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| Edited By: Hemant Rustagi |Source: DNA |Updated: Jul 16, 2018, 06:50 AM IST
Considering that financial products vary greatly in the degree as well as type of risk and potential return, the endeavor should be to develop a sound portfolio that strikes the right balance between risk and reward. Simply put, your asset allocation should reflect your risk tolerance. Besides, a carefully chosen investment vehicle can help you achieve the true benefits of an asset allocation strategy.
Mutual funds (MFs) are a simple, yet effective way to help you achieve your investment goals without making you compromise on your risk tolerance. Remember, MFs are effective (they are managed by professionals), economical (the fee and expenses charged to investors are low) and varied (there are many schemes to choose from and many different kinds). Moreover, they provide you an opportunity to earn higher post-tax returns as compared to traditional investment options like fixed deposits, bonds and small savings schemes, albeit with varying degree of volatility. All you have to do is to select a few and the professionals at the mutual funds do the rest.
As is evident, MFs have all the ingredients required to be an effective investment vehicle. However, the key is to follow certain basic principles while investing in them. For example, before choosing a fund, you must have a fix on your asset allocation on the basis of your risk profile, time horizon and investment objectives. Remember, the selection of fund should be the last step in your investment process and not the first one, as is usually the case with many investors.
Make sure your investment objective matches with that of the fund. Once the suitability is ascertained, the key parameters in the final fund selection process should be its investment philosophy, portfolio quality, past performance, corpus and fund size etc.
Although mutual funds themselves are diversified, it helps to diversify investments across variety of funds within an asset class. However, diversification would become counter-productive if you invest in too many funds. For example, if you have 15 equity funds in the portfolio, it does not necessarily mean that your portfolio is adequately diversified if most of them follow a similar strategy and invest in the same segments of the market. On the other hand, if funds are chosen carefully, even a portfolio with five funds could be more diversified than the one with 15 similar looking funds. Hence, try to build a compact portfolio without compromising on the level of diversification.
Monitoring the progress of your MF portfolio is as important as making the right selection. In this process, how you tackle the volatility holds the key to the level of your investment success over time. Hence, it is important not to allow short-term volatility to influence your long-term investment strategy.
While continuing with regular investments is a proven strategy to minimise the impact of market volatility on your portfolio, any panic reaction to realign the portfolio is most likely to backfire. It is equally risky to invest short term surplus money in a falling market to recover the notional losses as prolonged correction phase may keep the stock market subdued.
Often, short-term performance compels investors to make abrupt decisions. This can be avoided if the performance of funds is analysed the right way, that is, comparing it vis-à-vis the benchmark and the peer group. Remember, even the most consistent fund managers are likely to deliver negative returns when the markets correct. Therefore, short-term negative returns, in line with the market, from a fund that has been doing well for years, doesn’t warrant any reaction. Similarly, avoid investing aggressively in “flavor of the month” type of funds wherein an aggressive investment strategy of the fund manager that may expose you to higher risk than your accepted level.
The writer is CEO, Wiseinvest Advisors
