making. Investors associate brand recognition with reliability.
However, branding does not guarantee superior returns.
Many investors rely on distributors rather than independent research. Some advisors may prioritize commission-based products over optimal portfolio construction. Investors must evaluate incentives before trusting recommendations.
A trusted advisory firm such as Perfect Finserv can help investors focus on long-term strategy rather than short-term marketing narratives.
9. Survivorship Bias Hides Failures
You rarely hear about funds that shut down or merge due to poor performance. Underperforming schemes quietly disappear. Only surviving funds remain visible in long-term rankings.
This phenomenon creates survivorship bias.
When you analyze ten-year returns, you only see funds that lasted ten years. You do not see those that failed midway. This bias inflates average historical returns and creates a distorted perception of success.
Investors who rely on historical databases often overlook this hidden reality.
10. Emotional Investing Hurts Outcomes
Even when a fund performs reasonably well over time, investor behavior often reduces returns.
Investors enter during bull markets and exit during downturns. They chase returns, panic during volatility, and switch funds frequently. These actions convert decent long-term returns into mediocre personal outcomes.
Data from multiple market studies show that investor returns often trail fund returns because of poor timing decisions.
You do not just need a good fund. You need discipline.
11. Over-Diversification Dilutes Returns
Large popular funds often hold 60–100 stocks. This diversification reduces company-specific risk, but it also dilutes high-conviction ideas.
If your top-performing stock doubles but represents only 2% of the portfolio, the overall impact remains limited.
A highly diversified portfolio often mirrors the broader market. The fund effectively becomes an expensive index fund.
True alpha requires conviction and focus, but popularity discourages concentrated strategies.
The Smarter Approach
Popular mutual funds are not inherently bad. Many provide stable, diversified exposure to markets. However, investors should not equate popularity with superior performance.
Before investing, ask:
- What is the expense ratio?
- How different is the portfolio from the benchmark?
- How consistent are returns across market cycles?
- How large has the fund become?
- Does the strategy align with your goals?
Consider low-cost index funds for core exposure. Use active funds selectively when they demonstrate clear differentiation and disciplined management.
Most importantly, focus on asset allocation rather than star ratings. A well-balanced portfolio across equity, debt, and other asset classes often contributes more to long-term wealth than picking the “hottest” fund.
Final Thoughts
Popular mutual funds attract attention, capital, and headlines. However, size, fees, marketing influence, behavioral biases, and structural limitations often prevent them from delivering extraordinary results.
Investors who look beyond rankings and analyze fundamentals gain an edge. You do not need the most famous fund. You need the right strategy, reasonable costs, disciplined execution, and patience.
Wealth grows through consistency, not hype.
When you shift your focus from popularity to principles, you take control of your financial future—and that decision makes all the difference.
Also Read – SaaS Churn Killers: Startups Doing It Right