Blue-chip funds versus index funds: which makes more sense in 2026? – Opinions on Equitymaster news

January 16, 2026

Over the past decade, equity investing in India has undergone a silent shift.

Index funds, once seen as a passive alternative intended only for conservative investors, have steadily entered the mainstream.

At the same time, blue-chip funds, which have long been seen as the default choice for long-term equity investing, are increasingly being questioned.

Today’s markets are deeper, information is widely available, and major companies are closely watched by analysts and institutions. This has changed the way returns are generated in large-cap stocks.

Against this backdrop, one question has become increasingly relevant for investors: does paying higher fees for active management still add value, or does investing in indexes at low costs make more sense?

Blue-chip funds versus index funds

Blue-chip funds invest in the shares of large, established, financially strong companies with stable profits, strong brand recognition, a business moat and industry leadership.

These funds have traditionally been attractive to investors seeking equity exposure with relatively lower risk, steady long-term growth and a degree of capital stability.

Large-cap index funds also invest in blue chip stocks. For example, a Nifty 50 Index Fund contains all 50 companies that make up the Nifty 50 index, in the same proportions as the index itself.

For example, if HDFC Bank has a 10% weightage in the Nifty 50 index, the index fund will also hold 10% of the index. If the allocation decreases, the index fund will also decrease its allocation.

Both blue-chip funds and index funds therefore operate within the same market segment of the stock market.

However, the main difference lies in the way funds are managed. Most blue chip funds are actively managed. The fund manager decides which shares to buy, the portfolio allocation and the exit rules. The goal is to outperform the benchmark over time.

Index funds, on the other hand, follow a strictly rules-based approach. They track benchmarks like the Nifty 50 or Sensex and own the same stocks in identical proportions. Index funds are not actively managed. They aim to match the performance of the index as closely as possible at a much lower cost.

Why investing in large caps has become more challenging

Large-cap stocks today operate in an information-rich environment.

Earnings data, management commentary and sector or trends are analyzed in real time. Stock prices adjust quickly as new information becomes available.

This efficiency makes it more difficult for leading fund managers to consistently outperform the market. According to a report (SPIVA India Scorecard) by S&P Dow Jones Indices, 74% of Indian large-cap equity funds have failed to beat the benchmark in the past decade ending 2014.

The underperformance worsened to 93% over the five-year period and to 75% over the three-year period. Even over a one-year period, 60% of active large-cap funds failed to beat the benchmark.

The percentage of funds that underperformed the benchmark increased to 66.7%, 89.7% and 73.3% over 3, 5 and 10 year periods respectively.

Source: SPIVA India Scorecard by S&P Dow Jones IndicesThis trend does not only apply to India. According to the Apollo AcademyAbout 90% of active public equity funds worldwide underperform their benchmarks.

Although some blue chip funds occasionally manage to outperform the index, it is difficult to identify them in advance. It is even more difficult to sustain this outperformance across market cycles.

This is not due to a lack of skill among fund managers. Instead, this is because finding mispriced opportunities in large-cap stocks is becoming increasingly difficult. As markets mature, most large-cap funds tend not to outperform the indexes.

This is where large cap index funds come into the picture. They are not trying to outperform, but rather trying to achieve index returns.

The importance of the expense ratio

Costs play a much bigger role in long-term investing than most investors realize.

Blue-chip funds typically charge higher expense ratios compared to index funds. This difference may seem small on an annual basis, but it increases significantly over time.

Index funds typically have an expense ratio of 0.1-0.5%, compared to 1-2% for active large-cap funds. The incremental return can significantly increase the final corpus.

For example, suppose an investor today invests Rs 5 million (mln) at a 12% return for 10 years in an active large-cap fund. The expense ratio is 2%. He will receive Rs 13.53 mln at the end of the tenth year, of which around Rs 2.97 mln is paid expenses.

Now compare the same amount invested in an index fund with an expense ratio of 0.5%. The index fund will generate around Rs 15.7 million, with only Rs 0.79 million in paid expenses.

This 1.5% difference in expense ratios results in a meaningful difference of Rs 2 million in the final corpus. Over a period of 15 to 20 years, even 1% higher costs can lead to a noticeable reduction in the final corpus.

Index funds, with their low expense ratios, allow investors to retain a greater share of the market’s returns.

Where blue chip funds still add value

Despite these challenges, blue chip funds remain relevant.

Some blue-chip funds focus more on risk management than on generating aggressive returns. They can protect the downside with active management in times of overheated markets, and so on. This can help limit the downtrend during short-term volatile phases.

There are also funds that take a high-conviction approach within the large-cap universe.

Such strategies can deliver periods of meaningful outperformance. That said, even successful large-cap funds rarely outperform the market by a wide margin.

More importantly, identifying such large-cap opportunities consistently requires regular monitoring. Investors should periodically assess the fund’s performance against benchmarks and peers to ensure it remains a strong performer in the portfolio.

This is why, by eliminating stock selection risk and achieving market returns at a low cost, index funds have become increasingly relevant.

The behavioral advantage of index funds

One of the strongest but least talked about advantages of index funds is their simplicity of behavior. There is no risk for fund managers, no frequent strategy changes and no pressure to compare with peers.

This simplicity often leads to better investor behavior. Investors are less likely to exit during temporary underperformance or switch funds based on recent returns.

Over longer periods, this discipline can have a significant impact on the returns achieved. Index funds work well as core investments because of their low costs and predictability.

The hidden costs of an index fund

Although index funds strive to track their benchmarks, they rarely do so perfectly due to tracking error.

Tracking error is the difference between the performance of a benchmark and an index fund. Tracking error is caused by factors such as cash, expense ratios and rebalancing.

Therefore, an index fund is only better if its expense ratio and tracking error are both lower than those of the active fund.

For example, the UTI Nifty 50 Index Fund has a five-year tracking error of 0.03%, which is very low. This indicates that the fund has closely tracked its benchmark.

Valuations and expectations in 2026

Large-cap valuations appear reasonable with a price-to-earnings ratio of 22.4, but are not cheap.

That’s why returns from this segment are likely to closely track earnings growth, rather than being driven by valuation expansion.

In such an environment, the scope for large and consistent alpha is limited.

Broad market participation is becoming more important than precise stock selection. Index funds fit this reality well. They provide exposure to the overall economy without relying on tactical decisions.

Blue-chip funds have to work harder to justify their higher costs as return gaps narrow.

The bottom line

For most investors in 2026, index funds are a sensible and efficient way to participate in large-cap stocks.

A portfolio anchored in low-cost index funds and supported by a limited allocation to high-quality active funds is likely to deliver more consistent results over the long term.

Blue Chip funds still have a place, but only if they are carefully selected and used with clear expectations.

Keep in mind that index funds are best for investing in large-cap stocks, but active funds are still preferred for mid- and small-cap stocks as they have a higher chance of outperforming.

Disclaimer: This article is for informational purposes only. It is not a stock recommendation and should not be treated as such. Read more about our referral services here…