Making MFs Work Better:

Investors are gradually waking up to the inherent advantages of this investment option - mutual funds. However, it’s not enough to choose a mutual fund as a vehicle for your investment journey. Rather, you must know the strategies that can yield better results

Mutual funds have proven their worth as an ideal investment vehicle to millions of investors the world over. In India too, investors are gradually waking up to the inherent advantages of this investment option. Going forward, MFs are likely to play an important role in investors’ portfolios, especially for those who look to make their money grow at a healthy rate in a tax-efficient manner. However, to achieve success, investors will have to follow the correct strategies and enhance their awareness about 

Various factors that can influence the final outcome :

Asset Allocation :

Asset allocation is a method that determines how one divides one’s portfolio among different investments. Following an asset allocation strategy helps one to have the proper blend of different asset classes in the portfolio and that too in the right proportion. In other words, asset allocation helps in controlling risk in the portfolio as different asset classes react differently to changes in market conditions such as inflation, rising or falling interest rates or a market segment coming into or falling out of favour. The key is to understand that asset allocation is different from simple diversification. While having a few funds in the same asset class would provide diversification to an investor, it will not control the risk in the manner that an appropriate allocation to different asset classes such as debt, equity, gold, and commodities would provide to his portfolio. Mutual funds are the most appropriate vehicle to practice asset allocation successfully. They not only provide diversification but also offer a ‘family of funds’ to suit investment objectives of the investors in different age groups with varied time horizons and occupations. Moreover, they also provide opportunities to re-balance the portfolio, which may be required as a result of changes in the circumstances.

Total Return :

Total return is the sum of two components - dividend and capital appreciation. For an MF investor, these elements provide the ‘big picture’ of what his investment is doing for him. Therefore, while selecting funds, keep an eye on the total return rather than considering either dividend or change in the NAV alone. By doing so, one can be reasonably sure of having a consistent performer in the portfolio that can go a long way in achieving one’s investment objectives.

Portfolio Turnover :

A portfolio turnover reflects how frequently securities are bought and sold by the fund. A 100 per cent portfolio turnover rate indicates that the portfolio was completely turned over in a year. Portfolio turnover generally varies with market conditions and investment category. For a MF investor, it is important to know that an aggressive equity fund is most likely to have high turnover rates. Some debt funds that seek to take advantage of the movements in the yield curve also have high turnover rates. Remember, a fund with a high turnover rate will incur more transaction cost compared to the one with lower turnover. Therefore, unless one is reasonably sure about the fact that higher turnover is likely to provide superior returns, such funds should be avoided. Investors can find out about the fund’s policy on portfolio turnover in the ‘offer’ document.

Beta :

Beta is the measure of the relative volatility of a mutual fund scheme to its market usually represented by an index, such as Sensex and Nifty. Beta indicates how much the fund will rise or fall in relation to the changes in the index. To measure the impact, the market has the beta of 1 as the index chosen is the measure of the market movement. If the fund has beta of 0.90, it represents that the fund has gone up (or down) by a factor of 0.90 for every 1 per cent change in the market index. A beta of less than 1 results in lower ‘highs’ and higher ‘lows’ than the market. In other words, a beta can indicate which mutual fund is likely to perform in a consistent manner over a period and which may go like a merry-go-round. Investors will do well to use betas in matching their risk tolerances to the fund they intend to invest in.

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Source : DSIJ

Holding Dilemma:

Holding Dilemma:

Mutual Funds Investors normally invest in 4-5 different funds. Probably out of these 4-5 funds, 1-2 may not perform well. Over a period of time, they may come across such thoughts that there is a need to get rid of these non-performing funds. The question remains what is the right time to move out from such funds and select some good ones as already few non-performing funds are down by a certain percentage. Does it make any sense to book such losses? There is a need to study this situation in depth.

We need to analyze whether a particular non-performing fund is a good fund or not. It is imperative to judge the current and past performance of the fund, and of course, a comparison with its peers in different market situations makes a difference. Consistency is another key factor to analyze a fund. If a fund has given a consistent performance in the past and at present, its down in parity with the market downfalls, we need to retain it. Possibly the present non-performance of a fund might be due to the prevailing market conditions.

