With availibility of more than thousands of schemes; selecting right Mutual Fund is most important financial decision. Any wrong selection can wipe out your personal wealth. Then there are different investing styles that individual fund managers follow and which impact the returns their schemes give. That's why finding the right fund is not the easiest of jobs. We discuss a few pointers investors can use to select mutual fund schemes.
Mutual fund schemes must be chosen carefully in accordance with one’s goals, time horizon, risk tolerance and overall financial plan. In fact, based on these parameters every investor must follow an asset allocation plan. Once you know how much you need to invest across different asset classes such as equity and debt, you must choose funds that match your tenure. If your goal is less than three years away, you should consider investing in a debt oriented fund. For a medium-term goal that is typically between 3 – 5 years, you can consider balanced funds that have exposure to both equity and debt. For long-term goals, equity mutual funds offer a good option.
Know About the Fund House
Your money in mutual funds is going to be invested through a fund house, known as Assets Management Company (AMC). This is why the pedigree of the fund is important. Decisions taken by the fund house and the fund manager may have a direct impact on your investment’s performance and the realisation of your financial goals. Hence, it is important to do a check on the fund house, history of existence, track record across schemes before selecting a scheme.
Performance of Fund Manager
Fund manager plays an important role in the fund’s performance for he manages the fund and decides where all the investor’s money would be allocated. Investors must check the fund manager’s educational qualification, past experiences, number of schemes managed by him and performance of other schemes managed by the fund manager. Investors can also do a relative comparison of the returns of different types of schemes handled by him.
Asset under management is the total amount invested in particular scheme by all investors. In equity, the usual asset size is hundreds of crores. While in debt, the asset size stands at thousands of crores as the investment value per investor is higher. Investors should choose schemes that have higher AUM as that would minimize risks emerging out of any major negative market condition.
Performance of the fund
Returns over a quarter, a year or even two years are meaningless noise, at best. Almost all funds go through hot spells and cold spells. Buying a fund after it has been hot is often a recipe for disaster. Selling a good fund after a couple of bad years is usually folly, too. “You can’t judge an investor from what they’ve done over six months or a year,” says Warren Buffett. For equity mutual funds, check the long-term (three-five years) performance, while for debt funds look at returns over the short to medium term.
Investment strategy and objectives
You should read the scheme related documents thoroughly and understand the investment objective (which is nothing but the investment goal and the underlying rationale e.g. growth, income) of the mutual fund scheme and know the kind of securities in which your money will be invested. Evaluate the objectives and see if they are in line with your risk profile and investment goals.
The success of a mutual fund depends on how diversified its portfolio is. A diversified portfolio is better than a sectoral portfolio. An investor should look into the scheme portfolio and evaluate the risk associated with it. If the investment of a mutual fund concentrates more on a specified sector or stock, the chances of gains and losses are high. Because a small movement in the market may make the fund highly volatile and so their prospects.
Know about the charges and fee structure:
When you purchase a mutual fund, you have to pay a charge or fee initially or when the shares are sold. In both the cases, the fee is known as a load. These small costs can have a big impact on returns in the long run. A difference of 0.50% in recurring cost over a long period of, say, 10 years can make a big difference. The recurring cost in mutual fund is the expense ratio. Unfortunately, not many people look at the fund house's expense ratio before investing. Ideally, the bigger the size of fund, the lower is its recurring cost.