Important considerations when choosing an active equities mutual fund
A mutual fund is a sort of financial vehicle in which several participants’ money is pooled together to make a single investment. The fund then concentrates on using those assets to invest in a collection of assets in order to meet the fund’s investment objectives. Mutual funds come in a variety of shapes and sizes. This large variety of accessible items may appear intimidating to some investors.
What is Active Equity Funds?
As the name indicates, active investing is a hands-on method that needs someone to serve as a portfolio manager. The purpose of active money management is to outperform the stock market by taking advantage of short-term price movements. It necessitates a lot more thorough examination and the knowledge of when to enter or exit a certain stock, bond, or other asset. A portfolio manager frequently supervises a group of analysts that examine qualitative and quantitative elements before peering into their crystal balls to see where and when the price will change.
Active investing necessitates trust that the person managing the portfolio will know just when to purchase and sell. Active investment management requires being right more often than wrong.
Buying and selling active equities funds solely on the basis of their recent performance frequently results in a bad investment experience and low long-term returns.
“Active Equity Mutual funds by their very nature have portfolios that are distinct from the index,” says Arun Kumar, Head of Research at FundsIndia (the extent of differentiation will depend on the fund strategy). As a result, the performance will deviate from the index, for better or worse.”
All investing strategies (even those with a lengthy track record of success) will unavoidably have periods of underperformance compared to the benchmark. “Extremely extended streaks of underperformance can occur,” Kumar says.
“The idea is to distinguish between a solid fund going through underperformance vs a bad fund going through underperformance,” he continues.
How should you make your decision?
Here are some of the items to look for when a fund underperforms the benchmark over three, five, or seven years:
- Kumar claims that the fundamental investing strategy and procedure are consistent. Is the fund still following the strategy?
- Is the tendency of underperformance in other funds due to the same investment style?
- Is there a long track record of outperformance (10+ years) for the fund?
- Has the fund been a consistent performer in the past? On a 5Y and 3Y Rolling Return basis, what percent of the time has it beat the benchmark?
- During market downturns, does it fall below the benchmark? (a crude approximation for determining the fund’s risk)
- Is the Fund Manager changing?
- Is the fund getting too big and running out of room?
- Is the fund’s underperformance explained in a straightforward and open manner?
According to Kumar, in the instance of an excellent fund (meeting all of the above criteria) experiencing transitory underperformance, you can give it a 3-5 year runway to see whether it improves. You can quit the fund if it continues to underperform or if you locate another fund with the same investment approach but higher performance consistency.
“A timeframe encompassing a complete market cycle (typically approximately 5-8 years) – consisting of a bull phase, bear phase, and recovery phase is a reasonable time frame to analyse a fund’s long-term performance,” Kumar says.
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