Friday, October 1, 2010
Remember: Don’t compare apples with oranges.
2. Time period: It’s very important that investors have a long term (atleast 3-5 years) horizon if they wish to invest in equity oriented funds. So, it becomes important for them to evaluate the long term performance of the funds. However this does not imply that the short term performance should be ignored. Besides, it is equally important to evaluate how a fund has performed over different market cycles (especially during the downturn). During a rally it is easy for a fund to deliver above-average returns; but the true measure of its performance is when it posts higher returns than its benchmark and peers during the downturn.
Remember: Choose a fund like you choose a spouse – one that will stand by you in sickness and in health.
3. Returns: Returns are obviously one of the important parameters that one must look at while evaluating a fund. But remember, although it is one of the most important, it is not the only parameter. Many investors simply invest in a fund because it has given higher returns. In our opinion, such an approach for making investments is incomplete. In addition to the returns, investors must also look at the risk parameters, which explain how much risk the fund has taken to clock higher returns.
4. Risk: Risk is normally measured by Standard Deviation (SD). SD signifies the degree of risk the fund has exposed its investors to. From an investor’s perspective, evaluating a fund on risk parameters is important because it will help to check whether the fund’s risk profile is in line with their risk profile or not.
For example, if two funds have delivered similar returns, then a prudent investor will invest in the fund which has taken less risk i.e. the fund that has a lower SD.
5. Risk-adjusted return: This is normally measured by Sharpe Ratio. It signifies how much return a fund has delivered vis-à-vis the risk taken. Higher the Sharpe Ratio, better is the fund’s performance. From an investor’s perspective, it is important because they should choose a fund which has delivered higher risk-adjusted returns. In fact, this ratio tells us whether the high returns of a fund are attributed to good investment decisions, or to higher risk.
6. Portfolio Concentration: Funds that have a high concentration in particular stocks or sectors tend to be very risky and volatile. Hence, investors should invest in these funds only if they have a high risk appetite. Ideally, a well diversified fund should hold no more than 40% of its assets in its top 10 stock holdings.
Remember: Make sure your fund does not put all its eggs in one basket.
The two main costs incurred are:
Among the factors listed above, while few can be easily gauged by investors, there are others on which information is not widely available in public domain. This makes analysis of a fund difficult for investors and this is where the importance of a mutual fund advisor comes into play.
How to Select a Mutual Fund?
Mutual Fund Gyan|