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Investing In Mutual Funds In A Prudent Manner

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Investing In Mutual Funds In A Prudent Manner
Ravi Jain - 29 September 2019

The domestic and global slowdown has severely impacted the investor’s sentiment. It’s time to focus on basic points to invest sensibly in mutual funds.

Investment in mutual funds has witnessed a remarkable spike in the last few years. From the investors’ perspective too, mutual funds make sense as the qualified fund managers manage them. For the service of the fund manager, you need to pay a minimal fund management fee.

Why invest in mutual funds?

Mutual funds are a pool of funds (corpus) contributed by many investors. The mutual fund uses such corpus to invest in a set of stocks, bonds, and other asset classes. Set of stocks, bonds, and other asset classes are selected to minimize the risk associated with direct investing in a single or small number of assets. For example, a mutual fund invests in 20 stocks. There is a very low probability that all stocks slump or rise at the same time unless there is a severe financial crisis. In the case of investment in an individual security or a small set of companies, the risk is much higher.

Additionally, mutual funds are managed by professional fund managers whose job is to find the right companies to invest in, track the companies for their performances, and change the proportion of investment as per the situation demands. Very few common investors have the expertise to manage their investments with expert knowledge. Moreover, investors can invest in ELSSS (equity Linked Saving Scheme) funds to get tax benefit u/s 80C.

Mutual funds offer a wide variety of funds based on your risk profile and needs.

Types of mutual funds

Mutual funds are primarily of three types based on their investment exposure. Equity mutual fund that has large exposure in equity; Balance funds which have close to half investment exposure in equity and a half in debt; and, Debt funds that invest in debt-oriented assets. The average returns on mutual funds vary with the risk level of the selected fund.

How to invest in mutual funds sensibly?

Investing in mutual funds require some careful steps. These are explained in the subsequent paragraphs.

Know your risk profile

Equity funds are risky because they are market-oriented. Any fluctuation in the market will change the value of your fund. However, the return is high in this type of fund, though the extent of return is not fixed. Hence if you are not comfortable with equity funds, you should look for the balanced fund or debt funds which are less risky.

Know your objective

Your objective could be building wealth over a period of time, protecting your investment, getting monthly or quarterly income, or saving tax. Building wealth is a long-term process. You should go for equity-based funds. Equity-based funds have high risk, but they are known to give the best returns in the long term. Similarly, investing for short-term can be done in balanced or debt funds. In the short-term, return on equity funds re known to fluctuate widely and hence are not the best investment for short term purpose.

Look at the returns for the past 5-10 years

Once you know the type of funds you are going to invest in, look for the average returns (also known as CAGR) for last 5 to 10 years of few funds under the category. Select the one that has given the best return. Even though past returns are no predictor for future returns, it is a good criterion to filter.

Consider the management fee

The management fee is also known as the expense ratio. Compare the expense ratios of the selected funds. A high expense ratio will go out of your returns while a low expense ratio will add to your returns.

Finally, combine all the factors and analyse carefully to select the right mutual fund scheme. You can also take help from a financial planner, mutual fund advisor, or can walk down to any fund house and discuss your investment goal to select the right fund. You can invest in mutual funds through your Demat account or call the mutual fund distributor or invest directly through the mutual fund houses.

The author is the chairperson at JRK Group

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