Factors that determine right Mutual Fund category and scheme for investors
Your life is an outcome of your decisions. Just like the right decision taken at the right time can shape your life for the better, similarly your decisions regarding your mutual fund investments can help in defining your investment portfolio.
As the world of mutual funds is vast, choosing the right category and scheme can be overwhelming. Thus, to help you make an informed decision and drive away your dilemma, we have highlighted some factors an investor must consider before picking the right mutual fund scheme. Ask yourself these questions before your zero in on investing in mutual funds.
Does the fund fit into my investment objective?
Before starting any investment, investors must be clear about their financial goals. While some may have an objective of long-term growth or capital appreciation, others may aim to earn Income distribution cum capital withdrawal (IDCW) or a combination of all these. The objective, essentially, denotes the purpose of investment – such as buying a house or a car, financing children's higher education, going on a vacation, retirement, etc.
Let's understand this with an example: Mr. Sinha, who is nearing his retirement, wants to generate a stable income from his savings for the future. He invests in highly volatile sector funds which recently outperformed the relevant sectoral index. However, just when Mr. Sinha needs the income from his investment, the fund value falls. Not only does Mr. Sinha's income reduce, but he also loses some of the capital that he invested initially. So, where did Mr. Sinha go wrong? Well, he invested in a high-risk fund that is not suitable for retirement planning.
What should I consider before selecting a mutual fund category?
After identifying your objective, the next step is to choose the right mutual fund category. Mutual funds are categorised as equity funds, debt funds, and hybrid funds. The right fund for you depends on various factors. Let's look at them:
- Nature of the fund: Some mutual funds are aggressive (high return/high risk), while others are balanced and conservative (moderate return/risk). You should choose a fund that aligns with your age, overall goals, and your current financial situation.
- Time horizon: The time horizon is the time duration you want to stay invested for. Long-term goals are better served by growth-oriented equity funds, while mid-term objectives demand a balanced approach to portfolio for both reasonable returns and relative stability against volatile trends. However, for short-term goals, it is recommended you invest some portion of your corpus in bond funds.
- Risk tolerance: Measuring your risk appetite is a crucial aspect of selecting the right mutual fund category. SEBI made it obligatory for all mutual fund houses to disclose a 'riskometer', which consists of various levels of risk (six) associated with the invested principal amount. An investor must evaluate whether he or she has a high-risk tolerance or a moderate risk appetite or low risk appetite.
Factors to consider for choosing a right mutual fund scheme
A single mutual fund category may offer plenty of mutual fund schemes. Here are some factors to determine which mutual fund scheme may best suit you:
- Fund Manager: A fund manager's performance history is also an important component when choosing a mutual fund scheme. Thus, investors should do a thorough check of the manager's past performance before deciding to invest.
- Expense ratio: Most mutual funds have overhead costs such as management fees, administration charges, brokerage, marketing and sales expenses, commissions, etc. These are charged from fund investors as a percentage of the AUM (assets under management) and known as TER (Total Expense Ratio) of a fund. Obviously, the lower the TER, the higher your overall returns.
Asset Under Management (AUM): Asset Under Management is the total assets that a mutual fund scheme manages. So, the higher the AUM, the higher the number of investors involved. There should be a balance between the size of the AUM and the flexibility of the fund manager to invest in different securities.
To sum it up, choosing the right mutual fund for your portfolio may seem like a daunting task, but once you consider all the factors involved, it isn't all that hard. Firstly, your investment objective should be crystal clear. Moreover, you should consider your time horizon and risk tolerance to decide which mutual fund category to invest in. In addition, the experience of the fund manager can also help you determine the suitable mutual fund scheme for your financial situation and goals. Once you answer to the question ‘in which mutual fund should I invest’ it is recommended to seek the help of a financial advisor before making the final investment decision.
FAQs:
What is a mutual fund?
A mutual fund is an investment vehicle that pools money from multiple investors to buy a diversified portfolio of securities. It is managed by a professional fund manager who makes investment decisions on behalf of the investors.
What are the factors to consider before investing in mutual funds?
Factors to consider before investing in mutual funds include your investment goals, risk tolerance, expense ratio, and the fund manager's track record.
What are the different types of mutual funds?
The different types of mutual funds include equity funds, debt funds, hybrid funds, index funds, and sectoral funds.
How do I invest in mutual funds?
You can invest in mutual funds through various channels including the distributors. You can also invest in mutual funds online, and through the fund house's website.
Mutual Fund Investments are subject to market risks, read all scheme related documents carefully.
This document should not be treated as endorsement of the views/opinions or as an investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.