While it is true that large cap mutual funds may provide the potential for wealth creation over the long-term and are considered relatively stable, it is still advisable for investors to be cautious. Many investors might make basic yet avoidable mistakes, leading to sub-optimal investment decisions. Knowing these mistakes can help investors invest more cautiously.
In this article, we will walk you through common large-cap funds mistakes, how they might impact investment performance, and what you can do to avoid them.
Overlooking fund performance and consistency
Many times, investors might judge a fund based on its recent high performance, which is not indicative of the fund’s future potential. A fund may show impressive results over the past year or two, but the key is to observe consistency across multiple market cycles. Hence, always evaluate a fund’s returns over 3-year, 5-year, and 10-year periods. Compare the fund’s performance against its benchmark index and similar funds in the same category. Furthermore, check how the fund performed during both bull and bear markets to analyse its ability to manage volatility.
Ignoring expense ratios and exit loads
Many investors might consider expense ratios and exit loads as trivial costs and forget to factor them while investing in a fund. However, these two charges are key considerations.
- Expense ratio: This is the annual fee charged by the fund house for managing your money. So, even a 1% difference can impact long-term returns.
- Exit load: This is the fee you might pay if you redeem your investment before a specified duration.
It is important to consider these costs before investing in large-cap funds. Ignoring them can reduce your potential net returns over time.
Read Also: Index Funds vs. Large Cap Mutual Funds: Which one to choose?
Relying solely on past returns
Just because a fund has delivered returns in the past doesn’t mean it will continue to do so in the future. Past performance may or may not be sustained in the future and many investors may fall into the trap of chasing high returns from the previous year. It must be remembered that markets evolve, fund managers change, and so do investment strategies.
Therefore, instead of focusing on past numbers, understand how those returns were achieved and whether the same approach is being followed now. Relying purely on historical data is among the most common large-cap funds mistakes.
Lack of diversification in portfolio
Despite a very popular saying in investment that says: ‘Don’t put all your eggs in one basket’, some investors, especially those new to equity markets, often invest all their capital in large-cap funds in one or more sectors assuming they are relatively stable. While large-cap funds may offer relatively more stability than mid- or small-caps, diversification remains important.
A well-diversified portfolio typically includes a mix of large cap, mid cap and small cap funds, along with debt and gold-based investments. This approach mitigates risk and potentially cushions your portfolio from market swings. Thus, while large cap funds may offer relatively lower volatility, adding other instruments and asset classes can help mitigate the overall portfolio risk.
Not aligning investment with financial goals
An investment journey without a goal is like a ship on sail without any port to reach. Every investment decision should begin with a goal. One of the most overlooked large cap funds mistakes is investing without a clear purpose.
An investor is recommended to ask themselves, if they are investing for retirement, a home purchase or their child’s education? What is the investment horizon to potentially achieve this goal––whether it is short-term or long-term? How much risk can they reasonably take?
If your financial goals are not defined, even a relatively stable fund may not serve your needs. Aligning the investment with time horizon, expected corpus and liquidity needs can make a meaningful difference.
Read Also: Role of Large Cap Funds in Portfolio Diversification
Timing the market instead of staying invested
While everybody suggests that to gain potential profits in investment, timing the market is essential, doing as much is not easy as it may sound. In reality, it is extremely challenging to time the market, even for professionals. For example, many investors often enter a large-cap fund after a rally with a big lumpsum amount and may exit during downturns, which may lead to losses. *Example for illustrative purposes only.
Equity investments, including large cap funds, tend to reward those who stay invested over the long-term. So, if you aren’t that proficient in timing the market, use Systematic Investment Plans (SIPs) to spread your investments across market cycles to average out the total cost of investment and mitigate the impact of market volatility.
Skipping regular portfolio reviews
Picking a suitable fund and investing your money in it is only the beginning of your investment journey. Even though large-cap funds may seem relatively stable, it is still important to review your portfolio regularly. Fund managers may change, and so can investment strategies. Your financial goals might evolve over time, too.
Therefore, periodic reviews, at least once a year, can help you rebalance based on your goals and risk profile. If a fund consistently underperforms its benchmark and category peers for more than 2–3 years, it might be time to reconsider your investment.
Choosing funds without understanding risk profile
Another common mistake is selecting a large-cap fund without knowing your personal risk appetite. While large-cap funds are generally considered to be relatively less volatile than mid-cap funds or small-cap funds, they still involve market-linked risks like all equity-oriented investments.
Hence, it is prudent to take a risk assessment test available on most mutual fund platforms or via your financial advisor. Furthermore, match your risk tolerance with the fund’s risk level. Then you can adjust your allocation to large-caps accordingly, either as a major portion for conservative investors or a base layer for more aggressive ones.
Strategies to invest in large-cap funds
- Track record: It is always advisable to look for consistency in performance over 5–10 years. Many schemes may project short-term numbers but you must avoid getting swayed by them.
- Expense ratio: Expense ratio on a higher side may eat into your potential returns. A lower expense ratio means you retain more of your potential net returns.
- Fund manager’s experience: There are many fund managers in the financial market today, but not everyone holds the expertise. An experienced fund manager may be better equipped to handle volatile market conditions and mitigate risk across market cycles.
- Portfolio holdings: It is very important to go through the companies the particular fund has invested in. Check whether the companies are well-diversified across various sectors to mitigate concentration risk.
Conclusion
Large-cap funds may be suitable for those who seek potential wealth creation over the long-term with relatively lower risk as compared to mid-cap or small-cap funds. However, falling into basic errors can weaken the potential benefits of this equity-oriented investment instrument. By following the above guidelines, you can aim to avoid some of the common pitfalls that many investors tend to succumb to.
FAQs:
What are some common mistakes while investing in large-cap mutual funds?
Some common large-cap funds mistakes include relying only on past returns, overlooking expense ratios, trying to time the market, ignoring portfolio reviews and investing without a defined financial goal.
How can I evaluate the right large-cap fund for my goals?
Start by identifying your financial goals and risk appetite. Then check the fund's long-term performance, consistency, expense ratio, portfolio allocation and benchmark returns. Also, consider how it has performed during volatile periods.
Is it risky to invest only in large-cap funds?
Large-cap funds may seem relatively less volatile than other equity funds, but they still carry market risks. Investing only in large-cap funds without diversifying across other asset classes may not be advisable.
Why is diversification important even with large-cap investments?
Diversification helps spread risk and can potentially cushion your portfolio against market volatility.
How often should I review my large-cap fund portfolio?
You may review your portfolio at least once a year or whenever there’s a major market movement or a shift in your financial goals.
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