As we discussed in our previous articles, what are mutual funds, why should you invest in mutual funds, and what are some of the top performing funds in India. In this article we will focus on what are the parameters to look for before buying a mutual fund, and how they relate to performance and payout of a fund.
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Direct Plan’s vs Regular Plan’s:
We have already covered this in our article, direct vs regular mutual fund, so if you want to get a detailed understanding of the topic, remember to check out that article, but we will cover the summary here. So, in short, with SEBI’s regulation reform for the direct plans, these days it is much more beneficial to invest in a direct plan, because the NAV is generally slightly higher than the regular plan and the expense ratio is slightly lesser, thus ending up more money in the hand of investor for the same amount invested.
So, unless you plan on changing SIP frequency and relying on some advisory to provide you that input. It’s best to go with the direct plan because in the long run it would end up with more money in your portfolio. In case of regular plans, a certain amount of your profit is taken as commission by some third party.
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Mutual Funds Expense Ratio:
This is one of the most important factors to consider when buying a mutual fund or starting a SIP, but is often the most neglected. We have covered this in depth in our article, “What is expense ratio in mutual funds’ ‘, do remember to check that out if you want to get a more in depth understanding of the subject. In simple terms, expense ratio is nothing but annual fees or annual maintenance charges (AMC) that you pay the fund house to manage the fund.
With an example, let’s say if you invest Rs. 10,000 in a mutual fund that has an Expense ratio of 2%, it means that you are paying 10,000 X 2% = Rs 200 irrespective of your returns. So, if you get an annual return of say 10%, then after an expense ratio of 2%, the return effectively comes down to 8%. So if you were hoping that by 10% return on your investment of Rs 10,000, you would get Rs 1,000, but after 2% of expense ratio, you only get Rs 800 as Rs 200 is deducted as an AMC.
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CAGR – Compound Annual Growth Rate:
We all know interest, right? Similarly, annual interest is interest computed annually. Now, CAGR is nothing but compounded annual interest in simple terms. It stands for Compound Annual Growth Rate, and it reflects how much actual return has your investment accrued over the timeframe you’ve invested it, compounded annually.One thing to note is that the compound annual growth rate isn’t a true return rate, but rather a representational figure.
It is essentially a number that describes the rate at which an investment would have grown if it had grown at the same rate every year and the profits were reinvested at the end of each year. But by looking at it, you can understand the average returns of a fund over a time frame. To learn more about how it is calculated, and some live examples and comparison, do check out our article “What is CAGR in mutual funds”.
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Previous Performance:
Fund’s previous performance is an outlook of how the fund has performed up until now, or rather, up until the time you are purchasing it. It doesn’t necessarily mean that the fund will behave the same in the coming time as well, but it does give you a general idea of the past performance. If there’s a fund that has always performed below it’s benchmark in the past, it is not guaranteed that it will perform badly in future as well, but it is likely that it might not outperform the benchmark by a huge amount. To check the past performance of any fund, click here.
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CRISIL Rank – Credit Rating Information Services of India Limited:
It is a subsidiary of American company S&P Global which provides ratings, research, and risk and policy advisory services for financial institutes and financial instruments. Now, to know more about CRISIL, and how it works to evaluate the ratings of funds and other financial institutions, do check out our article, “What is CRISIL”, but for now, we will focus on what these ranks are and what they mean.
CRISIL assigns each fund a rating or a rank, from best to worst, RANK 1 to RANK 5, and in terms of stars, it’s the reverse, so from best to worst, it’s 5 STARS to 1 STAR. Ratings/ranking are based on different time frames, from 3 years, 5 years and 10 years. You can look at the ranking over a time frame and get a sense of how the fund has been evaluated by CRISIL.
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Exit Load on Mutual Funds:
Exit load is a thing that doesn’t come into play at the starting of investment, or even during the investment, but as the name suggests only at the end, when you are exiting from the funds and redeeming your investment back (in profit or loss whatever is the case). Exit load is nothing but the fee that the Asset Management Companies (AMCs) charge investors at the time of exiting or redeeming their fund units. The exit fee is usually a percentage of the Net Asset Value (NAV) of the mutual fund units held by investors.
Once the AMC deducts the exit load from the total NAV, the remaining amount gets credited to the investor’s account. For example, if the exit charge for a one-year scheme is 2% and you redeem within six months, then this would be much before the agreed investment period. If the NAV of the fund is Rs.35 during the time of redemption, then the exit fee would be 2% of Rs.35, which amounts to Rs.0.7.
The remaining amount, Rs.34.30 gets credited to the investor. If the investor completes the agreed fund tenure, then he/she will not be charged the exit load at the time of redemption. If on the other hand, you withdraw your amount after the lock-in period is over, then there are no exit fees.
Conclusion
We’ve tried to cover a few of the common parameters to look for when purchasing mutual funds, but it can still be slightly confusing when you are doing a first time investment. So, for it we have tried to compile a list of best mutual funds to purchase, and we have also specified the reason as to why we believe they are best in the category, so that you don’t just go over our word, but get a better and practical understanding of which mutual funds to keep in your portfolio to get the best possible returns.
