As children, we all enjoyed going to ice cream parlours, staring wide-eyed at the colourful displays of ice cream flavours, trying to decide which one to choose. The variety of colours and flavours visible in the glass box always gave us the power of choice and happiness.
Now, imagine going to an ice cream parlour that sells only one flavour. While you might visit once out of curiosity, you wouldn’t go back again and again. We’re pretty sure such an ice cream parlour would be closed down soon.
Similarly, investing in just one stock or asset class can expose investors to a high level of risk, and their returns might not be satisfactory in the long run.
Investing in mutual funds is like going to an ice cream parlour that offers a variety of flavours and toppings to create a customized ice cream sundae. A mutual fund allows investors to invest in a variety of assets such as stocks, bonds, and commodities, giving them access to a diverse range of investment opportunities. The importance of mutual funds in your investment portfolio cannot be emphasized enough.
Investing in mutual funds offers several benefits. Firstly, mutual funds provide investors with diversification, which helps to reduce risk. By investing in a mix of assets, mutual funds can balance the risks and returns of their portfolio, thereby minimizing the impact of any single asset’s performance.
Secondly, mutual funds provide easy access to professional management. The fund managers have the expertise to make investment decisions based on the fund’s investment objectives, and investors don’t need to worry about the day-to-day management of their investments. If any investor does not believe in the management of a portfolio manager, they could always use passive mutual funds like an equity traded fund (ETF).
Here are a few pieces of advice that we wish our readers to understand before embarking on the journey of investing in a mutual fund: –
Never Go All-In One Fund House Completely: Let’s take a hypothetical scenario for understanding purposes. You observed that mid-cap stocks and small stocks rallied most post-Covid bull run. This is Jan’21, you decide that you would be investing in the mid-cap category to reduce risk exposure as compared to the small-cap category. You start researching mutual funds in the mid category and many websites show the top-rated mutual fund from the past performance of three years is Axis Midcap Fund.
| Returns (Y-o-Y) | Dec – 18 | Dec – 19 | Dec – 20 |
|---|---|---|---|
| Axis Midcap Fund – Direct Growth | 4.6% | 12.8% | 27.7% |
| Nifty 150 – TRI | -12.9% | 0.9% | 26.3% |
| Alpha | 18% | 12% | 1% |
You’ve made your decision and invested your hard-earned money in this fund with full confidence that past performance will continue to deliver consistent returns in the future. Fast forward to April ’23, and you decide to check your fund’s performance.
| Returns (Y-o-Y) | Dec – 18 | Dec – 19 | Dec – 20 |
|---|---|---|---|
| Axis Midcap Fund – Direct Growth | 40% | -3% | -2.9% |
| Nifty 150 – TRI | 48% | 5% | -4.4% |
| Alpha | -8% | -8% | 1% |
Investors often make the mistake of feeling disappointed in their investments despite choosing the most popular and well-performing mutual funds. To avoid this, investors should diversify their investments across two to three fund houses to reduce the risk of underperformance.
They should also exercise extra caution when analysing popular funds with good short-term performance (1 to 3 years) and instead look for longer-term historical performance (5 to 10 years) and fund house reputation before investing in a mutual fund.
Equity- Debt Allocation: Equity-debt allocation is an essential aspect of mutual funds as it determines the investment strategy of the fund and influences the risk and return profile of the portfolio. Equity mutual funds invest primarily in stocks, while debt mutual funds invest primarily in fixed-income securities such as bonds, government securities, and money market instruments.
The allocation between equity and debt in a mutual fund portfolio depends on various factors, such as the investment objective, risk profile of the investors, and prevailing market conditions.
In conclusion, just as we trust the expertise of an ice cream parlour to create a customized sundae, investing in mutual funds allows investors to benefit from the expertise of professional fund managers. The importance of mutual funds can be summarized in one word: diversification. By diversifying their investments across various mutual fund schemes and asset classes, investors can mitigate risks and maximize returns. We hope you enjoy both a good sundae and a prosperous investment journey!