Art of choosing Mutual Funds

In the last edition I discussed about various types of mutual funds and there are many other types, which often confuses people preventing them from investing in this asset class and stick to traditional bank deposits. Few people think it is better to give this job to a financial advisor who knows how to choose mutual funds. And few more randomly invest in some funds based on the lucrative advertisements, do not see their money growing, get frustrated and stop investing.

If one doesn't have patience to invest and monitor, it's better to handover the job to a trustworthy financial advisor (there are very few). I have always been a DIY (Do It Yourself) investor, experimented with some, made and lost money during the experimentation phase and learned from my mistakes. The biggest challenge for many people who want to invest is how to pick funds when there are over 5000 of them in existence. I continued my pursuit of learning and figured some strategies. I will focus on some of these in this edition.

How do I choose which fund to invest?

1. First things first. choose a well-established mutual fund house (AMC). I normally stick to these: HDFC, ICICI Prudential, Nippon, Motilal Oswal, SBI. There are lot more fund houses that have come up recently, but I always preferred to stick with those that have good reputation. This is not a recommendation to choose only these five. There are some new entrants that have been giving good returns, but perhaps I am a little old school.
2. I will scan various mutual fund offerings from these fund houses and compare the fund performance of largecap, midcap, and smallcap funds across these fund houses. For comparing the performance of these funds, I use Money Control. And what and how do I compare?

• I look at the past 5 to 10 year performance in terms of annualized returns (year over year)
• Which sectors (Banking, Automobile, etc.,) are they investing?
• Which companies in the above sectors are these funds investing in?
• How long has this fund been in existence?

While most mutual fund advertisements will say past performance is not an indicator of future performance, when we look at the past performance of the funds, we get a sense of how these funds have performed. If I see the funds giving a consistent double-digit growth of over 15% year over year, I pick that fund versus those that have inconsistently performed. Here is an example for the largecap mutual fund across four AMCs:

From this graphic, I could see all the largecap funds performed well, however, HDFC and ICICI Prudential gave better returns over the long term. So, I would pick either of these. This is a simple way of picking a fund and while there are other tools such as PE Ratio, Total Expense Ratio, etc., in my personal view we don't have to break our heads too much on those.

Hope this article gives some idea on how to go about choosing mutual funds.

Happy investing!!