A Guide to Choose the Best Mutual Fund
Pallavi works in the investment banking industry. She is a mother of a little child and is married. In the next ten years, her main financial goal is to accumulate a lump sum of Rs 25 lakh. She wants to put money towards sending her child to university in another country. Pallavi decided that investing in mutual funds was the best option for her because she is not afraid of taking risks.
Let’s have a look at a few pointers to remember when selecting the best mutual fund:
What is a Mutual Fund?
Mutual funds are a way of pooling funds, allocating units to investors, and investing proceeds in securities based on the objectives of the offer document. Since not all stocks fluctuate in the same direction or proportion at the same time, securities investments are dispersed in different businesses and departments, thereby reducing risks.
Investors receive units based on the number of funds they have in mutual funds. Individuals who invest in mutual funds are called unitholders. Investors share the gains and losses in proportion to the investment.
How To Choose the Best Mutual Fund?
Let’s look at some of the parameters and criteria for selecting best mutual fund plan that may assist in achieving the above mutual fund investment objectives:
1. Investment Objective, Horizon and Style
Before trying to choose the right mutual fund, you need to know your investment goal! Do you want growth or a steady income? Equity funds are best for long-term capital appreciation, while debt funds are best when you want a steady income.
Secondly, if you want to choose the right mutual fund, you should know that equity funds are best suited to meet your goals with a long investment horizon, and debt funds are best suited for short to medium term goals. Funds such as overnight funds, liquid funds, ultra-short duration funds, etc. are suitable for very short investment periods (less than 1 year).
When it comes to style, you can choose between large-cap, mid-cap, small-cap or micro-cap, multi-cap and flexi-cap funds, depending on your risk tolerance. The decision to invest in long-term or short-term plans, or a mix of both, can have a critical impact on your investment decision.
2. Risk Tolerance
You must take calculated risks to get the highest return on your investments. Knowing your risk tolerance will assist you in choosing the right mutual fund. You should be aware of a scheme’s risk profile to ensure that you are taking the proper amount of risk. Some investments should be considered by investors with a high to moderate risk appetite, while others should be considered by those with a low to moderate risk appetite.
3. Fund Manager and Fund Performance
When analysing a fund’s track record, potential investors should ask themselves the following questions:
- Did the fund manager produce results that were in line with general market returns?
- Was the fund’s volatility higher than that of the major indices?
- Was there unusually high turnover, which could result in costs and tax liabilities for investors?
Answering the questions above will give portfolio managers a better understanding of how they perform under different conditions, as well as a better understanding of the historical trends in funds in terms of turnover and profitability. Please read the investment literature before investing in any fund.
4. Size of the Fund or Asset Under Management
Because a fund’s size indicates its potential, investors prefer to put their money into that fund over others. As a result, the fund’s exposure increases, hence increasing total risk. The best and most experienced fund managers frequently oversee the flagship mutual fund schemes with enormous assets under management.
Taxation is one of the most important criteria to consider when determining how to choose a good mutual fund. For example, Short- term capital gains (held for less than 12 months) in equity funds are taxed at 15% and long-term capital gains (held for more than 12 months) are tax-exempt up to Rs 1 lakh and taxed at 10% thereafter (in excess of Rs 1 lakh of capital gains).
Short-term capital gains (held for less than 36 months) in non-equity funds are taxed as per your income tax rate and long-term capital gains (held for more than 36 months) are taxed at 20% after indexation benefit is allowed.
6. Lump sum or Systematic Investment Plan (SIP)
If you know how to choose the correct mutual fund, you should determine if you can invest in a lump sum or through a systematic investment plan (SIP). You can take advantage of rupee cost averaging and compounding by investing in SIPs. If you have cash on hand, you can invest in a lump sum in accordance with your ideal asset allocation.
7. Expense Ratio
Expenses for the fund will be deducted from your earnings. For certain forms of investments, such as index funds or exchange traded funds, the expense ratio is critical (ETFs). The capacity of the fund manager to deliver strong alphas may compensate for higher expense ratios in actively managed funds. Index funds, or exchange-traded funds, on the other hand, do not seek to generate alpha and instead seek to replicate the index. In index funds and ETFs, the expense ratio is crucial.
8. Entry & Exit loads
Entry and exit loads are two cost components that have a direct impact on investment. The entry load is the fee charged by a fund house to an investor when she initially invests in the fund. The exit load is a cost charged by the fund house when you exit a plan. It’s a portion of the NAV you’ll get, leaving a hole in your investment’s value.
As an investor, you should look for mutual fund schemes with no or minimal entry and exit loads. It only applies if the units are sold before the deadline. When you invest for the long term, the exit load is immediately removed. Investing for the long term is the greatest method to obtain good returns from any investment.
Mutual funds include products to meet a wide range of financial goals, investment horizons, risk appetite, and liquidity requirements. You can make informed investment selections concerning the finest mutual funds if you consider the aspects outlined below. If you’re having trouble comprehending the investment features of mutual funds, you should always seek the advice of a financial professional.
Is it risky to put money into mutual funds?
While all investments carry some risk, mutual funds are widely considered to be a safer bet than individual equities. Because they hold numerous company equity in one investment, they provide better diversity than holding one or two individual companies.
Is it possible for a mutual fund unit investor to appoint a Nominee for his or her investment?
Yes, Individuals or groups of individuals can make a nomination on their own behalf or collectively.