Wealth maximisation via mutual funds

When it comes to growing one's money, be it to meet life-stage financial goals or build a nest- egg for retirement, nothing quite works like mutual funds.

This might sound a little odd in a country obsessed with bank fixed deposits (FDs) and other traditional fixed-income instruments, but it is true. Though India has one of the highest savings rates in the world, its household savings do not quite measure up in terms of wealth creation primarily because the real returns (real return = nominal return – inflation) are not significant.

Indeed, with retail inflation, as measured by the consumer price index, averaging 7.31% in the last one year, the 9% interest rate on FDs translates to a real return of just 1.69%. Investors may consider investing in capital market instruments (including equities, bonds and mutual funds) as per their risk return profile for successful financial planning and wealth creation.

Compared to traditional investing in FDs, investment in equity would be apt for wealth generation for those with a long-term investment horizon. This approach would nullify any risk associated with short term aberrations.
For instance, Rs 10,000 invested in the domestic equity benchmark CNX Nifty index 10 years ago would have grown to Rs 46,490 as on October 31, 2014, growing at 16.61% a year as against FDs which would have grown to Rs 23,674 at an average 9% a year over the 10-year period, or almost half the equity return.

It is commonly observed, retail investors often lack the skills and time required to invest in capital market instruments on their own. This is where mutual funds come in handy. Thanks to professional management, many mutual fund schemes deliver returns above their respective benchmarks. They also offer additional benefits in terms of diversification, cost and liquidity.

For instance, if one had invested in equity-oriented mutual funds (represented by Crisil – Amfi equity fund performance index) instead of equity directly, he would have got annualised returns of almost 20% over ten years vis-à-vis the 16.61% given by CNX Nifty Index.

Depending on individual's risk-return profile, one can opt for a wide range of mutual fund categories and schemes offered.

Picking the right fund scheme Not all mutual funds are winners. Hence, one should do due diligence to pick a good performer. The performance of the scheme should be compared across market conditions, benchmarks and peers. For peer comparison, one can use Crisil – Amfi mutual fund performance indices, which represent the performance of mutual fund categories across time-frames and market cycles.

Investors should also look at features like stock and sector holdings, credit rating profile of the debt instruments, risk factors, costs structure and taxation aspects. They can consider third-party unbiased rankings done by research houses to select the best options from the respective mutual fund categories.

Review and rebalance the mutual fund portfolio Financial markets may exhibit volatility, which means the performance of asset classes varies across time due to a host of factors. These market gyrations are bound to reflect in the performance of mutual fund schemes. Hence, a regular check-up of the portfolio is a must to weed out non-performers and re-balance one's portfolio to the pre-defined asset allocation.

Portfolio review should ideally be done on a semi-annual or annual basis.

The author is senior director, (capital markets) at Crisil Research