Volatility counts while picking equity mutual fund schemes

One of the best investment options is to invest in mutual funds. Mutual funds investments through SIP provide good returns in the long run. However, when you are investing in equity funds, you should look at volatility (risk) factor. What is this volatility factor in Equity fund? In this article, I would provide some insights about volatility in equity fund and how an investor can understand it in simple terms.

Why it is important for an investor to look at volatility in equity fund?

Stock market reached peak in the last 1.5 years. You may not see such peaks every year. Foreign investors are pumping money into the Indian stock markets. Small cap stocks and mid cap stocks are zooming like anything. We see some market corrections now and then. In such case, it may be a risk in investing in stock markets at this point of time. If you are investing in equity funds now, you do not know whether you would get good returns in future. Investors generally look at the high returns track record and invest in such funds. Many investors look for higher returns rather than ranking and the volatility of the fund. Exceptional gains in short term period would hide the poor performance of the fund.

Hence, you should understand volatility risk in equity funds to have a better picture of your equity fund investments.

How to measure it?

Mutual fund volatility risk can be measured by various ways like Alpha, Beta, R-Squared, Standard Deviation and Sharpe Ratio. However, it is difficult to understand for normal investors to go through the formula and check for each and every scheme. I would tell you how to measure volatility of equity fund in simple terms.

Large cap equity fund – volatility is somewhat moderate

Mid-cap equity fund – volatility is generally high

Small-cap equity fund – volatility would be very high

As an example, if you are investing in a good small cap fund, when markets are rising, returns from such a small cap fund would be higher than a large cap benchmark such as SENSEX or NIFTY. Similarly, when markets are falling, small cap funds would tend to fall at faster speed than the benchmark indices.

Then, how should we invest in equity funds?

There are few factors you should consider while investing in equity funds.

Invest more in large cap funds than in mid-cap or small cap funds especially during peaks.

During rising markets, mid-cap and small cap funds tend to do better.

Choose funds that have done well in bear markets too.

Look for consistent performers rather than short period upswing.

Avoid funds which came in last 3 years. Performance in various market cycles is not yet known.

Do profit booking for mid-cap/small cap funds during market peaks as they tend more volatility during market corrections.

Source: http://www.moneycontrol.com/news/mf-experts/volatility-counts-while-picking-equity-mutual-fund-schemes_1391051.html