New fund offers (NFOs) are back in focus. In the first six months of 2021, 34 NFOs of equity funds have been rolled out. There have been variants based on the Nifty index, ETFs, schemes with specific market capitalization mandates and so on. There was also a fund that invests in companies dealing with the impact of climate change.
Should you invest in all new offers that come your way? Diversification helps in reducing risks, but serves little purpose if not done carefully. So, how many mutual fund (MF) schemes must you really hold?
Does a scheme add value to your portfolio?
That’s the first question you’ve got to ask. If you look at portfolios of schemes within the same category, chances are you’ll find many common companies, especially in the large-cap category. This doesn’t help.
“It is important to check at least the top 15-20 holdings so get a fair idea of common holdings. Investors can have three to four equity schemes across different market caps – large, mid and small-caps – and an international fund,” says Prableen Bajpai, founder, FinFix.
“When you diversify a lot, you end up owning the market itself, which makes it difficult for your portfolio to outperform major benchmark indices,” says Nishant Agarwal, managing partner and head-family office, ASK Wealth Advisors.
Financial advisors say investors should not own more than two funds in each category, and can have higher number of funds, if they have more goals.
“Depending on whether your goals are short, medium or long-term in nature, you can invest in equity, debt or a combination of equity and debt funds for certain goals. Usually, 8-10 funds are enough for most investors to plan for their goals,” says Nisreen Mamaji, founder, MoneyWorks Financial Services.
Look for funds with low co-relation
One way to diversify your MF holdings is by investing in funds of different management styles. Deepak Chhabria, chief executive officer and director at Axiom Financial Services, says, “For example, an Axis Flexicap Fund follows growth style of investing, while the Franklin India Flexicap Fund follows value style of investing. So, these funds are likely to have more differences in their stock holdings,” he says.
An international fund in your portfolio diversifies your portfolio further and helps your overall returns over the long term. A study done by S&P Dow Jones Indices with 40 years’ data shows that a combined portfolio of US index S&P 500 and S&P BSE Sensex has given higher returns than the individual returns delivered by each of these indices. To be sure, rebalancing between the two indices at regular intervals, i.e., increasing investments in the falling index, contributed to the outperformance.
Do not limit your diversification to just equites. Invest across various asset classes such as fixed income instruments, gold, equity, small-saving deposits, cash, etc., which offer different risk-return potentials.
For example, when there is a global crisis and investors are risk-averse, they avoid equity and shift to gold. This leads to a situation where equity prices see sharp dips, but gold prices rise sharply.
Avoid sector, thematic funds in core portfolio
You can diversify into sector and thematic schemes being launched by fund houses, using your one-time annual bonus or surplus funds.
“Sector or thematic funds are high risk-high return strategies. These can be highly volatile and shouldn’t be relied upon for planning your goals,” Mamaji adds.
Investors can create a separate portfolio to park such amounts. Your core portfolio should mostly comprise diversified equity, hybrid and debt funds, depending upon your risk-taking capacity and the time horizon for your goals.