Mutual funds are often considered the safest instruments to invest in, you only need to know how to pick the funds that will provide you with greater returns. Beginners often ignore the riskiness or ratings of a fund. They only look for returns which makes them make wrong decisions.
There are many performance indicators that will assist you to make the right decisions regarding mutual fund analysis.
1. Mutual Fund Analysis Against a Benchmark
It is ideal to compare the performance of a fund against a benchmark. The benchmark would be appropriate and fair. However, the wrong benchmark will give misleading data. Hence, it is suggested to compare its performance with a large indicator such as Nifty 50.
2. Fund Historical Performance
Investors predict the real worth of a mutual fund during unpredictable market trends and stock market’s volatility. Also, it is suggested to check the history of a stock such as its past performance with a longer fund history of 5 to 10 years. For instance, a fund provides great returns consistently when the market is working well.
However, during the stock market crash, if your stock lost 8% returns while the benchmark lost 10% returns, then your fund’s performance is considered as good.
3. Expense Ratio
Management expense ratio is the annual maintenance fee charged by the fund for managing your investment. According to SEBI’s guidelines, the fund houses can charge only up to 2.5% of the fund’s average asset (AUM). Therefore, it is advisable to check the expense ratio of mutual funds before investing in any fund. Expense ratios are charged out of the fund returns. Hence, higher the returns, lower will be your home returns.
Always go for a fund that offers similar returns at a low expense ratio. The same mutual fund is available for the direct plan and regular plan. Direct mutual fund plans generally offer low expense ratios which in turn generate higher returns. Investing in direct plans can save your commission.
4. Risk-Adjusted Returns
Instead of preferring annualized returns, go for risk-adjusted returns of the fund. According to a risk-return tradeoff, a high degree of risk should be compensated by higher returns. Sharpe ratio will help you to ascertain whether the fund is giving high returns or not. Higher the Sharpe ratio, higher will be the returns for the extra risk taken.
Let us assume two equity funds A and B having a standard deviation, i.e 12% and 15% respectively. For instance, the Sharpe ratio of fund A and fund B is 0.48% and 0.60%, then it is advisable to choose fund B because it's better to bet to risk taken.
5. Average Maturity and Duration
Average maturity and duration are used to evaluate debt funds as the longer the maturity, higher its sensitivity to interest rate movements and higher are the chances of a fall in the fund of NAV.
Duration plays a crucial role in the debt fund to reach a break-even point; i.e no profit and no loss. The shorter the duration, higher will it return to the original investment.
6. Portfolio Turnover Ratio
The portfolio turnover ratio is a measure of how often the securities are bought and sold by a fund manager in a portfolio. The turnover rate is crucial for potential investors as it helps them to consider the expense rate.
Takeaway
Selection of the best mutual funds for investment seems to be quite difficult for beginners. However, for an active investor, it becomes easy to select a mutual fund according to the above parameters. We will assist you hereby handpicking the best performing investment portfolio for you based on your financial goals.
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