10 factors to consider when choosing a mutual fund scheme
Plenty of AMCs offering plenty of schemes to choose from
As of September 2022, there are 44 Asset Management Companies (AMCs) offering investors 100s of mutual fund schemes to choose from. Mutual fund scheme selection can be quite a dilemma for an average individual investor. In this article, we will list ten factors that you should consider when selecting a mutual fund scheme.
Factors to consider when choosing a mutual fund scheme
Some of the factors that you should consider when choosing a mutual fund scheme include the following:
1. Consider your financial goals
During your financial planning journey, it is essential to identify and quantify your financial goals. Different financial goals can be mapped to mutual fund schemes specifically designed to achieve them. Some examples include:
|Financial goal||Mutual fund scheme|
|Building and maintaining an emergency fund||Liquid mutual fund scheme|
|Short-term financial goals such as accumulating money for a vehicle, vacation, etc.||Debt mutual fund schemes based on the investment time horizon|
|Tax saving||Equity Linked Savings Scheme (ELSS)|
|Accumulating gold for a child’s wedding||Gold Exchange Traded Funds (ETFs) or gold mutual funds|
|Long-term financial goals such as child higher education planning or own retirement planning||Solution-oriented mutual fund schemes such as Children’s Fund or Retirement Fund|
|Diversifying portfolio to include international equities||International mutual fund schemes|
|Diversifying portfolio to include 2 or 3 asset classes through a single scheme||Hybrid schemes with 2 asset classes or multi-asset allocation schemes with 3 asset classes|
The above table shows how you can invest in specifically designed mutual fund schemes for investment towards specific financial goals.
2. Assess your risk profile
You should assess your risk profile and accordingly decide on which mutual fund scheme you should select for investment. Based on your risk profile, the choice of mutual fund schemes can be made as follows:
|Risk profile||Mutual fund schemes for consideration|
|Investor with an aggressive risk profile||Equity mutual fund schemes|
|Investor with a moderate risk profile||Hybrid mutual fund schemes|
|Investor with a conservative risk profile||Debt mutual fund schemes|
While choosing a mutual fund scheme for investment, you need to ensure it suits your risk profile so that you can have peace of mind.
3. Investment time horizon
The choice of mutual fund scheme for investment will vary depending on your investment time horizon. You can classify the investment time horizon as short, medium, and long as follows:
|Investment time horizon||Time period||Financial goals||Mutual fund schemes for consideration|
|Short||Up to 3 years||Emergency fund, domestic vacation fund||Debt mutual fund schemes|
|Medium||3 to 7 years||Purchase of a vehicle, a fund for house down payment||Hybrid mutual fund schemes|
|Long||More than 7 years||Child’s higher education, own retirement||Equity mutual fund schemes|
4. Scheme objective
Once you have listed your financial goals, assessed your risk profile, and determined the investment time horizon, you may start evaluating various mutual fund schemes based on their parameters. One of the important parameters to consider is the mutual fund scheme’s objective. It should align with your investment objective in terms of the risk involved and the expected returns.
If you have a conservative risk profile, there is no point in investing in an equity scheme whose objective is to take high risks to generate high returns. Similarly, if you have an aggressive risk profile, there is no point in investing in a debt scheme whose objective is to protect capital by taking a low risk.
5. Does the scheme offer tax benefits?
If your objective is to create wealth along with availing tax benefits at the time of investment, you should consider investing in an Equity Linked Savings Scheme (ELSS). An investment in an ELSS qualifies for a deduction from taxable income. The maximum deduction allowed in a financial year is the amount invested or Rs. 1,50,000, whichever is lower.
You should also consider taxation at the time of redemption. If your holding period is less than one year for equity schemes, the profit will be classified as a short-term capital gain. Similarly, if the holding period is less than three years for other schemes (non-equity), the profit will be classified as a short-term capital gain.
When you choose a mutual fund scheme for investment, you should consider your liquidity requirement. For example, an ELSS has a lock-in period of three years. The lock-in applies to each SIP instalment if you have chosen the systematic investment plan (SIP) mode for investment. If you have any redemption requirements within the lock-in period, it will not be possible. So, consider your liquidity requirement and match it with the lock-in period.
You can get a loan against the units of some mutual fund schemes. If that facility is available, you may consider taking a loan against your mutual fund units rather than redeeming them and disturbing your financial goals.
The scheme-related expenses are charged to the scheme in the form of an expense ratio. The expense ratio reduces the net returns of the scheme. The higher the expense ratio, the higher will be the impact on the scheme returns. So, when selecting a mutual fund scheme for investment, you should choose a scheme with a lower expense ratio.
The expense ratio matters specifically in index funds. When comparing index funds with the same benchmark, you should choose the one with a low expense ratio, as they all invest in the same securities in the same proportion.
8. Scheme performance
While choosing a scheme for investment, you should study the past performance of the scheme. You should compare the scheme’s performance with its peers and the benchmark. You should consider a scheme with the consistency of returns rather than outperformance in some years and underperformance in others. You should also evaluate the downside protection during market falls.
9. Fund manager
You should consider the fund manager credentials. Check the fund manager’s qualification, work experience, other schemes being managed with the same fund house, schemes managed with earlier AMCs, etc.
10. Asset Management Company (AMC)
You should consider the schemes of an AMC with repute that follows good corporate governance standards. The AMC should put the interests of the unitholders first before anything else. It should be backed by financially strong promoters.
The selected scheme should be in line with your expectation
Many investors look for the best mutual fund scheme with a big AUM base and the highest returns. However, you don't necessarily need to select the best scheme. You need to select a scheme whose investment objective is in line with your goal, and the returns are consistent with your expected rate of return. If you do that, your financial goals will be achieved, which is what you ultimately need.
Investing in mutual funds with the Glide Invest App
In this blog, we have learnt about the ten factors to consider when choosing a mutual fund scheme. You can partner with the Glide Invest App for your financial planning journey to get recommendations for the appropriate mutual fund schemes based on your risk profile. You will get advice on planning and systematically investing towards your financial goals.
With Glide Invest, you will get guidance for:
- A personalised risk profile assessment
- Identifying your financial goals
- Appropriate asset allocation
- Making a financial plan for each goal
- Automating the financial plan
- Review and analysis of your financial plan
- Hand holding you till your financial goals are achieved