Choosing equity mutual funds: Why long-term returns matter, but 1-year performance also deserves a look; experts explain

Equity mutual funds can deliver strong 3- and 5-year returns yet struggle over one year. Does this signal a temporary market setback or deeper portfolio issues? Experts explain the warning signs investors should watch for before investing or exiting their current holdings. 

Investing in diversified active equity mutual funds, such as small-cap, mid-cap, large-cap, flexi-cap, and multi-cap funds, generally requires a long-term perspective because stock markets are volatile in the short term.

But what if a fund has positive three- and five-year returns but lags over one year? Experts say this warrants closer scrutiny. Here’s what investors should assess before investing, reviewing their holdings or exiting.

Why look at 1-year returns of equity funds even if 3- and 5-year returns are positive?

Gaurav Garg, Head - Research, Lemonn said the 3- and 5-year returns are averages, and averages can hide a bad recent year behind one or two exceptional ones. He cited two examples.

• Motilal Oswal Midcap Fund delivered a 3-year return of 18.27% as of 10 September 2026, well ahead of its benchmark’s 15.22%. But its 1-year return was 0.28%, against 4.92% for the benchmark.
• HDFC Small Cap’s 5-year return is still about 14% a year. Its 1-year return was negative as of 30 September 2026, while the category average was close to 10%.

Vedant Gupte, Co-Founder and CEO of Investment platform Trackk, said a weak one-year return in a falling market that still beats peers is a good sign. But one-year returns also help distinguish funds that consistently outperform peers from those whose long-term track records depend on one or two exceptional years.

“Long-term returns tell you whether a fund has been good; the one-year tells you whether it still is. Investors need both, and most only check the first,” he added.

Harsh Vardhan Dawar, ACA, CFA, FRM, Founder of Wealth Cafe, said long-term rolling returns should carry greater weight than short-term returns when evaluating an equity fund. However, investors must analyse the reasons behind any short-term underperformance.

What key indicators should investors look at?

Garg explained the following metrics investors should assess to analyse the performance of equity funds.