Five Questions which a MF Investor ask today

Queries on Mutual funds investing by investors are very common due to broad spectrum it carries. In each and every forum you will find such queries being raise even by investors who are present in the markets for long time. What surprises is that the queries are almost similar and speaks out the confusion in the mind of investors regarding this mode of investment. The reason can be low awareness or misselling from advisors,

Here is a list of five questions which a MF investor asks today while investing:

Most investors align mutual funds investment with investing in direct equities and hence consider it to be very risky. Mutual Funds by definition is a pool of money where investors come together for a common cause. There are different asset classes where a mutual funds scheme invests- Equity, Debt, gold and even commodities. All these asset classes differ on risk return characteristics and so the MF scheme. Some of these asset classes have sub categories where a MF scheme portfolio is primarily designed. For e.g. Equities MF scheme have large cap, mid cap, Sector specific and theme based while debt have Ultra short term, short term, income and gilt. You have also hybrid schemes which invest in mix of asset classes in different proportion. The investment theme of these different schemes varies on the basis of the time horizon of securities they invest. Thus Mutual Fund offers various option of investing which you can select on basis of your investment time horizon.

Investment in any asset class cannot be decided on the basis of returns only. Your financial goals, time horizon of reaching goals and understanding of the asset class are the key. Financial Planning is the right approach to decide the level of risk you can take. Do remember, when markets are good even the worst schemes tend to do well but when markets fall it’s only the good ones which survive the storm. Hence, before taking a decision identify your goals clearly and align your investments with them. Choose a scheme on various parameters and not one.

SIP or Systematic Investment plan is the sought after option for investing in mutual fund. Not only the investor but even the companies have realized that the best way of getting long term investor is through SIPs. However, the option is entirely misunderstood by many investors. SIPs two major benefits are Rupee cost averaging and compounding. When markets fall, the investor benefits by getting more number of units, which at the end helps in averaging the cost of purchase. The compounding effect helps in growing your money manyfold. This means the longer you are invested the more wealth you can create. For e.g if someone invest Rs 5000 for five years and other invest Rs 5000 for 20 years, at a return of 12% the money both makes are Rs 405518 and Rs. 4599287. Thus you can see the growth in money one can have by investing longer. Hence for achieving your long term goals it becomes one of the best options. Lastly, SIPs works more in volatile markets like equity. Hence, do not look at discontinuing SIP when market falls but enhance your contribution to reap the benefits. Invest through goal based planning and not to only average out.

Debt mutual funds are perceived to be risk free investment by majority of investors. However that’s not true. Like equity, debt mutual funds have different category of schemes, which have their risk return characteristics according to their investment theme. For e.g. Liquid funds invest in treasury bills and other short term instruments and hence are considered to be risk free, while on other hand gilt funds invest in long term government securities which carry interest rate risk and so are highly volatile. Which scheme an investor select should result from the time horizon of his/her financial goal.

Investors are heavily confused in selecting from these two options and many a times ends up in making wrong choice. Do note that these are scheme options which benefit investors in different scenario. One gives a regular profit booking while other helps you in creating wealth. If time horizon of investment is not more than 3-5 years and you need regular profit booking then choosing a dividend option will be the wiser choice. However, do note that dividends are not guaranteed and if markets stays low prolonged you will not see declaration of any dividend. To understand it, dividends are profits the schemes have generated and which are paid back to you. The NAV falls by the amount of dividend declared. For e.g if NAV of a fund is Rs 15 and the fund declares dividend of Rs 2 per unit (i.e.20%) the NAV will fall to Rs 13.You get dividend amount on the basis of units you hold as on date of declaration. Contrary to this in growth option, the profits are ploughed back in the scheme which reflects in the appreciation of the NAV. The return on return creates a compounding effect and so the long term investment creates more wealth through this option.

The choice of any MF scheme results from three basic factors-Your financial Goal, time horizon to reach that goal and your risk appetite. These three factors decides which asset class you should be investing and in what proportion. In other way asset allocation becomes the key for achieving your objectives. However, as a MF investor, identifying the right scheme from more than 800 available is a daunting task. The first step should be to identify the goals which will give you the return you need to achieve them. This will help you in identifying the category of schemes to be considered for investing in alignment with your goals. Then on based of various parameters, you can select the different schemes for investing. Review these regularly to mark any underperformance.