Do you invest in star-rated mutual funds?
And how many times have they worked for you?
Free recommendations don’t work quit often.
As they say, there’s no such thing as one-size fits all approach.
Plus, distributors try to mis-sell products that fetch them higher commissions. Banks, fiduciaries of your money, don’t always have the most judicious standards and mis-sell.
[Read: Why Invest In Mutual Funds Through A Bank Is A Bad Idea]
Mutual fund houses launch New Fund Offers (NFOs) that often confuse investors and most of them make a bad investment proposition.
And the end result is, mutual fund investors’ end up investing in schemes that they don’t need. If you have been blindly investing in mutual funds until now, perhaps it’s time to review your portfolio.
[Read: Skip NFOs, Instead Consider Building A Strategic Mutual Fund Portfolio]
At PersonalFN, we believe it’s not only important to carefully select the mutual funds, but to know which funds would suit you the most.
Before you invest in mutual funds, you should know:
Your financial goals
Your age
Time horizon to achieve them
Your risk appetite
Based on these factors, you should draw a personalised asset allocation plan, which is nothing but the proportion you hold different assets such as equity, gold, real estate, fixed income assets, etc.
For example, if you are young and have a high-risk appetite, you might invest more in equity oriented mutual funds to achieve your long term goals.
[Read: Investing In Mutual Funds Can Help You Achieve Your Financial Goals]
Once asset allocation is in place, it’s the right time to shortlist worthy mutual fund schemes.
Here is what you need to consider:
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Quantitative Parameters
Performance and risk analysis
This is to analyse if the fund has shown consistency in performance across various market periods with decent risk-adjusted returns.
Under this, the fund needs to be ranked on quantitative parameters like rolling returns across short-term and long-term periods, such as 1-year, 3-years and 5-years, and on risk-reward ratios like Sharpe Ratio, Sortino Ratio, and Standard Deviation over a 3-year period.
[Read: Why Comparing Returns to Risk Is More Meaningful!]
Performance across market cycles
You need to ensure that the fund has the ability to perform consistently across multiple market cycles. Therefore, compare the performance of the schemes vis-à-vis their benchmark index across bull phases and bear market phases.
A fund that performs well on both sides of the market should rank higher on the list.
Qualitative Parameters
Portfolio Quality
Adequate Diversification- The scheme should not hold a highly concentrated portfolio.The portfolio should be well-diversified and the exposure to the top-10 holdings should be ideally under 50%.
Credit Quality- For debt portfolios, you need to ensure that the fund does not hold a high proportion of low-rated (securities rated AA or below) or unrated debt instruments.A fund with a higher credit quality should be ranked higher.
Low Churn- Engaging in high churning can result in trading and high turnover cost.Therefore, you also need to consider the portfolio turnover ratio and expenses, and penalise funds involved in high churning, i.e. those funds with a turnover ratio of more than 100%.
Quality of Fund Management
You also need to consider the fund manager’s experience, his workload and the consistency of the fund house. Therefore, assess the following criteria:
The fund manager’s work experience– He/she should have a decent experience in investment research and fund management, ideally over a decade.
The numberof schemes managed– A fund manager usually manages multiple schemes. Thus, you need to check if the fund manager is not loaded with a large number of schemes. If he is managing more than five open-ended funds, it should raise a red flag.
The efficiencyof the fund house in managing your money– Research about the fund house’s consistent performance across schemes. Find out if only a few selected schemes are doing well. A fund house that performs well across the board is an indication of sound investment processes and risk management techniques in place.
Watch this short video on selecting mutual fund schemes:
Read about the comprehensive mutual fund rating methodology followed by PersonalFN, here.
Yes, we know that the above list is a lot for an average investor to look at. It involves a lot of number crunching and much of the data is not easily available at one place. But, if you do need to narrow down on the top funds, these factors are of utmost importance.
Happy Investing!
