This week I am back with some discussion around Mutual Funds. In one of my workshops, during our mutual fund's discussion, I had this one trainee ask me - So what's your number?
I stared at her for a while not knowing what I am supposed to answer to that. Well, she rephrased her question, 'What is the number of mutual funds you are invested in?' I said, '6 Mutual Funds'.She had the bewildered look on her face wondering how I had so fewer funds. I decided to show her my portfolio.
How many mutual funds schemes should you own?
Owning around 5-7 mutual fund schemes across various categories is enough. These many mutual fund schemes will help you diversify, do your asset allocation, and also map these investments to your goals. You can invest your savings in the mutual fund schemes as per the below categories:
- Large Cap Mutual Fund (Equity)
- Large & Mid-Cap Mutual Fund (Equity) (your ELSS tax saving schemes are generally a Large & Mid Cap Mutual Fund)
- Mid Cap Mutual Fund (Equity)
- Small-Cap Mutual Fund (Equity)
- Thematic Mutual Fund (where you understand specific sectors and have a higher risk-taking appetite)
- Short Term Debt Mutual Fund (For your short term goals)
- Long Term Debt Mutual Fund (For your long term goals)
In addition to the above, I have one Liquid Mutual Fund where I park my Emergency Funds. You can park your Emergency Fund in a Bank Fixed Deposit as an alternative.
Why only 5-7 Mutual Funds?
When you invest in Mutual Funds, you already diversify your risk across the stocks of the companies a particular mutual fund has invested in. Hence, with a large-cap mutual fund, your risk is diversified across more than 70 stocks that particular large-cap mutual fund has invested in. Investing in three different large-cap funds is not going to reduce your risk further, it will only make your investment portfolio messy.
'Mutual funds investing is to diversify your risk and not to di"worsify" the same'.
Further, reducing the number of schemes to a minimum of 5 also reduces the cost of managing the same and the time that goes in keeping a track of it and analyzing it regularly.
What do I do when I have more savings to Invest?
Increase your investment in the existing mutual fund's schemes you own.
Investing in a new scheme every time you have extra savings will just lead you to own 15-20 mutual funds schemes with no plan in sight. Hence, it is important to do your due diligence and identify the mutual funds you want to invest in and stick to them.
Yes, you must review your schemes regularly to see how are they performing in various market cycles but know that all schemes will not give you the best results always. There are some time periods where mid-cap and small-cap schemes will do better, other times when large-cap schemes will outperform and sometimes your debt investments will be the best performer for the year. Hence, it is important to be diversified across categories.
'Every time I check for the best mutual fund scheme and invest in the ones that are on the top'
Studies have proven that selecting mutual funds based on high-performance track records is naive. The Star rating of various mutual fund keeps changing, a fund that is top rated in this one year, is hardly the top-rated fund in the subsequent years. Tim Courtney, a chief Investment advisor of US-based Burns Advisory did backtesting of past performance of the funds most highly rated, he found that they usually performed poorly after they have gotten 5 ratings. Hulbert financial digest, an investment newsletter found that if investors continually adjusted their mutual funds' holdings to hold only the highest-rated funds, a total stock market index would have beaten them by 45.8 % in the past decade (he studied funds from 1994 to 2004 in the USA). In fact over the years, it has gotten even more difficult to beat the markets and get alpha on your investments. - extracts from Millionaire extracts - How to build wealth living overseas by Andrew Hallam
Hence, just investing in top-rated schemes is not going to give you the desired returns but only make your portfolio messy and not even get you the best returns.
Wealth cafe Takeaway - While you are investing in 5-7 different schemes across the options stated above, ensure that you invest across various AMCs as well. This will ensure that you are diversifying your risk and your entire money is not with only one AMC.
We shall follow up this article with a part 2 on how to downsize your portfolio.
Until then, keep reading, if you find this helpful, do share it with your friends.
Disclaimer: - The articles are for information purposes only. Information presented is general information that does not take into account your individual circumstances, financial situation, or needs, nor does it present a personalized recommendation to you. You must consult a financial advisor who understands your specific circumstances and situation before taking an investment decision.