In case that fund is a habitual non-performer, we need to redeem such funds. Can an employer continue with a regular late comer or a non-performer? Be it any company, any employer, the answer would be the same in any situation. On a contrary, it will be an imprudent decision on that employer's behalf, to fire a performing employee, by just checking the attendance sheet for a weekly/fortnightly period. We need to take a rational view about our investments. One can dispose off the non-performing funds any time.

A bad fund may turn out to be even worse with time, one need to get rid of it sooner or late. Immediately with the diagnosis, it is always better to start treatment. There is no need to wait, its time for some action. The same way, start investing anytime in healthy funds and vice versa get out of such unprofitable funds any time, just a decision is required.

Direct Investments can be injurious to your Wealth:

Direct Investments can be injurious to your Wealth:
It is a time of specializations. You will find specialists, super specialists in almost all fields, but the question here is, how many of us actually avail their services. To quote an instance, let us consider the case of medicines in India, in most part of our great nation, you will find majority of Indians relying on self treatment, thus self medication. To worsen the situation further, pharmacists supply these required medicines on demand in order to boost their sales and even prescribe more to clinch further sales. And in the presence of relaxing pharma law agencies, this practice is going on. No doubt, most of the patients are getting timely relief as well, without realizing that this timely relief may turn out to be a night mare for the days to come.

Here, read an old joke. One young lad was driving a Hero Honda mobike on one highway on high speed. He crossed one passing truck twice and asked the truck driver with a pastering smile, \"Have your ever driven Hero Honda\". Later the truck driver found the young lad lying crashed on Highway. He stopped his Truck and came near asking the boy, you were asking me about my driving, now what happened. The poor boy replied that I was seeking your guidance about how to apply the breaks.

This piece of humor is enough to illustrate the fact, if you do not know applying breaks, do not drive. So refrain from self medication and do not seek advice from quack doctors.

When, we fall sick, we refer the Doctors. When, our vehicle break down, we go to mechanics. For pursuing education, we go to schools and colleges. And the list never ends. So on. Then, why to experiment with your hard earned money?

The First reason to invest in Mutual Funds is to benefit from the expertise of Fund Managers. Capable and trust worthy fund managers are engaged by the Asset Management Companies and so your investments will be managed under experienced hands. And if this is not enough; do not negelect the role of advisors, good advisors are like your neighborhood family doctors, who will keep you informed about fund managers as per your requirements, various investment avanues, type of fund, time horizons, asset allocation and other factors, crucial for your investments. Your advisor knows you, your family, your earning, your risk tolerance, emphasizing in a sense he cares for you.

Believing in fund house or fund is secondary; first believe in your Advisors. Avail his services in selecting funds, servicing of your investments, continuous updates about status of your funds and so on. For a mere of 2-3 % charge you pay him as a fee, you can capitalize on his suggestions which in turn would be worth fortunes.

It is imperative to understand, there is no free lunch. Benefit from the services of your distributors/advisors to secure your investment for the sake of your investments. Directly choosing funds and investing without a thought can be fatal for your investments. Mind this. Act before its too late.

Which mutual fund is right for you?

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First started in 1924 by three Boston money managers, the mutual fund industry has grown into one of the biggest industries in the world. Not only in size, but also product offerings have gone up. This has led to confusion in the mind of investors on how to select the appropriate mutual fund scheme. In this article, though not comprehensive we provide a good starting point from where a person can increase her/his awareness about how to pick mutual funds.

To start with one must first decide on the financial goals and asset allocation. Once this is clear, he/she can then decide on where to invest and how much amount to allocate for mutual fund

Must do: It is essential to read the offer document before investing. In fact, all mutual fund distributors and financial planners are required to give their clients a copy of the same before the investor signs the application form. One can even go through the Key Information Memorandum (KIM) of the fund as the offer documents tend to be exceedingly lengthy.

