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Please explain Alpha Beta and standard deviation as I do not understand it

I have invested in many mutual funds through advisor now I also want to learn about mutual funds. Hence I have started reading many books articles regarding mutual funds it's slowly process. What are main things to study before invest in mutual fund? I check NAV AUM expense ratio and past performance returns upto 2-3 years. After acquiring little knowledge I have invested in Franklin high growth Franklin smaller companies axis equity. Lnt Prudence Mirae Assets Emerging Quatum Equity SBI by allocation funds. Recently I read article regarding alpha beta St deviation but I didn't understand it. Kindly suggest me some hone work because I want to learn it?

Jan 14, 2016 by S V Abhyankar, Mumbai  |   Mutual Fund

It is indeed very heartening that you are taking interest in educating yourself about mutual funds. Based on your fund selection, it seems that you have made very good progress in educating yourself about these wonderful investment options. Our primary endeavour in Advisorkhoj.com is to increase awareness of mutual funds and other financial products. If you continue to improve your knowledge of these products you will be able to make much better financial decisions. We regularly post informative and knowledge based content on our website. So please continue to follow us and hopefully you will benefit.

As to the different factors that you should examine when selecting a mutual fund scheme, the NAV of a scheme is actually not important. The NAV is essentially a derivative of the value of the underlying assets (securities in a scheme portfolio) but it is not reflective of the valuation of the assets. Therefore a lower NAV does not necessarily mean that the scheme is cheap and a high NAV does not necessarily mean that the scheme is expensive. Similarly, older schemes will have higher NAVs and newer schemes will have lower NAVs. Again they not necessarily reflective of future performance. The change is NAV over a period of time, or in other words, returns of a fund over a period of time is more important. One should attach too much importance to recent (1 year or less) returns. 3 years return is a good yardstick to evaluate the performance of a scheme. AUM and expense ratios are also important, but in varying degrees. If a fund has a high AUM, it naturally implies that the fund gave good returns in the past. Therefore one can take AUM into consideration, but high AUM is not necessarily an indicator of strong future performance. In fact, for some fund categories like small and midcap funds, a high AUM base can be a limiting factor in future outperformance. In other words, while you can use AUM as filter to screen funds, if you do not want to invest in a fund below a certain size, your fund selection should be based on performance and not AUM. Same goes for expense ratio. You can use expense ratio as a filter to screen funds, if you do not want to invest in a fund above a certain ratio, but performance is more important than expense ratio for equity funds. However, for certain debt fund categories like liquid fund, short term debt fund, FMPs etc, expense ratio is an important consideration because high expenses can have an adverse impact on your returns.

As far as returns are concerned, we refer mostly to trailing returns. While, trailing returns are important they have a recency bias, in other words, trailing returns are directly influenced by current asset prices. For a long term investor, consistency of returns is actually more important than trailing returns. To check for fund consistency, one should look at rolling returns and see how the scheme has done versus its benchmark at all points of time over a certain period (please Best Diversified Equity Mutual Funds: Consistent Performers for investment in 2015). You can check rolling returns of any mutual fund scheme by going to our Rolling return calculator in our MF Research Section. Finally you should also look at the track record of the fund house (AMC) and the fund manager of the scheme. All the top fund houses have excellent long term track record. The fund manager of the scheme is responsible for managing the performance of your scheme. You should check the other schemes managed by the fund manager and see if they have also given good returns.

Finally, it is great to see that you are taking interest in the advanced investing concepts like Standard Deviation, Beta and Alpha. While these concepts are a little complex to grasp, if you understand the underlying theory without getting too much into the quantitative aspects of these concepts, you will be able to make your money work better. Alpha, especially, is the most important concept of mutual fund investing. In very simple terms, Alpha is the value added by the fund manager, relative to the risk taken by him or her. For example, if your scheme gave 20% annualized returns in the last 3 years, you should ask yourself, did the scheme do well simply because the market did well or did the fund manager gave you something extra? The answer to this question lies in the concept of alpha. Please see our article, How to select the best mutual fund: The importance of Alpha. In this article, we have explained the concepts of Standard Deviation, Beta and Alpha. If you want, you can ignore the mathematical concepts in that article and simply focus on the underlying concept. We regularly post informative and knowledge based content on our website. So please continue to follow us and hopefully you will benefit. Do let us know your feedback / suggestions as well and we will definitely incorporate your inputs in our content.

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