Mutual fund investing requires patience, efforts as well as risk appetite. Besides investing your money in the right securities/assets, mutual funds also offer various other benefits such as diversification and asset allocation, which should be taken into consideration while choosing a scheme.
Choosing the right mutual fund looks easy, but it cannot be done without sticking to some basic criteria. Before investing in any fund, you must first identify your goals for the investment. Identifying a goal is an essential step before scouring the mutual fund universe for the right scheme for you.
Risk and return are directly proportional; so you need to balance your desire for returns against the ability to tolerate risk. Besides, a potential investor must decide how long to hold on to a fund. In this article, we will discuss some of these criteria required in mutual fund selection.
There’s an objective that every mutual fund, without exception, follows. This objective can help investors determine if investing in that scheme would help her meet the investment objective. As for the style, one can choose from largecap, midcap, smallcap or microcap, multicap and flexicap funds depending on your risk appetite. As an investor, one should also consider the investment strategy of the fund. Most investors ignore this aspect, but it holds crucial importance in the success of your investment portfolio. It determines the approach that a fund house adopts while taking investment decisions and picking stocks for the scheme. If the investment strategy of the fund house is not in line with your investment goal, then a conflict of interest may arise.
Looking at how the fund manager performed versus its benchmark in the past can indicate whether or not she has a good track record as a stock picker. Investors should review the portfolios of the funds the fund manager oversees and how often she goes for a portfolio churn. This can give the good snapshot of the fund manager’s ability as a stock packer and a good money manager.
- Experience of the fund manager
This plays a significant role in generating returns. Before investing in a mutual fund, a smart investor should look at the past track record of the fund manager. Actually, a fund performance is often impacted by the fund manager’s expertise and tenure.
- Expense ratio
This is what indicates the cost of investing in an equity fund. The higher the expense ratio, the more it will affect the fund performance directly. It comprises brokerage fees and other costs that fund houses charge from investors.
- Ratio and performance analysis
One needs to compare the risk and performance of a fund by finding out average returns, Sharpe Ratio and Treynor Ratio and Standard Deviation. They measures the fund’s risk exposure and the alpha created vis-à-vis risk and the average return.
- Entry & Exit loads
Entry & exit loads are the cost components that impact an investor directly. Entry load refers to the fee charged by a fund house from an investor when she starts investing in the fund. Exit load refers to the fee charged by the fund house upon exiting the scheme. It is a fraction of the NAV that you receive and, thus, leaves a hole in your investment value. As an investor, you must look out for mutual fund schemes that have zero or minimal entry and exit load. However, it only comes into play in case of selling the units early. When you invest for the long term, the exit load automatically becomes nil. Investing for the long term is the best way to reap good returns from any fund.
Selecting a mutual fund is crucial to the overall success of your investment portfolio and achieving your investment goals. It may seem like a daunting task, but doing a little research and understanding your objectives can make it easier. With so many options at hand, one is certain to get confused and land up in a tricky situation. But if you can keep all the relevant factors in mind, you can manage to choose the best fund scheme to invest in.
(DK Aggarwal is the CMD of SMC Investment and Advisors)