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How to diversify your mutual fund portfolio?

Diversify Mutual Funds


"Never put all your eggs in the same basket" - Ever heard of this?

Many financial experts advise their clients not to invest everything in a single stock. What happens if in future some unexpected incident cleans up all the market value & degrades your investment.


It is the principle of diversification which helps you to allocate your money in multiple stocks & other instruments like RD's, FD's & hence reduce the risk of loosing everything.



Diversification in a mutual fund

The same principle applies to mutual fund investment as well. Each mutual fund scheme has a unique portfolio to generate best returns, but what would happen if you have invested everything in a single scheme & it keeps under-performing? Now lets understand why diversifying your investments in a mutual fund scheme is a good idea. 

Each mutual fund is managed by a fund manager, who has a unique style of investing. There is no single way to effectively manage a portfolio. If you diversify your investments in multiple funds - you can take advantage of extracting gains out of different investment styles. Obviously some might perform exceedingly well & some might give you average returns - but you wouldn't know until you have been through the journey.


Many financial advisers advise their clients to invest some part in the Debt funds. The prime reason is if equity markets don't perform well for a considerable time, debt funds can give you at least higher single digit returns - which balances out your investments. Similarly, if equities are performing well, you can reap the benefits from both type of schemes.


Same is the case with many people investing in arbitrage funds. These type of funds don't carry forward their positions & take advantage of price difference between cash & derivatives market. If the volatility is high on a certain day, these funds are historically known to perform well.

But remember, excess of everything is bad - isn't it? Same is the case with diversification.

How much to diversify?

While choosing the funds in your portfolio, you need to ensure you are not over diversifying it. Also, read Equity mutual fund categories to understand categorization of funds based on market cap, sector & investment style.

An over-diversified portfolio can prove to be counter-productive. Here are the reasons why? 


If you are investing in 5 different schemes which hold the same sort of portfolio, it would prove to be pointless. If all the schemes that you invest in are large cap schemes, there is a possibility that they will have 50-60% similar portfolio. It is advisable to invest in at maximum 2 schemes from each category.


If you invest in 10 schemes across different categories, the returns from best performing schemes will be nullifies by under-performing ones. Moreover, it is tough to constantly keep a track of multiple schemes.


How many funds do we actually need to diversify?


Let me be very clear, there is no magical number. It can vary from individual to individual & scheme to scheme. If you invest in all asset classes for a long term perspective like Debt, Equity or gold - you are sure to reap benefits at different times in your investment horizon. 

You can choose the Best Mutual Funds to invest in 2018.

Hope this would have given you clarity on how to plan your investment diversification.

Mutual funds as an investment instrument has been gaining popularity over the years, thanks to the wide range of options available and the ease of KYC process. To know more about them, check out The Mutual Funds Sahi Hai campaign, launched by The Association of Mutual Funds in India (AMFI) at www.mutualfundssahihai.com


Post comments for any questions/feedback that you may have.

8 comments:

  1. Hi
    I need your valuable suggestion to invest in market. I have zero market knowledge. I want to start a sip for 5000 tax saving. Please suggest

    ReplyDelete
  2. Mutual funds are managed by professional fund managers and you only require to choose the correct funds. Fund manager will take care of the rest.
    Now, since you want to invest in Tax saving funds - you need to understand it will have a lock in period of 3 years. So each of your monthly investment will be locked in for 3 years from the day of investment. To know about the best performing funds based on 1,3 & 5 year returns - visit https://www.mutualfundswiki.com/2018/04/best-mutual-funds-to-invest-in-2018.html & refer to Best Equity Linked Saving Scheme(ELSS) Tax Saver mutual funds for 2018 section. Let us know in case you still have open questions.

    Regards,
    Mutual Funds Wiki Team

    ReplyDelete
  3. How should a best portfolio look like in terms of diversification?

    ReplyDelete
    Replies
    1. This is no right or wrong answer to this. This can vary based on your risk appetite. You could choose to diversify within asset class or outside of asset class. If you are invested in a small cap fund, diversification within the asset class would mean investing in another small cap fund, but ensure the portfolio of both these funds don't overlap to a large extent.
      Diversification outside of asset class would mean you choose to invest some of your investments into debt or any other investment class.

      You could have a mix of best performing large cap, small cap & debt funds. If your investment horizon is more than 5-10 years, you could choose to have 40% in mid & small cap categories, another 40% in large caps & 20% in debt funds. You could also decide to have a mix of balanced fund.

      Regards,
      Mutual Funds Wiki Team

      Delete
  4. Yes pls also tell best diversification of portofolio should look like

    ReplyDelete
    Replies
    1. This is no right or wrong answer to this. This can vary based on your risk appetite. You could choose to diversify within asset class or outside of asset class. If you are invested in a small cap fund, diversification within the asset class would mean investing in another small cap fund, but ensure the portfolio of both these funds don't overlap to a large extent.
      Diversification outside of asset class would mean you choose to invest some of your investments into debt or any other investment class.

      You could have a mix of best performing large cap, small cap & debt funds. If your investment horizon is more than 5-10 years, you could choose to have 40% in mid & small cap categories, another 40% in large caps & 20% in debt funds. You could also decide to have a mix of balanced fund.

      Regards,
      Mutual Funds Wiki Team

      Delete
  5. This is very outstanding blog fund manager thanks for sharing on web

    ReplyDelete
  6. Thanks for the information... By investing in mutual funds can help you to make money. Mutual funds are one of the best financial products for small investors and can lead you to make money.
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    Financial planners in Chennai
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    ReplyDelete

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