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Best Practices for Mutual Funds

 

  • Understand your risk profile, read the offer documents to see if the fund objectives match your needs

 

  • Build a strong foundation of funds as the basis of your portfolio before you diversify within growth or sectoral fund

Sectoral funds in India will give you a concentrated exposure to a particular sector, e.g., infrastructure, IT etc. If this kind of fund is the only fund you own, then that can be risky. You should add a sectoral fund in your mutual funds portfolio only if the portfolio is well diversified based on the investor's risk profile and time horizon.

  • Buy and hold equity funds, don't churn

Do not sell funds just because your agent asks you to sell one fund and invest in another fund. Ask them for reasons why you should switch. Churning will make you poor and your agent rich! And you might incur tax consequences as well

  • Avoid NFOs

NFOs or new fund offerings become very popular because they get a lot of marketing publicity when a new fund is launched. NFOs should be avoided for a few reasons:

    • Often you will end up paying higher fees in an NFO
    • NFOs have no track record, so you have no way knowing how well the fund will perform across market cycles, how good the risk management systems are or how good the back office and administration of the fund house is. For instance, if you have to go to a doctor for some trouble in your kidney, would you rather go to a new doctor with no track record, or would you go to a 10 year veteran who has experience and track record in dealing with patients like you.

 

  • Revisit your asset allocation periodically

Due to market movements, you might end up having a higher or lower exposure to certain industries or assets than what you had set out for. Therefore, just like you go for a regular health check, review your asset allocation across your mutual funds periodically. Once every 6-12 months is good period.

  • Avoid investing in too many different funds - preferably not more than 5-7 funds

Over diversification can also be bad for you. So do not duplicate by buying two different infrastructure funds or have too many balanced funds. If you have more than 10 funds, after a while you will realize that you do not have time to manage all the paperwork related to all the funds and you will need a full time assistant just to manage your accounts

 

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