It’s that time of the month again. There is a steady flow of information from mutual funds, as they declare their portfolios for the previous month and reveal their picks. And, as they do every month, newspapers and digital websites will bombard their readers with information about the stocks and bonds that fund managers bought last month.
Investors pore through this data and some look to buy the stocks purchased by mutual fund managers, with the aim of earning quick returns. However, that strategy is tough to replicate, and of little help. Here’s why:
Whom to follow
There are hundreds of actively managed equity schemes and it is hard to decide which fund manager to follow. Even if you pick the best fund manager of the previous year, there is no assurance that s/he will do well the next year. If you choose to mimic a few smart money managers, then, taken together, there may be too many stock picks among them.
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For instance, technology funds were for long an investor favourite, and many were keen to pick stocks that fund managers thought would usher in the next wave in technology. But in 2022, technology funds fell nearly 25 percent on an average.
Mimicking fund managers’ moves becomes a challenge and there is a chance that the ones you don’t pick may become winners while the ones you do pick turn out to be mediocre.
Information and time lag
Here’s the catch. You get to know about the portfolio of a scheme as on the last day of a month only in the first week of the subsequent month. There is no mention of the price at which the stock was bought. And there is a fair chance that the stock price may have moved after the fund manager bought the stock. This can go against you, especially in buoyant times, when prices rise quickly.
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Risk appetite
When a fund manager buys a stock, the stock is considered on both risk and return parameters. The retail investor does not know the expected returns nor does he care about the risk. A fund manager may see a stock as a high-risk bet, for which he may have an exit strategy in place. A retail investor may not have a matching risk appetite, nor the ability to manage trades in case the risk becomes real.
Portfolio diversification and risk management
Most investors do not have the discipline of a fund manager, nor can they diversify as much. A fund manager contains the risk associated with individual stocks by diversifying across stocks. Retail investors can rarely hold as many stocks as a fund manager. Indeed, these days, many midcap- and smallcap-focused schemes hold more than 70-80 stocks. This helps the fund manager perform on the scheme front, even if he gets a few calls wrong. Investors trying to mimic the fund manager need to understand this aspect.
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Timeframe and exit
Investors may also be looking for quick returns and holding a stock for a shorter period compared to the fund manager. This mismatch may cost the investor a lot, as he may end up selling the stock whereas the fund manager is accumulating it slowly. Since no fund manager announces for how long he is going to hold a stock, it is difficult for an investor to commit money. The fund manager’s exit cannot be predicted. Often, large-scale selling by a fund manager may pull the stock price down. By the time the portfolios are disclosed, and retail investors come to know about the exit, the stock price may have plummeted.
Churn and taxation
When a fund manager buys and sells stocks, he does not have to pay tax on gains. An investor however, has to pay taxes each time s/he books profits. An investor will also need to keep tabs on transaction costs, as well.
Hence, it makes sense to invest in an actively managed scheme rather than mimic the manager of the scheme.
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