Mutual Fund selection is crucial for maintaining good financial health for investors. How to choose a mutual fund is often asked. There are more than 2500 mutual fund schemes for various needs of investors. However, this gives a variety to choose from. But, it further complicates the mutual fund selection procedure for a novice.
Post is updated on 25 June 2024
So let’s dive into the Mutual Funds World. Let’s understand the basic requisites to choose a mutual fund in India.
Table of Contents
What are Mutual Funds?
Mutual Fund is an investment scheme, in which people pool their money. This money is invested in stocks, bonds or money market instruments (depending on the type of mutual fund). The return generated is distributed amongst investors.
There are many advantages of mutual fund investments such as low investment, professional management, liquidity, transparency and high returns.
How to choose Mutual Funds in India?
1. Goals & Investment Duration
The first step is to know your Financial Commitments ( goals) & time duration. Divide your financial goals short/mid and long-term goals.
Once you know your goal. You get a fair idea of your investment horizon. When you know your investment duration, choosing a mutual fund is easy.
Broadly there are 3 categories of mutual funds;
Mutual Fund is an investment scheme, in which people pool their money. This money is invested in stocks, bonds or money market instruments (depending on the type of mutual fund). The return generated is distributed amongst investors.
There are many advantages of mutual fund investments such as low investment, professional management, liquidity, transparency and high returns.
How to choose Mutual Funds in India?
1. Goals & Investment Duration
The first step is to know your Financial Commitments ( goals) & time duration. Divide your financial goals short/mid and long-term goals.
Once you know your goal. You get a fair idea of your investment horizon. When you know your investment duration, choosing a mutual fund is easy.
Broadly there are 3 categories of mutual funds;
- Equity Mutual Fund
- Debt Mutual Fund
- Balanced Mutual Fund
The Below table summarizes the duration and risk of a Fund along with probable returns.
| Fund | Time Duration | Risk | Return |
| Equity – Large Cap Fund | 5 Year or more | Least among Equity Fund | 10-12% |
| Equity – Multi Cap Fund | 5 Year or more | Low among Equity Fund | 10-12% |
| Equity – Mid Cap Fund | 5-7 Year or more | High among Equity Fund | 10-15% |
| Equity – Small Cap Fund | 5-10 year or more | Very High among Equity Fund | 10-20% |
| Equity – Balanced Fund | 3-5 yearor more | Moderate Risk – as contains debt also | 9-12% |
| Debt – Balanced Fund | 3-6 Yearor more | Lower Risk as compared to Equity Balance | 8-10% |
| Debt- Overnight Funds | 1-3 Daysor more | Negligible Risk | 5-6% |
| Debt – Liquid Fund | Up to 3 monthsor more | Negligible Risk | 6-7% |
| Debt- Ultra Short Term Fund | 3-6 monthsor more | Very low risk | 6-8% |
| Debt- Low Duration Fund | 6-12 monthsor more | Low Risk | 6-8% |
| Debt- Short Term Fund | 1-3 Yearor more | Higher than Low duration | 6-10% |
| Debt- Medium Duration Fund | 3-4 years | Medium Risk | 6-12%6-12% |
| Debt – Long Duration Fund | Greater than 7 years | Interest rate risk | |
| Dynamic Fund | Investment across duration | ||
| Gilt Fund | As per the duration mentioned but usually 10 year or more | ||
| Corporate Bond Fund | 5 years or more | ||
| Credit Risk Fund | 5 years or more | ||
| Banking & PSU Fund | 5 years or more | ||
| Floater Fund | 5 years or more |
Wanna invest for 5 years only But no Mutual Funds – here is a list
Best Investment Plan For 5 Years In India
Correlation with Real-Life Situation:
Mr. Bestii wanted to invest in the mutual fund. He visited an online platform. Looking at the awesome return of three mutual fund schemes, he decided to invest in those MF schemes.
After a year he approached a mutual fund Company to withdraw his invested money.
He was highly surprised and disappointed to see his money value had gone down.
Forget about interest, his principal amount was lower than the original.
He was surprised, worried and anxious.
He started thinking, would have been better, if he had chosen other investments rather than mutual funds.
