Mutual funds have emerged as a simple yet effective medium of creating wealth across the world. In India, however, investors have had mixed experiences. The issues like mismatch between reality and expectations in terms of returns, lack of understanding about various products and their suitability as well as wrong positioning of various mutual fund products have time and again created perception issues about this wonderful investment vehicle. Thankfully, due to improved regulations and serious efforts made by the industry as well as those associated with it, the scenario has improved considerably.
However, with the ever increasing number of schemes and the number of fund houses, getting the best out of their MF investments remains a challenge for investors. Here are a few tips that could help MF investors in improving the performance of their portfolios:
Look beyond the performance
Many equity fund investors make performance of a scheme as the sole criteria for investing in it. While past performance certainly has a role to play in the decision making process, there are a few other factors that need to be considered. For example, someone investing in an equity fund should also have a closer look at other equity funds of the same mutual fund. It is crucial to ascertain whether the fund house has the required expertise to benefit from the potential of different segments of the markets as well as different investment philosophies. This can be useful in case changes have to be made either due to non-performance or in view of one’s revised investment objective/s as well as time horizon. Remember, most fund houses offer a family of funds thereby allowing investors to diversify across different asset classes to achieve different investment objectives as well as to invest for different time horizons. It is much more convenient to move money within the same fund house compared to redeeming from one fund house and reinvesting in some other fund house. Besides, one can avoid the risk of redeeming at one level and reinvesting at a different market level.
Have a truly diversified portfolio
Many investors fail to get the best out of their MF investments as they follow a hodgepodge strategy to invest in them. For example, not much attention is paid to having the right exposure to different market segments such as large cap, mid-cap and small cap stocks. It is crucial for an investor to keep an eye on this mix as it has a role to play not only in ascertaining the kind of returns he can expect from the portfolio but also the level of risk that he may have to encounter while earning these returns.
There cannot be a standard combination applicable to all kinds of investors as each investor has a different risk profile, time horizon and investment objective. While for an existing investor, the allocation that already exists has to be considered, for a new investor the right way to begin is to consider well diversified funds that invest predominantly in large cap stocks and have a small presence in mid and small cap stocks.
Give due importance to time diversification
Time diversification i.e. remaining invested over different market cycles is particularly important for equity investors. It helps in mitigating the risk that one may encounter while entering or exiting a particular investment or category at a bad time in the economic cycle. It has much more of an impact on investments that have a high degree of volatility, such as equity or equity oriented funds. Longer time periods smooth those fluctuations. Conversely, if one doesn’t have the capacity and the temperament to remain invested in a volatile asset class over relatively longer time periods, the right thing to do would be to avoid those investments. Time diversification is also important even while selecting the right option among stable investments such as short term, medium or long term debt funds as well.
The time horizon begins when one invests and ends when one needs to take the money out. The length of time one remains invested is important because it can directly affect one’s ability to reduce risk. Longer time horizons allow investors to take on greater risks, with a greater potential to earn better returns as some of these risks can be reduced by investing across different market environments. If the time horizon is short, one would have greater liquidity need and hence the focus has to be on liquidity with reasonable certainty of safety of capital.
Time horizons tend to vary over our life cycle. A young investor, investing as a part of retirement planning, would generally have long time horizons. The only liquidity need could be for short-term emergencies. However, someone in the same group saving for a specific event, such as the purchase of a house or a child’s education, may have greater liquidity needs.
As is evident, there are different aspects of mutual fund investing. The probability of success can increase manifold if one focuses on building a portfolio of funds that suit one’s requirements and have the potential to perform well.