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Common Mistakes Mutual Fund Investors Make

Mar 31, 2016 by Priyanka Chakrabarty | 31 Downloaded
Picture courtesy - PICJUMBO

‘Humans are rational being’ is an assumption that has sustained many schools of thoughts. It is assumed that humans are capable of rationality as a lot of things will crumble if this assumption is questioned. We also believe in this because we see humans execute this rationality on a daily basis in their everyday lives and investments. Despite being armed with this capability something somewhere goes wrong and your returns are not the spectacular numbers you expected them to be. The returns are waning and as an investor you cannot shake off the fact that something is wrong.

You may be falling trap to some of the common mistakes that investor often make while making Mutual Fund investments. The mistakes occur commonly but the knowledge of it is hardly shared leading to repetition of the same mistakes. These mistakes affect the most important aspect of your investments i.e. your returns. Hence, here is an attempt to point out the commonly occurring mistakes so that you stop making those mistakes and start earning the returns your investments deserve.

Waiting for a “Correct” Time

A lot of investors wait for the mythical correct time when they will start investing. This simply means they are putting in a lot of effort in trying to time the market. They want to invest when the markets are rising and avoid falling markets. Mutual Fund investors must bear in mind that an Equity Mutual fund has multiple components in a single fund and not just the market. So whether the markets are rising or falling you will still be in a good place because of other equity related factors. It has also been said that instead of trying to time the markets, which is impossible, investor should mirror market movements to make higher returns.

“Timing the market” is such a fancy term that you often forget whether you need to do that. For example, if you are planning to invest in debt funds then the equity market movement has little or no bearing upon your investment. If you want to start investing just start otherwise you will keep speculating and keep losing out on returns.

Ignoring the Expense Ratio

In Mutual Funds you are getting your investments managed by professionals. Like all other services, this service comes at a cost. The cost incurred by the AMCs in managing the funds, marketing and acquiring customers is born by all the investors by paying for the expense ratio. If you are ignoring the expenses ratio of a fund which is on a higher side, you are reducing your returns. The ceiling of expense ratio for Equity Mutual Funds is 2.5% and Debt Funds is 2.25%. Low expense ratio is a sign of efficiency and good fund and higher expense ratio implies a more expensive fund.

For example – The performance of Fund A and Fund B is same but the expenses ration of Fund A is 2.25% and Fund B 2.00%. Therefore, it will be prudent to invest in Fund B which has a lower expense. So you should not get fooled by high returns. Look for other aspects that might affect these returns and one of which is expense ratio.

Underestimating Volatility

Volatility is a double edged sword. It is advantageous when the markets are rising and fatal when markets are falling. An aspect that has the power to affect your investments profoundly should hardly be underestimated. We underestimate volatility thinking that you can time the markets and redeem the funds when the markets are about to fall. This is a very tedious task and you might end up making lose. So how do you measure volatility?

Volatility is measured by Standard Deviation. Standard Deviation of a fund measures the extent of volatility. For example if the Standard Deviation of a fund is +/-8 and the returns have been 20% then the range of returns can be 12% to 28%. Standard Deviation gives you an idea about the performance of the funds in both bull and bear markets. So if you are planning a short term investments, investing in volatile funds may affect your capital. However, the effect of volatility is reduced in a long time horizon and minor fluctuations do not make a difference. It is always advised to go for funds which are stable in nature rather than volatile ones because it helps to make the most of markets states.

Ignoring Debt Funds

There is a preconception that exists among Mutual Fund investors that Equity funds are for risk takers and Debt funds are for safe players. This is a myth and it does not do justice to the broad categories of Equity and Debt funds. Investors tend to overlook debt funds because they believe the returns are not as high as Equity funds. However, Debt funds are a very diverse category. There are various kinds of debt funds which could be used for various investment purposes.

Debt funds follow a different taxation policy as well. Most Equity funds change a short term capital gains on redemption before one year. However, Debt fund has many short term investment options like Liquid funds, Short Term income funds where you can stay invested for anywhere from one month to one year. If you want to invest in Debt funds but get the taxation treatment of Equity funds, Arbitrage funds allow you that.

As investor you have to explore the diverse category of Debt funds and allocate your investments in both the classes for best results. If you make the mistake of ignoring Debt funds and focus wholly on Equities you may be exposing your investments to greater risk and missing out returns that non equity components of investments offer.

Not Checking the Underlying Stocks

We often know the broad objectives of a fund but hardly check the things written in fine print. Reading the fine print of a fund reveals in which stocks and equity components the fund is investing in. Investors often make the mistake of completely ignoring and making multiple investments in various funds and AMCs. Despite the funds being different, if the underlying components are the same, the performances will be similar. This leads to a crowded portfolio and stagnant returns. This does not enable you to make the best of your investments because of their similar nature. Checking the mutual fund portfolio will ensure that you do not repeat investments and have a diversified portfolio.

Good Returns = Good Fund?

When Investors plan to add new funds or make fresh investments, returns are the prime factor they consider and rightly so. This consideration often leads to a common mistake of assuming that a good fund is the one that generates a higher return. The marker of a good fund is not just the return it generates but how it generates the return? If you are investing in a bull market period all funds look good because when markets are high fund managers can take risks to churn returns. However, the test of good fund is the steadiness it shows during a bear market. If it takes a steep low, then it is not a very good performer.

The steadiness of a fund implies it is not a volatile fund and it is well managed. There may not be staggering highs just steady returns on a higher side. The low expense ratio, the experience of a fund manager, steady performance in bull markets, moderate standard deviation are all indicators of a good fund. So do not let single aspect i.e returns of a fund determine your investment decision. Take the other aspects into consideration before letting one aspect decide it for you. You can check one of the popular and most dependable aspect of choosing a fund, Rolling Returns from this calculator https://goo.gl/IyzLXl

Conclusion

If you have been making any of these Mutual Fund Investing Mistakes, then now you know how they were simultaneously affecting your investments. It is time to let go of the mistakes and make only those investments which will give you the maximum returns.

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Priyanka Chakrabarty

A literature enthusiast who loves to write. An ardent social worker who dreams of bringing about change and hopes to do so through her writing. A firm believer of the saying pen is mightier than the sword, Priyanka is an English Honours graduate. She also pursed Diploma in Wealth Management Practice from IIFP and is a certified social media expert.

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Canara Robeco Mutual Fund, is a joint venture between Canara Bank and Robeco of the Netherlands, a global asset management company. The joint venture brings together Canara Bank's experience in the Indian market and Robeco's global experience in asset management.

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