10 basic rules to pick right mutual funds

Posted On Thursday, Jan 23, 2020


The “Mutual Fund Sahi Hai” catchphrase seems to have encouraged a new wave of investors. Apart from existing retail investors, there are new and inexperienced investors that are parking their money into mutual funds. But here are some basic rules to keep in mind before investing in mutual funds:

1. Set SMART goals:
Before embarking on your investment journey through mutual funds, first set S.M.A.R.T. financial goals. This means that your investment goals should be Specific, Measurable, Adjustable, Realistic, and Time-bound. Investing in an ad-hoc manner without any focus could lead to the sub-optimal utilisation of your investible surplus and may not help in achieving your financials.

2. Recognise your risk profile:
Risk profiling determines your risk taking capacity and the willingness to take risk. It is measured based on various factors such as age, knowledge of financial products, investible surplus, time horizon, and investment objective.

Don’t get carried away with the high returns of an investment product, it is vital to consider the risk involved in respective investments and weigh that against your risk appetite. It would be best to first consider your risk appetite and the suitability of the investment for your financial goal, and then decide whether to invest in a particular financial product or not.

3. Focus on asset allocation:
Asset allocation refers to distributing your investible surplus across asset classes viz. equity, debt, gold, real estate or even holding cash for that matter. It is essentially an investment strategy that can balance your portfolio’s risk and reward- keeping in mind your risk profile, your financial goals, and your investment time horizon.

Certain hybrid funds, like balanced funds or multi-asset funds may meet your asset allocation needs to an extent. Therefore, while preparing the overall asset allocation for your portfolio, it is essential to pay heed to the fund’s investment allocation.

4. Select funds that suit your risk profile:
Can you afford take a roller-coaster ride, if you are a hypertensive patient? No. Likewise, when you select mutual funds, recognize their risk traits so that they are in-line with your risk profile and financial goals.

5. Diversify your portfolio well:
Diversification is the essence of investing. It reduces the overall risk to your investment portfolio. When investing in mutual funds, make sure that you have a fair mix of equity, debt, hybrid and solution-oriented mutual funds, based on your needs.

For example, under equity, diversify the portfolio over large-cap funds, mid-cap funds, and multi-cap or value funds. Likewise, in the debt category, invest in a mix of long-term and short-term debt funds.

When you are diversifying your portfolio, make sure you don’t hold too many funds of the same asset class. Focus on optimal and not excessive diversification.

6. Pay attention to the investment strategy adopted by a fund:
Fund houses offer a variety of funds to suit the needs of diverse investors. Every category and sub-category of mutual funds, possess distinct characteristics based on its investment mandate.

Recognize the investment strategy the fund follows for a prudent selection.
Do not judge the type of fund solely by its name. It is essential to take a deeper look into the investment allocation and strategy adopted by the fund before you invest. Unless you understand the risk involved in such investment strategies, it is best to stay away from such funds.

7. Consider the tax implications:
This again is important; because the ultimate investment objective is to clock effective real rate of return (also known as tax-adjusted return), as well as tax efficient returns.

Equity mutual funds (i.e. schemes that allocate over 65% of their total assets in equity and equity related instruments) and non-equity mutual funds attract different tax norms.

Equity mutual funds if redeemed within a holding period of one year attract a Short Term Capital Gain (STCG) tax of 15%. On gains over a period of 1 year, known as Long Term Capital Gain (LTCG), equity mutual funds will attract a LTCG tax of 10% for gains in excess of Rs 1 lakh.

For non-equity funds, STCG is clubbed with your income and taxed as per the tax slabs. LTCG tax of 20% with indexation applies on gains for redemption of non-equity funds for a holding period of greater than three years.

8. Don’t ignore the cost:
All mutual fund schemes charge an expense ratio —a fee that is charged on an on-going basis towards fund management and distribution overheads.

On an annual basis, the fee or expense ratio can range from as low as 0.10% to as high as 2.25%, depending on the type of scheme you choose.

However, when you invest in a Direct Plan of a mutual fund, the expense ratio is lower than that of a regular plan because you bypass mutual fund distributors/agents and thus no commissions are to be paid.

Hence, the NAV of a Direct Plan is higher than a Regular Plan. But do note that the portfolio is the same for a Direct Plan and for a Regular Plan of a mutual fund scheme.

9. Invest regularly for the long term
Remember, Aesop’s fable - “The tortoise and the hare”?

As you would know, the moral here is “slow and steady wins the race”. This is applicable in the world of investing too.

Starting small (but at an early age) and investing regularly for the long term, can help you generate wealth and accomplish your financial goals.

And to do this, subscribing to Systematic Investment Plans (SIPs)—a mode of investing in mutual funds—is worthwhile.

The five key benefits of investing via SIPs are:
• Lighter on the wallet (one can invest as little as Rs 500)
• Makes market timing irrelevant
• Enables rupee-cost averaging
• Supports the power of compounding
• Helps in goal planning

SIPs infuse the needed discipline to invest regularly and systematically in mutual funds. And mind you, it’s not about timing the market; but ‘time in the market’ which SIPs help you focus on in the journey of wealth creation.

10. Review your mutual fund portfolio
Once you invest, it is vital to review your mutual fund regularly (at least once in 6 months) to ensure that it is in line with the asset allocation that is best suited for you, weed out non-performing mutual funds, reinvest in better alternatives, consolidate the portfolio, and make sure you are on track to accomplish the envisioned financial goals.

Disclaimer, Statutory Details & Risk Factors:

The views expressed here in this article / video are for general information and reading purpose only and do not constitute any guidelines and recommendations on any course of action to be followed by the reader. Quantum AMC / Quantum Mutual Fund is not guaranteeing / offering / communicating any indicative yield on investments made in the scheme(s). The views are not meant to serve as a professional guide / investment advice / intended to be an offer or solicitation for the purchase or sale of any financial product or instrument or mutual fund units for the reader. The article has been prepared on the basis of publicly available information, internally developed data and other sources believed to be reliable. Whilst no action has been solicited based upon the information provided herein, due care has been taken to ensure that the facts are accurate and views given are fair and reasonable as on date. Readers of this article should rely on information/data arising out of their own investigations and advised to seek independent professional advice and arrive at an informed decision before making any investments.

Mutual fund investments are subject to market risks read all scheme related documents carefully.

Please visit – www.QuantumMF.com to read scheme specific risk factors. Investors in the Scheme(s) are not being offered a guaranteed or assured rate of return and there can be no assurance that the schemes objective will be achieved and the NAV of the scheme(s) may go up and down depending upon the factors and forces affecting securities market. Investment in mutual fund units involves investment risk such as trading volumes, settlement risk, liquidity risk, default risk including possible loss of capital. Past performance of the sponsor / AMC / Mutual Fund does not indicate the future performance of the Scheme(s). Statutory Details: Quantum Mutual Fund (the Fund) has been constituted as a Trust under the Indian Trusts Act, 1882. Sponsor: Quantum Advisors Private Limited. (liability of Sponsor limited to Rs. 1,00,000/-) Trustee: Quantum Trustee Company Private Limited. Investment Manager: Quantum Asset Management Company Private Limited. The Sponsor, Trustee and Investment Manager are incorporated under the Companies Act, 1956.

Above article is authored by Quantum.

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