Widely read:
Dhirendra, how do you differentiate between what's best and what's right in the context of choosing a mutual fund?
Dhirendra: People simply want to know the names of two to three best funds to invest in. But I think that's the wrong question to begin with. They should focus on figuring out the most appropriate fund instead of the best one.
By most appropriate fund, I mean the one most suited to a particular investor. Appropriateness varies dramatically. It depends on the time period for which you want to invest the money and how critical the goal for which you are investing is. An appropriate fund would be different for someone who wants to invest for a time period of 10-15 years and another person whose goal is only two to three years away.
Another factor which matters is how experienced you are in equity investing. The scale of money and your risk tolerance also matters.
So given all these variables - how far the goal is, how critical it is, your risk tolerance and how much experience you have investing in equities - the orientation of each investor is different and unique.
Can you elaborate a little bit on how every investor is unique?
Dhirendra: Suppose you have a sizeable accumulation of Rs 5 crore and now you're investing another Rs 50,000, you won't worry much. But if it were your first Rs 50,000 investment just after starting your career, your risk tolerance level would be different.
Similarly, if you are investing Rs 2,500 a month - how critical is the goal for which you are investing? Is it one of life's critical goals, say a child's higher education or the purchase of your first house? Or are you a person who is only few years away from retirement and wants to start generating income from the accumulated corpus vis-a-vis another person who has many years to retirement? All these things would impact your risk tolerance.
The other factor which makes every investor unique is experience. If you are a first-time investor, a decline of 10% could be devastating for you. Suppose you invested Rs 50,000 and its value declined to Rs 45,000 over a short span, you may panic and decide never to invest in equity again. On the other hand, if you are someone who is experienced and has been investing for five to six years in equity, you would know that this is a normal thing to happen and that over a long period of time, the return would be superior. You won't panic as you would be used to it.
So experience and how critical that money is makes every investor unique. And any investment course that you take should be sensitive to it because investing is not something which you do and sleep over it. It bears on you on a daily basis. You look at the value, you react and start relating it to real life things. If you panic and abandon your plan mid-way, you will not be able to achieve the goal. It is very important to stick to the investment plan.
So what would be an appropriate fund?
Dhirendra: If you have never invested in the market before, and the money is very critical or would be required in a short time, don't take chances. Go for a recurring deposit or a fixed deposit. Alternatively, put it in a short-duration bond fund. It will be more tax-efficient and would earn more returns than a fixed deposit. It will also be more liquid.
First-time investors looking to invest long-term money, go for a balanced fund. By long-term we mean five years or more. Balanced funds are relatively conservative. They will not witness a massive blow and decline in value as equity funds do. More importantly for first time investors, don't look at the recent past performance and purchase any fund. This is usually what I witness.
2017 was a year when small-cap funds went up by 50-80%. People looked at them with awe and started investing. In 2018, these funds turned out to be disappointing and went down by 20-30%. This is where you get scared and discontinue. That's why choosing an appropriate fund is crucial.
Someone who wants to invest his long-term money and has a fair bit of experience investing in equity may go for multi-cap funds. If he has a need to save taxes under Section 80C, he may choose tax-saving funds. Tax-saving funds are also multi-cap funds.
If you are someone who wants to generate income, go for an equity income fund and set up a withdrawal plan. But your withdrawals should not exceed 4-6 per cent of your corpus. Otherwise, you may not be able to meet inflation-adjusted expenses during the later years of retirement.
Also, choosing the right fund is one thing and having the right expectation is another. You have to set them right so that you can sustain the investment plan for the long term, which is very important.
This article was originally published on July 01, 2019.
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