Modules for Beginners
All about mutual funds
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Which mutual fund is good for me?
As you’ve seen in some of the previous chapters, no two mutual funds are alike. They differ in various aspects, right from the constitution of their asset portfolio and the manner in which they are managed, to their investment tenure, investment horizon, and general investment objective. So, a mutual fund that may be ideal for one investor may not be the best choice for another investor.
In this chapter, we’re going to take a closer look at how you can find the best mutual funds to buy for your portfolio. To do this, you need to understand which parameters you have to factor into your investment decision. And here’s what you need to keep in mind before you go about selecting a mutual fund for your investment portfolio.
Your investment goals
The first thing you need to factor in is the purpose of your investment. Your investment goals are the basic foundation on which your mutual fund investment decisions need to be based. It is this aspect that will determine a lot of other things, such as the investment tenure, the amount of risk you can afford to take, the amount of money that you need to save up and the kind of fund you should invest in.
Identifying your goal can also help you choose the kind of specialized fund you should invest in. For instance, if your goal is tax saving, ELSS may be the right choice for your portfolio. On the other hand, if you wish to set up a source of income for life after retirement, pension funds may be the best mutual funds to buy.
Your risk appetite
Different mutual funds come with different risk profiles. Broadly speaking, mutual funds that invest in equity and equity-based assets carry a higher risk than funds that invest in debt instruments or money market securities. So, you can go about choosing the best mutual fund for your portfolio based on the amount of risk that you can afford to take at the time of investment.
The level of risk you can tolerate may also be different for different goals. For example, if you have a short-term goal as well as a long-term goal on your horizon, you can afford to take more risk for the latter than the former. This information can be of great help when it comes to choosing which mutual fund to invest in.
Your investment horizon
Another essential factor that you need to keep in mind is the investment horizon of your goals. Based on the amount of time you have to save up for the said goal, you can choose from the wide range of mutual funds available. Some, as you have seen, come with ultra short-term and short-term tenures, while others invest in long-term assets.
If the optimal investment period of your mutual fund investments don’t align with the timeline of your goals, you may find it tough to grow your capital as planned. For instance, if you decide to invest in equity funds for a short-term goal, you may have to redeem your investments before they have had time to tide over the market volatility. On the other hand, if you choose debt funds for a long-term goal, your capital may not appreciate substantially over the investment period.
Other things to keep in mind when selecting the right mutual fund
Apart from the factors mentioned above, it is also essential to keep some other important pointers in mind about how to choose the best mutual fund. Take a look at these factors below.
The expense ratio
The expense ratio refers to the commission that is charged from investors for managing their investments. Fund houses charge this commission in exchange for the services of fund managers. The lower the expense ratio, the better it is overall for your investments.
The expected returns
When you are calculating the amount that you need to invest, based on the amount that you need to save up for your goal, you need to make an assumption about the rate of returns you can expect from your mutual fund investment.
Remember to take a cautious estimate here. For instance, a fund cannot deliver 20% per annum again simply because it did so the previous year. Rely on more than just the past returns, and take into account any market forces that may be at play.
The taxes involved
Different mutual funds are taxed differently. In the case of equity funds, for example, the short-term capital gains are taxed at 15%, while long-term capital gains exceeding Rs. 1,00,000 are taxed at 10%. For debt funds, on the other hand, short-term capital gains are taxed as per your income tax slab rate, while long-term capital gains are taxed at 20.
Furthermore, what qualifies as long-term or short-term also varies from one kind of mutual fund to another. For equity funds, gains that are earned after a holding period of over 12 months constitute long-term capital gains. For non-equity funds, the period is 36 months instead of 12.
Finding the right investment for your portfolio is a crucial step in your financial journey. And when it comes to mutual fund investments, you need to know how to choose the best mutual fund for your needs. It may seem like a daunting task, but with the pointers mentioned above, you can easily find the best mutual funds to buy based on your specific needs and goals. And once you’ve chosen the right mutual fund, you need to learn about the factors that can influence its returns. Head to the next chapter for those details.
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