"If you don't find a way to make money, while you sleep, you will work until you die"
Warren Buffet
Mutual funds are the preferred choice among investors to earn stable, consistent returns over a protracted period of time.
More importantly, investors lacking the expertise, knowledge, and time to conduct extensive research to pick and select stocks with a promising future are trading less than their intrinsic value.
An extensive list of factors is taken into account when selecting mutual funds for investment. There are several factors to consider, including your investment objective, return expectation, risk tolerance, and the period you intend to hold the portfolio.
Once all these basic factors are considered, other incisive fund-specific parameters are unique and distinct to each fund, such as expense ratio, past performance, fund manager's experience, credentials, and assets under management.
Even though you may encounter the acute scarcity of time to determine which is the best mutual fund, there is still some preliminary research needed to zero on the best, most appropriate mutual fund:
You need to have unambiguous clarity as to what is the objective behind purchasing mutual funds. Over a prolonged period, you may accumulate sufficient returns to finance your daughter's wedding, or you may be able to build up a portfolio with sufficient funds to afford an overseas education in the future.
Sometimes, it can be relatively short-term, such as buying a car, international holiday, down payment on a house, etc.
Ideally, the objective of the mutual funds should be long-term, as mutual funds will be able to sustain see-sawing price fluctuations, withstand corporeal economic changes in the present, and provide substantial returns over a long period.
"He who has a why to live can bear almost any how."
Fredrich Nietzsche
You can cope with transient and temporary changes in the NAV of the mutual fund if you are clear on the "WHY" of investing. Or you would fizzle out or go into panic mode over volatile short-term changes in the stock market.
An investor's time horizon refers to the length of time he/she is prepared to keep their money invested in a mutual fund scheme.
As the legendary investor Warren Buffet quips, "If you aren't willing to own a stock for ten years, don't even think about owning it for 10 minutes."
It can be as short as one day or as long as five years. There are different types of funds that work best for different time horizons.
Liquid funds are debt mutual funds that generally invest in short-term debt instruments with fixed rates of return.
Among these debt securities are treasury bills, commercial paper, and certificates of deposit with maturities up to 91 days. Investing in such mutual funds has the advantage of offering high liquidity.
In finance, liquidity refers to the ease with which an asset can be bought, sold, and converted into cash.
Typically, ultra-short duration funds invest in short-term debt and money market instruments. SEBI guidelines require ultra-short duration funds to have a duration of 3-6 months.
Many investors are pulled between two tensions: considerable returns and risk minimization. It is possible for such investors to benefit from hybrid/balanced funds, which are mutual funds that invest in more than one asset class, i.e., equity, debt, and other asset classes, based on their investment objectives.
Investing in a mix of asset classes aims to diversify the portfolio to minimize risk. There is a potential for hybrid funds to produce better returns than debt funds while being less risky than equity funds. In general, hybrid/balanced funds last between 3 and 5 years. Equity funds are purely equity-oriented funds with more than 5 years.
Historically, good funds have given desirable past performance. In any mutual fund prospectus, it will explicitly state that past performance is not a guarantee or harbinger of future results.
It is seen in most cases, however, that good funds outperform in most market conditions. In volatile market conditions, they may not outperform in the short run, but in the long run, they do.
The benchmark index of a mutual fund scheme is the barometer and gauge against which its performance and stock allocation are compared. It is imperative to note that the benchmark index reflects the scheme's investment objective.
For example, a large-cap mutual fund's benchmark index should include all of the large-cap stocks in that fund.
It is also important to assess the mutual fund's performance in comparison to its active peers. As a result, a holistic understanding of the fund's performance can be gained. It should be a comparison between the same mutual fund schemes.
For instance, a large-cap equity fund should be compared with other large-cap funds and not against any mid-cap or small-cap funds.
The consistency of returns over time is as important as the magnitude of returns. The concept of consistency is quite straightforward and straightforward.
A fund that generates 13%, 14%, and 15% over three years offers the same CAGR as a fund that generates 5%, -4%, and 47%. As a result, the first fund is more predictable when it comes to returns, whereas the second fund is extremely unpredictable and volatile.
A mutual fund must generate consistent returns for its investors rather than whirlwind returns. A fund needs to provide consistent returns in both bullish and bearish markets.
Another important factor to consider is the elaborate length of time the fund manager has been at the helm of the mutual fund scheme while not overlooking his past performance.
The fund management team should be consistent over time. You should avoid a fund witnessing a lot of churn and attrition in senior personnel like CEO, CIOs, Fund managers, etc.
That is not very favourable for consistency of investment policy and long-term performance as every fund manager will have his own distinct set of ideas and investment philosophy. Investors may have to forego the compounding effect of investments being untouched for long periods.
Ideally, the best mutual funds for investment are funds that have a consistent and long-standing management team at the helm of the mutual fund scheme.
In fund management, the expense ratio refers to the commission or fee the fund manager charges for properly managing investments. A fund manager's fee is a charge levied on investors for generating profits.
You should invest in mutual funds with low expense ratios as an investor. Despite the minuscule percentage, when calculated across all investments, it can significantly affect the NAV of a mutual fund scheme.
As a derivative of Assets Under Management, the Expense Ratio is considered lower when AUM is higher.
We have discussed some basic factors to consider when picking and choosing a mutual fund scheme. To pick the best mutual fund, you should focus on buying units of mutual funds that align with your values and investment philosophy and meet your needs determined by your risk tolerance.
The next step is to explore alternative options. The right mix and composition of equities, debt, money market instruments, etc., should be included in a mutual fund.
Monitoring funds regularly and being hyper-aware of the ever-changing needs of investors and market dynamics needs to be tweaked and fine-tuned consistently.
