• India’s diversified equity mutual funds rose in 2013 but underperformed the broader markets for the first time in five years, as returns were dampened by the losses in the mid- and small-cap shares as well as financial companies.

These funds gained 4.8 percent on average in 2013, according to data from fund tracker Lipper, delivering lesser annual returns than the benchmark BSE Sensex after 2008.  The Sensextouched life highs in 2013 and ended 9 percent higher, boosted by foreign inflows of more than $20 billion.

Shares of smaller companies, however, underperformed, with the BSE mid-cap index falling 5.7 percent and the small-cap index sliding 11.2 percent. Waqar Naqvi, chief executive at Taurus Mutual Fund, said the sharp fall in mid- and small-cap stocks came as a surprise in 2013.

“It was not expected that the market would create a life-time high again this year (2013) … I think it was a directional call which was unexpectedly in the other direction, which led to a situation where you did not load up yourself much more with large caps,” Naqvi said.

Funds were hurt because of significant exposure to smaller shares — data from Morningstar India showed that 35.54 percent of equity funds’ assets on average were allocated to such stocks during Jan-Nov. Data for December was not yet available.

Allocation to certain sectors also weighed on the performance of equity diversified funds in 2013. Financial services, which was fund managers’ favourite sectoral bet throughout the year with an average allocation of 23.7 percent, affected unit values as the BSE banking index fell 9.3 percent.

Banking shares such as State Bank of India, the country’s top lender, lost 26 percent while Punjab National Bank lost 28 percent in the year as the sector struggled after the central bank raised policy rates to rein in inflation and hiked short-term interest rates to support the rupee during the year.