Investing in mutual funds is becoming quite popular among investors, and with good reason. They offer the average investor an opportunity to invest in a diversified pool of assets that are managed by experienced and qualified fund managers. Mutual funds invest across asset classes, themes and market capitalisations, thereby providing investment products along the risk/return spectrum. Due to these multiple benefits, an increasing number of investors are choosing to invest in mutual funds to achieve their financial goals. However, in order to truly harness the benefits of mutual funds, investors should consider a few important factors.
You risk profile basically indicates your willingness, ability and need to take risk. In order to create an optimal portfolio, you must ensure that your investment choices are aligned with your risk profile. When you don’t invest according to risk profile, you might end up making a wrong decision and losing your money. Let’s take an example: you are a low risk taker and have invested in small cap funds. Now, small cap funds tend to be highly volatile in nature and hence are considered very risky. It is highly probable that in volatile times your investment in the small cap fund might fluctuate tremendously and being unable to accept this volatility you might exit the fund. This might be an unwise decision since small cap funds might be volatile in the short term but can generate superior returns over the long term, say more than 5 years.
Investments in open-ended funds are liquid and you can withdraw money at your convenience. You cannot exit from close-ended funds but can sell on exchanges, However, in India, liquidity for mutual funds is very less. So, before investing in mutual funds, you should properly analyse your goals and need of money over time in order to remove liquidity risk.
At the end of the day, investments are made to reap returns. Most of us look at the past performance of the fund to assess its ability to perform in the future. But, what is the guarantee that the fund will continue performing the same as it has in the past? There are many examples where the fund has initially given the great returns and failed in the next few years. In addition to past performance, one should also look at qualitative measures like the fund manager and his or her experience.