Formula MF: Think, select and then invest

The Indian mutual fund industry is at the cusp of change. Even as asset management companies (AMCs) line up new products, thousands of independent financial advisors have stopped selling MF schemes as it is no longer remunerative following the ban on entry loads. Given the absence of enough advisors, it is up to the average investor to educate himself on what is good and bad for the health of his portfolio and take steps accordingly. Here are a few suggestions:

Large portfolio

Every time a new fund offer is launched, ad blitzkrieg by fund houses underlines the importance of the fund. Despite their constant refrain that the past is not an indication of the future, some funds use historical data to back-test products to show investors how the new scheme (with the wisdom of hindsight) would beat others. Even some fund managers encourage investors to switch to the new scheme. As a result of this marketing overdrive, new fund offers do manage to draw some investments.

For an investor, every new scheme invested bloats the size of his portfolio ultimately making it too unwieldy to track investment performance. Needless to say the investors’ focus then shifts from achieving financial goals to managing portfolio statements.

The only remedy is to stick to clear goal setting and investing in funds that really cater to your investment needs. “We advise investors with a portfolio of up to Rs 10 lakh, to have a maximum of 10 schemes in their portfolio, belonging to five different AMCs. While 50-60% of the portfolio, could go to large caps, 20-30% could go to mid caps and small cap, with the balance 10-20% going to thematic schemes,” says Anil Chopra, Group CEO, Bajaj Capital.

Distributors galore

The ban on entry loads has resulted in commissions all but disappearing. As a result, there are not many distributors willing to offer you mutual funds. The only distributor left are the brokers and banks. This results into confusion at the level of advisory. If the advisor is not aware of all your investments or mutual fund holdings he may not give you a correct advice though he desires to do so.

Hence it makes sense to identify the professional advisors who are willing to take some extra effort for client’s betterment. Consolidating the fund holdings with one broker helps him understand your entire portfolio. The one with whom you consolidate all your holdings get to earn ‘trail commissions’ and such earnings work as a real incentive for such professional advisors. Remember that there are no free lunches. If you come across a good advisor be prepared to pay for his services.

Too many themes

This is particularly true in mutual fund investing. Every time a theme clicks with one fund house, others queue up similar offerings. These ‘me too’ offerings create a recurring noise and brings the investors live the most fatal emotion on Dalal Street – the feeling of being left out. This results in themes that have narrow investment universe and offering not enough freedom to fund managers. Investors going for the theme funds must know that they have to get the timing right for the entry and exit from the theme funds.

Not all investors have the necessary understanding of the themes playing out in the market. In such circumstances it makes sense to better let the fund manager to decide which particular theme he would like to play and the weight assigned to that theme. In most cases a good diversified equity fund with an established track record is better positioned to identify a theme and invest in it without compromising on the risk management parameters.

Avoid what is popular

We keep hearing about the sectors with favourable outlook. Stocks in such sectors keep going up on the back of rising investors’ interest.

Fund houses also feed the fire with sectoral or thematic offering. “Popular themes in most cases have factored in the future growth in the prices of the assets,” says Jayant Pai, vice-president of Parag Parikh Financial Advisory Services.

Most of the thematic offerings come at a time when the underlying theme has reached the peak of popularity and that is the wrong point of time to enter such themes. Natural resources and energy oriented funds were the flavour of the markets in early 2008, when the oil and commodities were at the peak prices. Those who went after these sectors found them nowhere as the prices crash. “If you understand the sector dynamics, the best time to invest in it is when nobody is interested,” adds Mr Pai. Metals, natural resources, telecom are some of the ‘out-of-fashion’ sectors that can be considered by savvy investors.

Skewed portfolio

No discipline leads to in-efficient allocation of capital and too many holdings. Also the amount invested in each of the investment may not be same. The varying performance further changes the investment weights in the portfolio. Such skewed portfolios towards funds that really do not meet your financial needs can be dangerous in the long run. Individuals must rebalance their portfolios from time to time. There is a need to sell the non-core holdings. “A good mutual fund portfolio should not have more than four schemes, of which most money should go into large cap diversified equity funds with a good track record and some allocation to a good performing mid cap fund using systematic investment plan,” says Abhinav Angirish, Managing Director, Abchlor Investment Advisors.

Lack of diversification

Diversification is a good risk management technique for investors with average understanding of the investment world. It makes sense to go for meaningful diversification. Two or more investments that have low correlation with each other, can be a good diversification. If you have heavily invested into India, you enjoy a good amount of emerging market exposure. In such circumstances exposure to developed markets with low correlation can be considered for effective diversification.

Source: http://economictimes.indiatimes.com/Personal-Finance/Mutual-Funds/Analysis/Formula-MF-Think-select-and-then-invest/articleshow/6099865.cms?curpg=2