How fund managers pick stocks
Top-down and bottom-up: two starting points for choosing shares, and the rules that fence the choice
Industry figures as on 30 September 2026
Verified 12 October 2026
For training and education only. Not investment advice.
Trainer notes
Ask the room: if you had to choose 40 shares out of several thousand listed ones, where would you begin? Some will start with the economy, some with a company they know. Keep both answers for slide 3.
A fund manager can start from the economy and work down, or from one company and work up.
The first route is called top-down. The second is called bottom-up. Many managers use some of each, inside limits set by the scheme's category and by SEBI.
Trainer notes
These are working labels used in the industry. SEBI does not define 'top-down' or 'bottom-up'. A scheme's own approach is described in its Scheme Information Document, under investment strategy.
Two starting points, often mixed
Top-down
Start with the big picture: growth, interest rates, policy. Decide which sectors may gain or lose. Then choose companies inside those sectors.
Bottom-up
Start with one company: what it sells, its profits, its debt, its management and its share price. The sector and the economy come in later.
A blend
Many managers use both. A view on sectors sets rough weights, and company study decides which shares fill them. The mix differs from scheme to scheme.
Take-away: A sector is a group of companies in the same line of business, such as banks or cement makers.
Trainer notes
Return to the opening question. Those who began with the economy were thinking top-down; those who began with a company were thinking bottom-up. Neither is the 'correct' one.
How a sector view shows in a portfolio
AN INVENTED FUND
A fund holds ₹2,000 crore of shares.
Its benchmark index has 30% in Sector A. The fund has 36%.
Every other sector's price stays unchanged.
- Extra weight in Sector A: 36% − 30% = 6 percentage points. On ₹2,000 crore, that is ₹120 crore more than the benchmark would hold.
- If Sector A rises 10%: the fund gains 36% × 10% = 3.6% from it. The benchmark gains 30% × 10% = 3.0%.
- The fund is ahead by 0.6 percentage points: 6 points × 10%.
- If Sector A falls 10% instead, the same sum runs the other way. The fund is behind by 0.6 percentage points.
Result: A top-down view appears as a sector weight different from the benchmark's. It can help or hurt.
Illustration with an invented fund and assumed figures. Not a forecast and not a view on any sector.
Trainer notes
The difference between a fund's weight and the benchmark's weight is often called the active weight. The example assumes the fund's Sector A shares move exactly like the benchmark's Sector A shares, which is rarely true in practice.
The two routes side by side
| Top-down | Bottom-up | |
|---|---|---|
| First question | Where is the economy heading, and which sectors does that touch? | Is this a sound business, and what is being paid for it? |
| What is studied first | Growth, inflation, interest rates, the Budget, global trade. | Annual reports, profits, cash flow, debt, the people who run it. |
| How it shows in the fund | Sector weights that differ from the benchmark's. | Company weights that differ from the benchmark's, across many sectors. |
| Where it can go wrong | The view on the economy is wrong, or right but too early. | The company is sound but its whole sector falls out of favour. |
A general description of two approaches. Neither is defined in SEBI's rules, and a scheme may use both.
Trainer notes
Stress the last row. Each route has its own way of being wrong, which is one reason many managers combine them.
From an idea to a holding
The usual stages in an actively managed equity scheme. Details differ from one fund house to another.
Narrow the field
Screen the listed companies down to those that fit the scheme's category and pass basic tests.
Study the company
Read its accounts, meet management, compare it with rivals, estimate its worth.
Write down the reason
SEBI's code makes the manager record each buy or sell decision in writing, with detailed reasons.
Decide the size
Set how much of the scheme goes into the share, within SEBI's and the scheme's limits.
Keep reviewing
Check results and news against the original reason. Add, hold or sell as the facts change.
Source for step 3: SEBI (Mutual Funds) Regulations, 2026, Fourth Schedule, Part B (Code of Conduct for Fund Managers and Dealers), clause 3(a).
Trainer notes
Steps 1, 2, 4 and 5 describe common practice, not a SEBI procedure. Step 3 is a rule: fund managers must have an appropriate and adequate basis for a decision and record it in writing with detailed justifications.
The fences round the choice
A manager's freedom is limited by the scheme's category and by SEBI's investment limits.
The category
A sectoral or thematic fund keeps at least 80% of total assets in its sector or theme. A focused fund may hold 30 stocks at most.
- 10%
One company
A scheme may put up to 10% of its net asset value in the shares of one company. Index funds, ETFs, sector and thematic schemes are exempt.
The record
Each scheme's full portfolio, as on the last day of the month, is published within 10 calendar days.
Source: SEBI Master Circular for Mutual Funds, 20 March 2026: para 3.8.1 (categories), para 13.1 (10% limit), para 6.1.1 (portfolio disclosure).
Trainer notes
The 10% limit is on equity shares and equity-related instruments of any one entity; it does not apply to index funds, ETFs and sector or thematic schemes. A sectoral fund is top-down by design: the sector is fixed, so the manager's work is mostly choosing companies within it.
Where things stand
Open-ended equity-oriented mutual fund schemes in India as on 30 September 2026.
- EQUITY-ORIENTED SCHEMES
- 583Across SEBI's equity categories. Of these, 60 are sectoral funds and 194 are thematic funds.
