Part 5: Process or How the heck do I Invest in Equity Successfully?
5.13 Invest in very few Equity Mutual Funds but Smartly
Why invest in Mutual and Index Funds when you have a stock portfolio? Or vice versa. Which types of funds could add value to your portfolio? How to choose such funds? How to build a portfolio of funds? How to track the performance of funds? When investing lumpsum is there a right time to do so?
The objective of your investment in equity is to earn healthy high returns by taking manageable risks. You cannot avoid risk when investing in Equity but by having reasonable returns expectations you manage it at a level where you stay invested.
You can build your equity portfolio by investing in:
Direct Stocks
Actively Managed Mutual Funds
Index funds or Passive Mutual Funds
ETFs (Exchange Traded Funds)
PMS (Portfolio Management Services)
Mutual Funds and ETFs exist for all asset classes and in any combination– stocks, Debt or Fixed Income, Gold, commodities, currencies and everything else. Since we are primarily interested in long term investing, not short term or trading in equity, we will cover only stock-centric mutual funds.
An equity mutual fund essentially pools money from various investors and the Fund manager invests it a portfolio of stocks. Everything that you have seen about investing in stocks is what a Fund Manager-the person who builds and manages the mutual fund needs to do, albeit using their own methods, process and research.
In contrast Index Funds and ETFs simply replicate the portfolio of the Index and there so, there is no Fund Manager making the decision on what to invest in.
A Fund Manager manages the fund portfolio which are bought and sold as units like any ‘product’. Instead of a price, you invest at the Net Asset Value, NAV of the fund. It is the value per unit of the fund. You can invest in MF with very small amounts unlike PMS which currently requires you to commit a minimum of 50lacs and the fees are much higher.
You can read more about the different types of Mutual Funds in this blog: Types of Mutual Funds
Each way of investing has unique benefits and challenges which you will understand better now that you know how to invest in stocks directly. This is summarized below:
Key benefits of investing in Stocks
Flexibility and Control
Higher control over the portfolio.
Can allocate more to a few stocks where investor/advisor has conviction.
Decisions not impacted by external factors as in an MF eg large inflows, redemption pressure, fund manager exit, etc.
Lesser Cost
Lower overall cost compared to mutual funds.
No fund manager expenses.
Lower churn. Can enter and exit without impact cost (adverse impact on price) usually faced when order sizes are large.
Key Challenges
Risk of capital loss
Stock prices are extremely volatile in the short term leading to irrational investor behaviour.
Key benefits of investing in Mutual Funds
Diversification
Mutual funds typically hold 50 stocks in a portfolio thus less risky.
An investor can benefit from multiple investment strategies and themes with ease.
Actively managed by a competent Fund Manager
Small Ticket Size
Investment in a diversified portfolio with a very small amount.
Easy to follow a disciplined way of investing monthly savings.
Investment in securities market are subject to market risks. Read all the related documents carefully before investing.
Disclaimer:
Registration granted by SEBI, membership of BASL and certification from NISM in no way guarantee performance of the intermediary or provide any assurance of returns to investors.
MoneyWorks4Me method for rating and ranking mutual funds for SIP
MoneyWorks4Me rating and ranking of funds for SIP is available to subscribers only. Moneyworks4Me is not a rating and
ranking agency, however it is required that users have a way of selecting funds and building a Portfolio. The method used by it are described below to enable users to understand the logic behind the rating and ranking Subscriber will find more details on this in the
various content made available from time to time. In case you need more please write to besafe@moneyworks4Me.com
MoneyWorks4Me rates and ranks mutual funds based on the following data-driven system:
Performance Consistency: This is measure based on whether the fund has beaten the benchmark index consistently. For
this we compare the 3-year rolling returns of the fund with the benchmark for a minimum of 5 years and preferable 10
years. The period of rolling is one month and holding period is 3 years. Fund are color-coded Green on Performance when
the fund beats the benchmark more than 90% of the time. It is Orange if it beats 80% to 90% of the time and Red if less
than 80%. Funds with less than 5 year data are color-coded Grey.
Quality of Portfolio Holding: Moneyworks4Me has color-coded stocks as Green, Orange and Red based on whether the
company's performance has generated a ROCE above a threshold level (cost of capital) over 10 years (minimum 6 years) and
generated positive Free Cash Flow. For Banks it checks whether ROE is greater than 15% and sales has grown over previous
year. Stocks that perform consistently on these combined metrics are color-coded Green (min score 14 out of 20), Orange
(between 8 and 14) and Red (less than 8 out of 20).
Fund are color-coded Green provided the portfolio has 70% holding in Green stocks but not more than 20% in Red stocks.
Funds with more than 20% Red stocks in the portfolio are color-coded Red. The rest are Orange funds
Funds ranking in screeners: Performance Consistency and Quality are two parameters used for ranking funds for SIP. The
ranking as follows GG, GO, GR, OG, OO, OR, RG, RO and RR.
With the same color-coded funds, the one with the higher Average 3-year rolling returns (over 5 to 10 years), the number
that appears in the Performance tag, ranks higher.
Here is the summary:
The third tag Upside Potential is not relevant for SIP. It is relevant for lumpsum investments in Mutual Funds.
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