Invest via SIP, spread your bets, and don’t get influenced by dividend payouts or compare NAVs when choosing funds
Here are some do’s and don’ts to keep in mind when investing in equity mutual funds.
Increase in financial literacy and falling returns from fixed income instruments have attracted retail investors to equity mutual funds. Here are some do’s and don’ts to keep in mind when investing in equity mutual funds.
Factor in investment objectives Reviewing the investment strategies and objectives of equity mutual funds before investing in them helps evaluate whether the funds would suit your financial goals, risk appetite and investment horizon. Retail investors can figure out the fund’s investment strategy and objective in their product leaflets and literature, Key Investment Memorandum (KIM) and Scheme Information Document (SID).
Invest via SIP Systematic Investment Plans (SIP) enables investing a fixed sum in equity schemes at regular intervals. As investments are distributed over a period of time, it assists in averaging out investment cost in times of market corrections. Continue with your SIP for at least 5-7 years to make the most from the investment cycle.
Diversify your investments Most first-time investors invest their whole investible surplus only in one scheme, theme or sector that has delivered good returns in the near past. However, if your chosen theme/sector undergoes an adverse market condition or your scheme’s fund management team takes an incorrect investment call, your investments may underperform the broader market. Diversify your investments across various equity mutual funds to reduce concentration risk and fund management risk.
Compare NAVs to choose funds Many retail investors wrongly believe that mutual funds with lower NAV are cheaper than the rest. Many fund distributors propagate this misconception to promote New Fund Offers (NFOs) as their units are issued at the face value of Rs 10. As the funds’ NAVs are dependent on the market price of the underlying asset, the NAV of better-managed funds will grow faster than other funds. A relatively newer fund’s NAV can be lower than older funds as it has not received sufficient time to grow. Thus, avoid using NAVs for making fund comparisons. Instead, factor in the funds’ past performance as well as future prospects of outperforming their peers and benchmark indices during the fund selection process.
Dividends as windfall income Most MF investors consider the MF dividends as a form of windfall income. A few distributors also take advantage of this misconception by pushing MF schemes that have just declared dividends. Remember, dividends are paid out from the fund’s own AUM, which is nothing but investors’ own money. Due to this the funds’ NAV gets deducted by the dividend value.
Returns in the short term Most first-time investors invest in mutual funds during bull market conditions. As a result, many investors compromise their liquidity and even invest in equity mutual funds for their short term financial goals. However, when bull markets are followed by market corrections, many of such investors end up liquidating their investments with losses due to panic.