- NET ASSETS, ₹ LAKH CRORE
- 37.54₹37.54 lakh crore, out of ₹82.64 lakh crore for the whole mutual fund industry that day.
- FOLIOS, IN CRORE
- 19.1019.10 crore investor accounts (folios) in these schemes. One investor can hold several.
Source: AMFI Monthly Report, September 2026 (equity sub-total: 583 schemes, 19,09,90,944 folios, net AUM ₹37,54,274.57 crore; grand total ₹82,64,116.63 crore).
Trainer notes
Refresh from the AMFI monthly report each month. These are counts and assets, not market prices. Index funds and ETFs are shown separately in the AMFI report and are not in the 583; they follow an index and do not pick stocks.
If you learnt this from older material
The two ideas are unchanged. The rules and disclosures around them are not.
What a 2013-15 deck assumes
- Top-down and bottom-up are two kinds of manager, and a fund is one or the other.
- A label such as 'focused' or 'thematic' means whatever the fund house says.
- No information ratio against the benchmark is published daily.
What holds in October 2026
- Many schemes blend the two. The scheme's category sets much of the frame.
- SEBI set standard categories on 6 Oct 2017 and revised them on 26 Feb 2026.
- Equity schemes publish an information ratio daily (SEBI circular, 17 Jan 2025).
Source: SEBI Master Circular for Mutual Funds, 20 March 2026, para 3.8.1 and footnote 22 (categorisation circulars), para 6.10 and footnote 125 (information ratio).
Trainer notes
Information ratio = (portfolio return less benchmark return) ÷ standard deviation of that excess return, using the scheme's Tier 1 benchmark. Scheme returns are also shown against a total return index, which includes dividends (Master Circular para 7.23). The first right-hand item is a general observation, not a sourced statistic.
Four things people get wrong
Misconception'The two approaches are rivals.'
What is trueThey are starting points, not camps. Many managers form a sector view and then study each company inside it.
Misconception'Sound company, sound holding.'
What is trueThe price paid matters too. A sound business bought at a very high price can still give a poor result.
Misconception'The manager can buy anything.'
What is trueThe scheme's category, SEBI's limits and the fund house's own rules narrow the choice before any share is picked.
Misconception'A careful process assures returns.'
What is trueA process gives discipline, not certainty. Returns from equity schemes are not assured under any approach.
Trainer notes
On the fourth point: a well-run process can still trail the benchmark for long periods. Do not describe any approach or any manager as more likely to do well.
Four questions to ask about any scheme
Which category is it in?
The category sets what the scheme must hold. It is the first limit on the manager's choice.
What does the SID say?
The Scheme Information Document (SID) describes the investment strategy in the fund house's words.
What does it hold?
The monthly portfolio shows the sectors and companies. Compare the weights with the benchmark's.
How has it differed?
Look at returns against the benchmark over several periods, and at the information ratio.
Take-away: We explain how a scheme is run. We do not tell a client which approach or which scheme to choose.
Trainer notes
This is the slide to rehearse. Past returns do not indicate future returns. As mutual fund distributors we describe the scheme's category, strategy and disclosures; we do not forecast which approach will do well.
Check yourself
Question 1: A manager first decides that falling interest rates may help lenders, then chooses three banks. Which approach is this, and where does it show in the portfolio?
Answer: Top-down. It shows as a weight in the banking sector that differs from the benchmark's weight.Question 2: A benchmark has 20% in a sector and a fund has 25%. The sector rises 8% and every other sector is unchanged. How far ahead is the fund?
Answer: Extra weight is 5 percentage points. 5% × 8% = 0.4 percentage points ahead. Had the sector fallen 8%, the fund would be 0.4 points behind.Question 3: A client says: 'This manager is bottom-up, so the scheme will do well.' What would you say?
Answer: Bottom-up describes where the manager starts, not what the result will be. Returns are not assured under any approach. Point the client to the scheme's category, its stated strategy, its monthly portfolio and its record against the benchmark, without predicting anything.
Sources and disclaimer
Sources for the figures in this explainer
- Equity categories; sectoral and thematic 80%; focused fund maximum 30 stocks: SEBI Master Circular for Mutual Funds, 20 March 2026, para 3.8.1.
- 10% of NAV limit on equity of one entity and its exemptions: same Master Circular, para 13.1. Monthly portfolio within 10 calendar days: para 6.1.1.
- Information ratio disclosed daily for equity schemes: same Master Circular, para 6.10 (SEBI circular dated 17 January 2025).
- Written record of buy and sell decisions: SEBI (Mutual Funds) Regulations, 2026, Fourth Schedule, Part B, clause 3(a).
- Scheme counts, folios and net assets on 30 September 2026: AMFI Monthly Report for September 2026.
- The fund, Sector A and all figures in the worked example and quiz are invented for illustration.
This material is for training and investor education only. It is not investment, tax or legal advice and is not a recommendation to buy, sell or hold any security or scheme. Examples use assumed figures unless a source and date are shown. Mutual fund investments are subject to market risks; read all scheme related documents carefully. Trustner Asset Services Pvt. Ltd. is an AMFI-registered Mutual Fund Distributor (ARN-286886).