Depend On Diversity

The current economic crisis is perhaps the worst that any investor could face in his lifetime. Needless to say, retail investors are the worst hit by this downturn both in terms of capital loss as well as loss of confidence in their investment strategy and the options chosen by them. During such difficult phases, investors often question their preference for mutual funds over traditional ones like banks, insurance or bonds. That’s mainly because MFs are equated with stock markets as well as the fact that a steep fall in the NAVs of equity funds gets highlighted everywhere.

The fact, however, is that even during this turbulent period, products like FMPs and gilt as well as debt funds have been giving higher and more tax efficient returns as compared to any of the traditional products. Investors will get the correct picture only if they compare products with similar features and in the same asset class. The right way to compare the performance of their equity funds’ portfolio would be to compare it with their stock portfolio, if they have any, or with the performance of broader market indices.

It is important to remember that the options one chooses will decide the kind of risks one is likely to take and the returns one can expect from one’s portfolio over time. Besides, it is also a well known fact that different asset classes perform differently over different time periods. This is precisely the reason as to why one needs to put a lot emphasis on asset allocation as the starting point depending on one’s investment objectives, time horizon and risk profile. Remember, a diversified portfolio ensures that at least a part of the portfolio performs and the process of capital building continues.

While all of us know that equities have the potential to out-perform other asset classes over a longer time period, it is also a fact that one has to face turbulence time and again to achieve the desired results. Remember, while the stock market drops can be steep and fast, the rise can be just as quick. Therefore the key is to stay invested and benefit from the true potential of the equity market. Another important aspect of equity[PAGE BREAK]

investing is that a disciplined approach, wherein one invests on a regular basis, goes a long way in reducing the impact of volatility on the portfolio. In fact, it allows investors to turn such a situation to their advantage by investing at lower levels. Considering the volatility factor, it is necessary that one invests only that part of the portfolio in equities that is not required to be touched for at least five years or so.

Even here, it is essential to understand that if one is investing for a particular objective to be achieved after a certain time period, one needs to gradually start moving money to safer asset classes around a year before the designated period is about to end. This will ensure that one is not hit by sudden volatility and the gains made in the past remain protected. Every market situation will have different investors reacting differently. There are investors who get tempted to invest directly in stocks especially after the markets witness a steep fall. The logic is to expedite the recovery of losses by taking exposure in a few stocks rather than a diversified vehicle like a mutual fund.

While the logic may be correct, the fact remains that investing in stocks requires skills both in terms of selection as well as well as monitoring the progress of the companies included in the portfolio. The stock prices move to anticipate events as well as reflect current events. Therefore, considerable research has to be carried out trying to forecast the performance of the economy, an industry and a particular company. Besides, investing in a mutual fund rather than directly in stocks has many other advantages. Apart from being an easy method of investing, it is much easier to track performance as one has to track only one price i.e. NAV, instead of several stock prices.

Further, mutual funds offer a wide variety of equity funds ranging from diversified to specialty funds enabling investors with different risk profiles to choose the right ones and achieve their investment objectives. Even for aggressive and knowledgeable investors, there are plenty of options. Another major benefit of investing in mutual funds is the wealth of information that they provide to existing as well as prospective investors. Taken together, the various reports provide investors with vital information regarding the financial status and the manner in which the fund is managed.