1) Diversification
“Don’t put all your eggs in one basket.” is a famous quote that is widely used when discussing how to invest. It is an essential part of investing since we can save asset class shocks by not restricting our portfolio to specific assets.
How to Diversify?
Investing in stocks of companies of varying market capitalization, sectors, industries is usually an excellent way to diversify. It also includes adding multiple assets such as debentures, bonds, gold, and other commodities.
Spreading out investments across various geographies is also an excellent way to diversify. One way to get access to international financial markets is to invest in Global Feeder Funds, Exchange Traded Funds, Thematic Funds (such as energy, gold, agriculture), etc.
Diversification helps in the following ways:
- Reduced ‘concentration’ risk: We can save our investment from macroeconomics factors such as political events, natural calamities, inflation, etc.
- Broad-based exposure: Including multinational and transnational companies with broader market access and resources and global exposure in our portfolio can maximize returns.
2) Investment Management Strategies
Investment strategies are an essential part of financial planning. It refers to how the investors design and manage their portfolios to meet diverse financial goals.
Widely, there are two investment strategies,
- a) Active Management Strategy: When an individual wants to out-perform the market or a specific benchmark, his/her investment decisions may be influenced by Company-specific fundamentals, prevailing market trends, economic and political events. It can also be described as the art of market timing and stock picking. In this management style, the experience and knowledge of the fund manager play a crucial role. Based on their judgments, they can foresee the financial markets and grab opportunities to maximize their wealth. They can also expect a downturn in the markets and save funds by implementing defensive strategies. However, the expense ratio for this portfolio may be higher. It also might attract high fees.
- b) Passive Management Strategies: Investing in stock market indices, Exchange Traded Funds are examples of Passive management strategies. The churn rate, fees, and operating expense of such a portfolio are also low. It is also known as a buy-and-hold strategy where the investors buy as security to hold it long-term.
3) “Riskometer”
Riskometer is an upgrade from the ‘colored product labels’ introduced in March 2013 that required mutual fund companies to color code the funds based on the risk they carried. This method used color boxes depending on the level of risk of the schemes.
The Riskometer adds two more categories to the previous method. It looks like a speedometer and has the following five different levels:
- Principal at low risk
- Principal at moderately low risk
- Principal at moderate risk
- Principal at relatively high risk
- Principal at high risk
4) Asset Allocation.
Considering the market trends, any prudent fund manager can change the asset allocation, i.e., invest a higher or lower percentage of the fund in equity or debt instruments than what is disclosed in the offer document. It can be done on a short-term basis on defensive considerations, i.e., to protect the NAV. Hence the fund managers are allowed certain flexibility in altering the asset allocation considering the interest of the investors. If the mutual fund wants to change the asset allocation on a permanent basis, they are required to inform the unitholders and give them the option to exit the scheme at prevailing NAV without any load.
5) Difference in Investing in NFO and IPO
IPOs of companies may open at lower or higher prices than the issue price depending on market sentiment and perception of investors. However, in the case of mutual funds, the par value of the units may not rise or fall immediately after allotment. A mutual fund scheme takes some time to invest in securities. NAV of the scheme depends on the value of securities in which the funds have been deployed.
If schemes in the same category of different mutual funds are available, should one choose a scheme with lower NAV? Some of the investors tend to prefer a scheme that is available at lower NAV compared to the one available at higher NAV. Sometimes, they like a new scheme issuing units at ₹ 10, whereas the existing schemes in the same category are available at much higher NAVs. Investors may please note that lower or higher NAVs of similar type schemes of different mutual funds have no relevance in the case of mutual funds schemes. On the other hand, investors should choose a scheme based on its merit considering the performance track record of the mutual fund, service standards, professional management, etc.
On the other hand, the better-managed scheme with higher NAV may likely give higher returns than a scheme available at lower NAV but is not managed efficiently. Similar is the case of fall in NAVs. An efficiently managed scheme at higher NAV may not fall as much as an inefficiently managed scheme with lower NAV. Therefore, the investor should give more weightage to the professional management of a scheme instead of lower NAV of any scheme. He may get a much higher number of units at lower NAV, but the scheme may not give higher returns if it is not managed efficiently.
6) Guarantee by a Sponsor
In the offer document of any mutual fund scheme, financial performance, including the net worth of the sponsor for three years, is required to be given. The only purpose is that the investors know the company’s track record, which has sponsored the mutual fund. However, a higher net worth of the sponsor does not mean that the scheme would give better returns or the sponsor would compensate in case the NAV falls
7) Investment in Equity and Debt oriented Schemes
An investor should take into account his risk-taking capacity, age factor, financial position, etc. As already mentioned, the schemes invest in different securities as disclosed in the offer documents and offer separate returns and risks. Investors may also consult financial experts before making decisions. Agents and distributors may also help in this regard.
