Like most investors, if your MF portfolio is overcrowded, read this to find out how you can cut down on the number of Mutual Funds.
Many of us invest in mutual funds that are popular at different points in time. We end up with too many mutual funds of various types. Many mutual funds have 50 – 70 stocks in their portfolios. Investing in too many mutual funds doesn’t improve portfolio performance.
Over-diversification defeats the very purpose of investing in actively-managed mutual funds. These funds have high expense ratios. You would be better off investing in a low-cost index mutual fund.
Let’s take a closer look at the disadvantages of having too many mutual funds in your portfolio:
It may not lead to real diversification
Investing in several mutual funds from the same category doesn’t make sense. This is because they may have almost the same portfolios. Even if you invest in different categories of funds, their portfolios may overlap. This will not provide meaningful diversification. You will not gain anything by having so many funds.
It’s much harder to track performance
It isn’t easy to track the performance of a portfolio that has too many mutual funds. The poor performers will offset the high returns produced by the outperformers. This will reduce the total portfolio returns. It’s essential to weed out non-performers over time. Keep a few mutual funds that offer good returns that are in line with your goals and profile.
[MMS_EBOOK]
It may produce returns like the index
If you invest in too many funds, your portfolio will be more correlated with market returns. This means that you will get index-like returns. In this case, it doesn’t make sense to invest in actively-managed funds with higher fees. It’s better to invest in a low-cost,passively-managed fund that mirrors the index.
It involves too much paperwork
Investing in too many mutual funds involves tedious paperwork and accounting. You will have to track the performance of several funds. It’s also necessary to update contact details and nominations. It isn’t easy to keep track of applicable taxes and exit loads. You need to collate lots of documents so that you can find them years later. However, If you are using tools like Mymoneysage.in you will not find this a problem.
Reduce the number of mutual funds in your portfolio
If you have too many mutual funds, review your portfolio to see if it is in line with your profile and goals. It’s best to review your portfolio every year to see if you need to make any changes. Reduce the number of funds over time to get the best possible returns on your investments.
Also read: 8 points to remember while investing in a Portfolio Management Services (PMS)
Here are some things to consider while reviewing your mutual fund portfolio:
Link each mutual fund to a financial goal
Look at each mutual fund in your portfolio to see if it will help you to reach one of your financial goals. Each of the funds must have a clear role to play in your portfolio. If you find that the objectives of the fund are not aligned with your profile and goals, it may be best to exit.
Making portfolio changes based on specific goals will help you to be dispassionate. You will be able to zero in on the funds that you must have. You can dispense with everything else over a period of time.
Check the performance of each mutual fund
Assess the performance of each mutual fund against its benchmark and category. If the fund is not able to beat its benchmark and category over a period of 3 years, it may be time to exit. If the performance of the fund is close to the benchmark and category, you can give it some more time. Be on the lookout for similar funds with superior performance.
Consider taxes and exit loads
Long-Term Capital Gains (LTCG) Tax @ 10% applies to withdrawals from equity funds after a year. The benefit of indexation is not available. Capital gains of up to ₹1.0 lakh in a year are tax-free. LTCG tax applies even if you switch from one fund to another in the same fund house.
Withdrawals from debt funds after three years are subject to Long-Term Capital Gains (LTCG) tax @ 20%. The indexation benefit is available.
An exit load usually applies to redemptions or switches within one year. Consider these costs before withdrawing your money from a mutual fund.
Also read: How to Rebalance Mutual Fund Portfolio
Avoid putting all your eggs in one basket
Diversify across different types of assets, mutual funds, and fund houses. Deciding on your asset allocation is the first step. Think about how much you want to invest in debt and equity. Within equity, determine the allocation to large-cap, mid-cap, small-cap and multi-cap mutual funds.
Invest across mutual fund houses. This reduces exposure to a single investment strategy. Invest in sector funds only if you believe you can move in and out at the right time.
Stop adding new funds to your portfolio
It’s tempting to buy a fund that’s the flavor of the year to get quick returns. However, this can result in an unplanned expansion of your mutual fund portfolio. Add a new mutual fund only after exiting an old one. This will enforce discipline, and you will have to think before making changes.
If you find that two mutual funds have similar portfolios, consider exiting one of them. Avoid exiting in haste without considering the value the fund adds to your portfolio.
Build a low-maintenance portfolio
Hybrid mutual funds change their equity and debt allocations based on market conditions. Multi-cap funds invest across large-caps, mid-caps and small-cap stocks based on market conditions. You can depend on the fund manager to manage the allocations. It’s essential to look for a fund manager with a proven track record.
Once you invest in these mutual funds, there’s no need to move your money from one type of fund to another. You can also avoid paying exit loads and tax. That’s why it makes sense to invest in hybrid funds and multi-cap mutual funds.
Final Words
You need to review your mutual fund portfolio every year to see if it is in line with your goals and profile. Weed out the mutual funds that don’t fit or have not been performing over a period of 3 years. Consider exit loads and taxes while exiting from mutual funds. Build a low-maintenance portfolio that rebalances itself based on changing market conditions.
The mutual fund portfolio should be carefully designed keeping in mind your financial objective, investment horizon, and risk appetite. Whether it is a short-term or long-term goal, there are several mutual funds to cater your investment needs. As selecting a mutual fund is a unilateral decision, you can refer to past performance of a mutual fund, however, your portfolio should completely focus on the financial goal.
Here’s a list of 5 criteria in picking a mutual fund:http://www.shoprwise.com/mutual-fund-investment-5-criteria-to-pick-the-right-mutual-fund/