Can you guess why has this happened? This is because he had not chosen the right fund as per his investing horizon.
This makes it crucial to invest money as per the investing horizon.
In back of his mind, he knew that he will withdraw after a year or so.
But unfortunately, he invested just looking at the high return of mid and small cap.
Tip: Choose Equity MF only and only if investment horizon is above 5 years.
For sudden & early withdrawal, choose debt funds.
Risk
Mutual funds are market-linked products. They do not give fixed and assured returns. Thus some risk is always associated with MF.
Risk is another criterion for choosing a mutual fund scheme.
SIP Investment: Exploring the Safety and Benefits for Your Financial Portfolio
Equity Mutual Funds are subject to market fluctuations. Although return is higher as compared to other investments. But only long term investor should invest in equity MF.
Investors with short-term investment horizons can also invest in equity. But they get prone to market volatility and capital erosion in the short term. ( refer above example).
Debt Mutual Funds are comparatively stable. These funds invest in corporate/ Govt. bonds, t bills, commercial papers and other securities. Low to moderate risk takers can invest in debt mf.
Liquidity
Choose a mutual fund based on liquidity. Some funds have a lock-in period of 3 years ( Tax Saving ELSS MF ) while most mutual funds have an exit load if you withdraw before one year.
Before investing, ask yourself when you want to withdraw.
I know your heart will say, whenever I want to.
In mutual fund cases, you can withdraw anytime ( except close-ended funds & ELSS ). But this may lead to losses.
Thus, decide when you need money. Invest as per your investment duration.
Investment Strategy
Decide an investment strategy.
Now you have decided on your goals. You know the time duration too. Set your debt: Equity Ratio. choose your funds. Follow a diversified approach. You can do so by investing in a different category of mutual funds.
Personal Finance Management – Kickstart Your Wealth Journey
Follow These 17 Easy Principles To Create Wealth
Diversification, means allocating your money to different baskets.
This one strategy not only increase your safe return but it lowers the downside risk of your money.
Have you ever heard of a saying?
Do not put all your eggs in one basket.
- Equity Mutual Fund
- Debt Mutual Fund
- Balanced Mutual Fund
The Below table summarizes the duration and risk of a Fund along with probable returns.
| Fund | Time Duration | Risk | Return |
| Equity – Large Cap Fund | 5 Year or more | Least among Equity Fund | 10-12% |
| Equity – Multi Cap Fund | 5 Year or more | Low among Equity Fund | 10-12% |
| Equity – Mid Cap Fund | 5-7 Year or more | High among Equity Fund | 10-15% |
| Equity – Small Cap Fund | 5-10 year or more | Very High among Equity Fund | 10-20% |
| Equity – Balanced Fund | 3-5 year or more | Moderate Risk – as contains debt also | 9-12% |
| Debt – Balanced Fund | 3-6 Year or more | Lower Risk as compared to Equity Balance | 8-10% |
| Debt- Overnight Funds | 1-3 Days or more | Negligible Risk | 5-6% |
| Debt – Liquid Fund | Up to 3 months or more | Negligible Risk | 6-7% |
| Debt- Ultra Short Term Fund | 3-6 months or more | Very low risk | 6-8% |
| Debt- Low Duration Fund | 6-12 months or more | Low Risk | 6-8% |
| Debt- Short Term Fund | 1-3 Year or more | Higher than Low duration | 6-10% |
| Debt- Medium Duration Fund | 3-4 years | Medium Risk | 6-12%
6-12% |
| Debt – Long Duration Fund | Greater than 7 years |
Interest rate risk | |
| Dynamic Fund | Investment across duration | ||
| Gilt Fund | As per the duration mentioned but usually 10 year or more | ||
| Corporate Bond Fund | 5 years or more | ||
| Credit Risk Fund | 5 years or more | ||
| Banking & PSU Fund | 5 years or more | ||
| Floater Fund | 5 years or more |
Wanna invest for 5 years only But no Mutual Funds – here is a list
Best Investment Plan For 5 Years In India
Correlation with Real-Life Situation:
Mr. Bestii wanted to invest in the mutual fund. He visited an online platform. Looking at the awesome return of three mutual fund schemes, he decided to invest in those MF schemes.
