4 Ways To Evaluate A Mutual Fund

The Indian markets have been bullish on average over the last three years. Those with equity in their portfolio have experienced considerable appreciation, and so have those who invested in Mutual Funds.

This situation may tempt many first-time investors to give Mutual Funds a try. But, the real question is how do you decide if a fund is the right one for you or not?

There are various parameters to consider when judging Mutual Funds, with performance being one of them. Let’s take a quick look at what you need to assess in a Mutual Fund in order to make an informed purchase.

Long-term compounded annual growth of return

Instead of looking at a fund’s returns over the last few months, study its long-term returns. You must consider at least five years of CAGR in a Mutual Fund. A longer period is even better.

A fund with a long-term record for high performance may be more attractive from the perspective of long-term investment. The problem in looking at just one year’s return is that it may have been impacted by momentary events, thus making it look better or worse than it actually is.

Expense ratio

The expense ratio is mainly composed of management fees and expenses such as sales, administration, marketing etc. incurred by the fund manager while running the Mutual Fund for you.

Every fund is managed by a fund manager and the expense ratio charged to the investors is somewhere between 1% and 3%. Funds which require active management have relatively higher expense ratios than a passively managed fund such as an index fund.

Investors must look at the expense ratio before picking a fund since it adds to their investment costs. If you find two Mutual Funds with almost similar sets of underlying assets with different expense ratios, you must go for the one that has a lower expense ratio.

Turnover ratio

Turnover ratio is the percentage of assets that a fund replaces in a year, which may vary by the type of the fund or the investment objective. This means if a fund sells 40% of holdings in a year and replaces it with new assets, the turnover ratio is 40%.

You must understand your risk appetite in order to pick the right turnover ratio. Usually funds that have invested in large-cap blue chip companies have a lower turnover ratio, while funds invested in small-cap firms have a higher turnover ratio.

Fund manager’s performance

Fund managers play a key role in fetching good yields on your investments. Before you pick your fund, you must look at the fund manager’s performance by studying the past returns provided by all the funds under him. All this information is available in the prospectus of AMCs or on various Mutual Fund data websites.

At present, market indices are at peak levels, making it a good time to start investing. However, avoid the temptation to make your investment decisions based on a fund’s recent performances alone.