A mutual fund is an investment instrument that is created from money that is collected from a number of investors and combined for the primary purpose of investing it in stocks, bonds, and other money market instruments. Mutual funds are some of the most lucrative means of generating wealth from an investment.
One of the many benefits of investing in mutual funds is the fact that it gives the investor access to a number of stock and bond options. Additionally, investors who do not have much knowledge of how investments work can rest easy since the investment is managed by an experienced professional.
If there is still some confusion with regard to choosing a mutual fund, the following parameters serve as a good yardstick for making a decision:
- Investment Goal
- Risk Assessment
- Expense Ratio
- Exit Load
- Performance consistency
- Size of corpus
- Fund manager
Investment goals have to be clearly defined before choosing a mutual fund to invest in. A timeline for the investment also needs to be established. They should be based on the nature of expenses and financial requirements of the future. Age also plays a role in determining the investment goal of the investor. If the goal is to earn higher returns, investment in equity instruments is ideal. Additionally, equity instruments require a long-term investment to achieve the desired returns. However, if the investor is in their late 40s or 50s and is close to retirement, investing in equity might pose a higher risk since the timeline has been shortened.
As is the case with all Investments, mutual funds also carry a degree of risk. Mutual funds that involve a higher risk and provide high returns are ideal for those who have a high-risk appetite since there is a balance between the risk and reward. Analysing one’s risk appetite is essential before choosing a mutual fund.
The expense ratio of a scheme is usually deducted from the returns that one earns from their investment. It is advisable to invest in mutual funds that have a low expense ratio. However, funds that have a good performance record may not be too impacted by a high expense ratio. Therefore, comparing the fund performance and the corresponding expense ratio will help give the investor a clearer picture.
Fund houses usually charge an exit load when an investor switches between schemes or redeems the units purchased. When this happens, a percentage of the Net Asset Value (NAV) is deducted before the redemption. In many cases, the percentage of the exit load charged can significantly decrease the returns earned. There are a few funds that do not charge an exit load and would make for an ideal investment choice. Assessment of the exit load is another significant aspect that should be factored into an investor’s choice of investment.
One simple way to come to a decision on choosing a mutual fund is analysing the performance of the fund over an extended period of time. Consistency in performance over an extended period and a record of good returns despite unfavourable market conditions are a good sign. Funds that have extreme highs and lows in a 2 to 3-year period pose a bit of a risk. A fund that displays consistent performance over a period of 4 to 5 years is a positive indicator.
The Assets Under Management (AUM) of the mutual fund can help lower the expense ratio. A fund with a large corpus will have the expenses spread out over big assets. This, in turn, would mean a lower expense ratio that is unlikely to have a noticeable effect on returns.
Another factor that can give an investor a clear idea of which mutual fund they should invest in is the experience of the fund manager. While the market conditions do influence the performance of a fund, the decisions made by a fund manager makes a big difference. Experienced fund managers tend to be more reliable than those who are relatively new. Researching the fund manager’s experience can help with deciding if your investment will be managed wisely.
It is essential to carry out a thorough examination of a mutual fund before deciding to invest. Additionally, investors should compare the above-mentioned factors across a few mutual funds before making a choice.