You might reiterate that you don’t really care and are, well, comfortable with the paltry 3.5 per cent your money earns in the savings account. But think about it: what if you could earn a multiple of that without turning into a control freak or going through the pains of acquiring a tome of investing wisdom? That’s exactly what mutual funds are there for. These money managers invest your money for you in the plethora of instruments that dot the investment space—for a small fee, of course.
The future is here. Make no mistake, mutual funds are the investment vehicle of the future for individuals—even the government thinks so. The government is reducing interest rates on small savings schemes to market levels (the latest being the 1 percentage point cut in Budget 2003), pulling away the cushion of assured returns and terminating fixed-return investment plans (as has happened to several schemes of life insurance behemoth Life Insurance Corporation). In other words, it’s saying, if you want higher returns, be prepared to embrace risk by venturing into the uncertain and topsy-turvy world of equities.
For individuals who are not market-savvy, the best way to embrace this risk without taking on the accompanying headaches is mutual funds. Says N.K. Sharma, MD, IL&FS AMC: "In an environment that doesn’t offer guaranteed or fixed returns, mutual funds are the best option to earn market-linked returns." Adds T.P. Raman, managing director, Sundaram Mutual Fund: "Mutual funds are meant for the person who has savings and would like to diversify intelligently, but doesn’t have access to markets."
In the US, for instance, there are as many mutual fund schemes as there are listed stocks. India has a long way to go to achieve such parity, but that’s the direction in which we are headed. There are around 30-odd fund houses in the country offering about 600 schemes. The number of schemes on offer is bound to increase in time, with the emphasis being on new investment exposures, shifting from the plain-vanilla type of schemes to mix-and-match.
Such speciality will be more pronounced on the equity side, which offers more room to innovate. Today, for instance, there are sector funds, index funds, mid-cap funds. In time, schemes will offer narrower investment exposures, say, large cap IT stocks. So, instead of individually buying the infotech biggies like Infosys and Wipro, you could buy into such a scheme, and get an identical exposure. Similar investment trends are likely to be seen on the debt side as well.
Mutual funds offer something to suit every investor profile. For the uninitiated, there are basic plain-vanilla funds in all categories. There are more options for the market-savvy investor. If you have a basic idea of how the market works—what makes it tick, what makes it go into hibernation and so on—but don’t have the time or the inclination to track stocks and research companies, you can construct a portfolio around mutual funds itself. So, instead of buying stocks of drug companies, you could buy an equivalent amount worth of units of a pharmaceutical fund.
When you think that pharma stocks have run their course and would like to reduce your exposure, sell them. Or you feel the government is going to speed up its disinvestment programme, and so would like to buy some PSU stocks. Instead of spending time and effort analysing which PSUs to buy, you can buy a PSU fund, and get your desired exposure. Likewise, on the debt side. There’s plenty of room for savvy investors to actively mix-and-match investments, and manage a portfolio to their liking—without the transactional and research hassles of direct investing.
In spite of the inherent advantages of mutual funds—a wide range of investment options, easy accessibility (typically, the minimum investment amount ranges between Rs 1,000 and 5,000), high liquidity (you can get back your money in two to five days), tax-free dividends—investors aren’t exactly queuing up. The industry has hardly grown in the past three years.
With the stock market in the doldrums for three years now, scores of investors have lost money in mutual funds. Mutual funds are equally to blame for the retail investor’s apathy towards them. As a group, they are guilty of being opportunistic. Thrice in the past decade, mutual funds have raised big money. Each time the market was precariously perched near its peak, where it was obvious that the scope for further gains was limited. While the need of the hour was restraint, fund houses instead cranked up their marketing machinery and cashed in on the bullish sentiment.
UTI is another sour point with retail investors. Sordid tales of corruption, bureaucratic wrangling, financial bungling—everything that could possibly go wrong, has gone wrong at this once-venerated fund house. Just about every middle-class investor lost money in US-64 when UTI changed the rules of the game to save itself from sinking. Scores of tax-saving schemes launched by public sector funds in the mid-1990s currently yield negative returns. In other words, eight years on, investors in these schemes haven’t earned a single paisa on their investment! With such tales of investment misery, disgruntled investors abound.
So why, despite a patchy report card, are we still advising you to trust your money to these fund managers? Because times have changed. The mutual fund industry has become more transparent and investor-friendly. The market risk will always be there, of course; but that’s something that can be managed by investing in well-performing schemes and by staying invested through long periods of time. A majority of equity funds will mirror the market, especially in the short term. Over time, though, the better mutual funds will break away from the pack.
Of the 31 equity diversified schemes that have been around for five years, a total of 10 have returned more than 12 per cent a year, with the highest being 27 per cent (see table for Outlook Money’s top-ranking schemes in the various categories). Says Sharma: "Assuming there are no new irritants in the market, we expect equity funds to return 15-20 per cent a year over the next one to two years. From debt funds, we expect 7-8 per cent a year."
How to choose a fund. Whether you are a mutual fund novice or market-savvy, here are five must-dos to get more out of your mutual fund investment:
- Know the basics of mutual fund investing: the types of funds, their working, how much return you can expect from them. The more you know, the better.
- Your investments should reflect your risk-taking capacity and financial objectives. Restrict your exposure to equities, as a percentage of your total investible surplus, to the level you are comfortable with. Advises Raman: "Sit with a mutual fund agent or someone from a fund house. Outline your expectations, investible surplus and risk profile, and let them draw up an asset allocation plan."
- Invest for the long term, at least three years for equity funds. For income and gilt funds, have a one-year perspective at least. Anything less than one year, you shouldn’t venture beyond liquid funds.
- Diversify across fund houses. If you are routing a substantial sum through mutual funds, invest in a few fund houses. That way, you spread your risk.
- Track your investments periodically. See that your scheme is performing in tune with the market, if not better. If you come across negative reports relating to your scheme, ask your financial advisor or broker about it, especially if there’s a possibility of your investment depreciating in value. If the threat is real, sell your holdings.
- If you find all this difficult, check the ratings that our sister magazine Outlook Money gives every year and pick the ones with five or four stars.
It’s your money, so the buck should stop with you. You should have a fair idea of where it is going, why it is going where it is going and what you can expect to get back in return.
By Avinash Singh with Kayezad E. Adajania