Over the years, mutual funds have gained popularity as a favoured tool for participating in the capital markets. The vast universe of mutual funds can be overwhelming for investors, but with patience and discipline, it is possible to create a profitable investment portfolio and generate wealth.
Here are a few steps that can help you succeed in your investment objective.
Understand your investment goals and risk tolerance
This is the first step in the process of making an investment. Before you invest in mutual funds, you should clearly define your investment objectives based on your risk tolerance level. Knowing your investment objectives will help you determine how much to invest, how long to invest, and what type of investments to make.
“You can divide your goals into three categories: short-term goals (due in three years), medium-term goals (due in three to five years), and long-term goals (due after 5 years). Following that, you can categorise your goals based on their importance. Goals like paying for a child’s education may be more important than purchasing a luxury car. Your capacity and willingness to accept portfolio losses represent your level of risk tolerance. If you have a higher risk tolerance, you are typically willing to accept more risk in exchange for the possibility of greater returns,” says Lovaii Navlakhi, Board Member, Association of Registered Investment Advisors (ARIA).
Also Read: Everything you must know about pre-EMI in home loan
Research mutual funds
The next step would be to look for appropriate mutual funds that meet your criteria. You can maximise your chances of achieving a profitable investment experience by conducting thorough research on mutual funds that align with your investment goals and risk tolerance. Make sure to read the prospectus of the mutual fund, which contains detailed information about the fund’s investment objectives, strategies, risks, and fees. Consider investing in a diversified mutual fund that spreads its investments across various asset classes, such as stocks, bonds, and other financial instruments.
Choose the right mutual fund
Choose a mutual fund based on your research that has delivered decent risk-adjusted returns over the long term and has an experienced and stable fund management team. “There are many different types of mutual funds to choose from, including stock funds, debt funds, index funds, and international funds. The funds you choose should be based on your objectives and risk tolerance. For example, if you have an important goal that is due in two years, you must choose a mutual fund from the debt fund category, even if you have a high-risk profile. The time horizon of the goal, its importance, and your risk profile all play a role in selecting funds,” informs Navlakhi.
Monitor your investments
Keep track of your mutual fund investments to ensure they remain in line with your investment objectives. Regularly review fund performance and the fees associated with each investment. Also, note that a bad performance can be due to various reasons such as unfavourable market conditions or due to wrong stock or sector selection by the fund manager. It is prudent to compare the fund’s performance with the respective benchmark and allow the fund to experience different market cycles before deciding any action.
Rebalance your portfolio
The performance of your mutual fund investments may change over time, resulting in an unbalanced portfolio. “Rebalancing your portfolio periodically can help ensure that you are maintaining an appropriate level of diversification. Doing this on a regular basis can help you maintain your desired asset allocation while also optimising risk. This entails buying and selling mutual funds to realign your portfolio with your investment objectives and risk tolerance,” says Navlakhi.
Consider a scenario where you invested in equity mutual funds seven years ago for a goal that is due in the next two years. In this case, it is advised to gradually shift your investment from equity funds to debt or liquid funds while keeping market conditions in mind. This is to ensure that any sudden volatility in the equity market does not reduce the value of your investment for your goal and your needs are met as planned.
Thus, investing in mutual funds can be a great way to build wealth over the long term, provided if you follow the above steps actively.