Investment objective or scheme philosophy: This explains the scope or mandate of investment. It outlines the debt-equity mix and the type of instruments that the fund would invest. It indicates where your money will be invested by the fund manager, i.e., whether large, mid- or small-cap specific, the level of diversification, the option to the fund manager to invest overseas etc. While selecting the schemes, the investor should keep in mind his financial goals. Also one must keep in mind the risk appetite. Funds that have a high concentration in particular stocks or sectors tend to be very risky and volatile.

For example: HDFC Equity fund has the objective to achieve capital appreciation, while the investment objective of HDFC Infrastructure fund is to seek long-term capital appreciation by only investing predominantly in equity and equity related securities of companies engaged in or expected to benefit from growth and development of infrastructure. (Source: HDFC Mutual Fund)

Type of fund: Whether the fund is open- or close-ended? Open-ended schemes are available for subscription and redemption on an ongoing basis. They usually do not have a fixed maturity period. The units can be bought and sold any time during the life of the scheme at NAV related prices.

In case of close-ended mutual fund, the schemes have a stipulated maturity period. It is bought and sold just like the shares of a regular stock as it is listed on the stock exchanges. Generally the close-ended schemes trade at a discount to NAV; but closer to maturity, the discount narrows. In case of investing in a close-end fund, the lock-in period, liquidity window and repurchase options should be considered.

Risk: Each type of fund has a risk associated with it. For e.g.: scheme having large cap exposure is less risky than one with more mid cap stocks. Risk is normally measured by Standard Deviation. Higher the Standard Deviation, higher the risk taken by the fund to earn returns.

For example, if scheme A generates a return of 12% while scheme B generates a return of 10%, it would appear that the former is a better performer. However, the risk associated with scheme A is higher than B. Then it may actually be the case that scheme B has a better risk-adjusted return.

Let us assume that say that the risk free-rate is 6%, and scheme A's portfolio has a standard deviation of 7%, while B's portfolio has a standard deviation of 5%. The Sharpe ratio for scheme A would be 0.5691 while scheme B's ratio would be 0.6581, which is better than A. Based on these calculations, B was able to generate a higher return on a risk-adjusted basis. The fund's performance is better if the Sharpe ratio is better.

To give you some more insight, a ratio of 1 or better is considered good, 2 and better is very good, and 3 and better is considered excellent.

Performance Returns: While past performance may not get repeated in the future, it is always an important tool to select a mutual fund. This indicates the fund's ability to earn returns across market conditions.

Further, in case of a well-established track record, the likelihood of it performing well in the future is higher than a fund which has not performed well.

One also needs to compare the fund with its benchmark index and its peers as in isolation the performance do not give a meaningful insight.

However, care has to be taken to compare similar funds. For example, large cap funds to be compared to large cap funds and not small cap funds. While returns are an important measure of evaluation, it is not the only parameter. Importance to the other factors particularly to the risk should be also considered.

Cost of investing: This becomes a crucial factor when investing for a long term. If the fund is incurring huge expenses, it may not be worth investing in that scheme. Investors should look at the following important costs before deciding.

Expense ratio: Expense structures like costs of running the fund, including salaries paid to the fund manager are declared by the fund each year. Expense Ratio is the percentage of assets that go towards these expenses. Also higher churning by the fund manager increases the cost, as he pays a brokerage fee, which is ultimately borne by investors in the form of an expense ratio.

Further, if the churning is on the higher side, higher is the volatility. The fund incurs costs every time it buys and sells stocks hence the longer a mutual fund holds on to a stock, the lower will be the expense.

Exit Load: While SEBI has done a good move by removing the entry load, exit load still continues to exist. An exit load is charged to investors when they sell units of a mutual fund within a particular tenure. Generally it is charged if the units are sold before a year. It is a part of the NAV, thereby reducing your returns.

Studies have shown that over time, virtually all of the difference in return between funds is attributable to the higher costs.

Other important factors such as minimum initial investment, methods of purchasing, redeeming and making additional investments and the time taken for redemption, so forth and so on should also be looked upon.

While these tips may help one in easing the process of selecting a mutual fund, one must always keep a track of the investments on a regular basis depending on one's risks and needs. It is recommended for investors to have a long term horizon while investing in equity oriented funds. While there is no set of directions that are likely to beat the market using mutual funds, one must choose a fund that will stand by you in sickness and in health.

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