After a year he approached a mutual fund Company to withdraw his invested money.
He was highly surprised and disappointed to see his money value had gone down.
Forget about interest, his principal amount was lower than the original.
He was surprised, worried and anxious.
He started thinking, would have been better, if he had chosen other investments rather than mutual funds.
Can you guess why has this happened? This is because he had not chosen the right fund as per his investing horizon.
This makes it crucial to invest money as per the investing horizon.
In back of his mind, he knew that he will withdraw after a year or so.
But unfortunately, he invested just looking at the high return of mid and small cap.
Tip: Choose Equity MF only and only if investment horizon is above 5 years.
For sudden & early withdrawal, choose debt funds.
Risk
Mutual funds are market-linked products. They do not give fixed and assured returns. Thus some risk is always associated with MF.
Risk is another criterion for choosing a mutual fund scheme.
SIP Investment: Exploring the Safety and Benefits for Your Financial Portfolio
Equity Mutual Funds are subject to market fluctuations. Although return is higher as compared to other investments. But only long term investor should invest in equity MF.
Investors with short-term investment horizons can also invest in equity. But they get prone to market volatility and capital erosion in the short term. ( refer above example).
Debt Mutual Funds are comparatively stable. These funds invest in corporate/ Govt. bonds, t bills, commercial papers and other securities. Low to moderate risk takers can invest in debt mf.
Liquidity
Choose a mutual fund based on liquidity. Some funds have a lock-in period of 3 years ( Tax Saving ELSS MF ) while most mutual funds have an exit load if you withdraw before one year.
Before investing, ask yourself when you want to withdraw.
I know your heart will say, whenever I want to.
In mutual fund cases, you can withdraw anytime ( except close-ended funds & ELSS ). But this may lead to losses.
Thus, decide when you need money. Invest as per your investment duration.
Investment Strategy
Decide an investment strategy.
Now you have decided on your goals. You know the time duration too. Set your debt: Equity Ratio. choose your funds. Follow a diversified approach. You can do so by investing in a different category of mutual funds.
Personal Finance Management – Kickstart Your Wealth Journey
Follow These 17 Easy Principles To Create Wealth
Diversification, means allocating your money to different baskets.
This one strategy not only increase your safe return but it lowers the downside risk of your money.
Have you ever heard of a saying?
Do not put all your eggs in one basket.
That is why diversification saves you from the downside risk of your investments.
Other Important Mutual Fund Factors
The other very important mutual fund factors which should be considered before selecting a mutual fund
Fund’s return comparision with peers
- Risk ratios such as beta, Treynor, Sharp ratio, Jensen’s alpha, sorting ratio etc
- quartile ranking
- Funds AUM
- Fund manager
- Exit Load
- Liquidity
- Expense Ratio
- Taxes
Have a Financial Plan
Invest in building a Sound Financial Plan for you so that you can set right allocation of your money as per your investment duration, your risk profile and market outlook.
Financial Planning || Benefits of a Financial Plan
3 Reasons Why You need Financial Planning
Invest in well crafted thought out plan rather than moving into a dark place and dreaming of success.
Portfolio Review
We all know that diet,exercise & regular check ups give a life line to our heart and body.
So is a Portfolio Review for your investments and your financial life goals.
The portfolio is a combination of different mutual funds as suggested above.
Have regular portfolio review get done by an expert so that you can get rid of non performing mutual funds and more.
Portfolio review not only reduce the risk of getting low returns but it also saves you from any discrepancy in your investments.
Conclusion:
Mutual Fund selection, should be based at your own future financial commitments on the level one.
Thereafter, a whole research on good mutual fund can be based on risk ratios, returns, performance of fund manager and the fund itself over some time.
Best investment strategies can be applied based on factors the investment amount and investing horizons.
I hope this post will be useful to you in some way or the other.
Comment and tell me which tip you would like to use first while investing in mutual funds. Or maybe I didn’t mention your favourite tip.
Either way, let me know by leaving a comment below right now 🙂
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