How To Evaluate Mutual Funds Performance?

3 min read

Investing in mutual funds has an inherent risk assumed upon the ownership. However, performance of the mutual funds can be quantified with the mathematical calculation of the historical returns. The correlation of the potential risk and the potential returns constantly put forth the opportunities to invest in mutual funds and drive maximum potential returns with minimum underlying risk.

The past performance of a mutual fund may not show you the exact future of the fund, but for sure, it can get you to the right set of stocks from the market. When you know what you need to avoid and what is good to get close to, you are already going in the right direction in the market.

How To Judge A Fund’s Performance?

Evaluating and comparing the performance of two or more mutual funds can help you make an informed decision regarding your investment choices. Mutual funds give you the chance to invest your hard-earned money in a diversified portfolio which in turn offers a higher probability of guaranteed returns. Based on a fund’s performance, you can find out if the chosen mutual fund meets your investment goals and risk appetite.

Wouldn’t it be disappointing to invest in a large-cap fund that you thought was stable with moderate risk only to later realize that it is performing poorly. 

So, does it mean that you should exit the fund and invest in a different scheme?

Not necessarily. 

There are a few simple methods by which you can judge a fund’s performance and decide whether you want to continue investing in it. Checking the historical performance data of a fund is a start but that is not the only way to judge a fund’s performance. Here are a few other checks that you can perform to find out if the fund that you hold is doing well or not.

  • Judge a fund performance relative to its benchmark, not its returns alone:  An equity mutual fund will not perform well in a falling market as it invests in stocks. Therefore, judging the equity fund to be a poor performer due to its low returns in a falling market is incorrect. 

Keep in mind, a fund aims to beat its benchmark. In that case, the fund’s returns should be evaluated based on how the fund is performing in comparison to its benchmark. A fund is judged to be a good performer if it manages to beat its benchmark. Benchmarking funds will help you measure the performance of your fund against the market competition. For example, if you have invested in a large-cap fund that gives 30% returns against the benchmark’s 25% then the fund has performed well.

  • Don’t compare funds across different categories: Comparing the returns of large-cap funds with mid-cap funds and small-cap funds or other asset classes is not a fair evaluation of a fund’s performance. 

It is wise to compare your fund with other funds in the same category, such as large-cap funds with other large-cap funds and mid-cap funds with other mid-cap funds. Each set performs differently. Hence comparing the returns of a large-cap fund when the stocks of large-cap companies are down with a mid-cap fund when the stocks of mid-cap funds are up, does not make for correct evaluation of a fund’s performance. Instead, compare the fund’s returns to its category average. The category average will show the average returns of all the funds in the same category across a time period.

  • Employ consistency measure to judge a fund’s performance: If a mutual fund consistently beats its benchmark and the category average over a long period of time, it is an indicator of the success of the strategy implemented by the fund. 

In such a case, even if the fund performs badly once in the short term, you know that the fund   house strategy will work and its performance will pick up again in the long term. Fund houses create strategies to make returns against the potential risks of a fund called risk-adjusted returns. Check the fund factsheet, which is available online, for the fund returns over the last 3 one-year periods to see how it has been performing, if the performance has been consistently good or bad.

  • Risk adjusted returns: Risk adjusted returns are the calculative returns your funds make compared to the risk indicated over the period of time. If compared, a couple of mutual funds which drive the same percentage of returns over the same period of time, the lesser risk funds have a higher Risk Adjusted Returns.
  • Track record and competence of the fund manager: Your fund manager is an important person who makes investment decisions and stock selection in the portfolio. Understand your fund manager’s competence according to his/her fund management knowledge and ability. Your fund manager’s past performance would be a good parameter to track his/her record and could turn out to be of great value for your investments.

Takeaway:

It all begins with learning how to analyze. Once you master this, it will automatically help you to choose the best mutual fund for you. Knowing your whereabouts with mutual fund analysis made by ShareIndia experts can go a long way in investments and the stock market and in order for you to make the right investment and trading decisions. Click here to connect with ShareIndia experts. 

Disclaimer: Any advice or information in the post is general advice for education purpose only and is not responsible for generating any trading profits for anyone, please do not trade or invest based solely on this information

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