Mutual Funds are one of the best investment tools for investors seeking long term wealth creation. However they are widely perceived as risky. So how to mitigate investment risk in mutual fund investments? Risk of investment in Mutual Funds can be minimized by following the simple rules stated below. It does not require you to compromise on the returns. If you know the fundamentals, risk in mutual fund investments can be minimal or negligible.
1. Choose the right category of Mutual Fund depending upon your investment horizon. For example: You should invest in pure equity mutual fund schemes only if your investment horizon is 8 years or more. For an investment horizon of 1 – 5 years, you may opt for dynamic bond funds or income funds or short term debt funds. All these three are debt funds.
2. After selecting the right category of funds, you should make sure that the schemes that you invest have a track record of good performance. This can be gauged by considering factors like past performance of the scheme over a number of years, performance of the fund manager with other schemes under his management. While selecting equity schemes care must be taken so that there is a proper asset allocation between large cap, mid cap, small cap and multi-cap schemes. While selecting debt schemes one should pay attention to the modified duration of the scheme and the credit quality of the schemes portfolio. The modified duration is the sensitivity of the scheme’s portfolio to react to changes in interest rates in the economy.
3. There should be adequate diversification. This means that you should distribute the investments among 3 – 5 leading schemes in the category you are investing in. Care should be taken that you do not over diversify.
3. You must review your mutual fund portfolio once a year to ensure that it is meeting expectations. Mutual fund schemes which under perform for a period of year or two should be redeemed and the money should be invested in schemes which beat the benchmark and the peer group consistently.
4. Investing through Systematic Investment Plan is better than investing lump sum amounts. Historical record of several leading schemes show that SIP investments give much better returns than lump sum investments. With SIP you don’t have to time the market and the cost of acquiring mutual fund units is evened out. This is called Rupee cost averaging.
5. SIP investments are especially important during bull markets, like the current level of the market.
6. Lump sum investment can be very effective in bear markets especially when the market is trading record low levels. These are golden opportunities and should not be missed. The market will eventually rebound and give excellent returns.
Mungekar Wealth 