A SIP in 3-5 funds across styles, market cap and geographies can be preferred to have a well-diversified portfolio, says expert
Many mutual funds have given less than Fixed Deposit returns in one year. While one-year FDs currently offered by banks promise an interest rate of 6% to 8%, several mutual fund schemes have given less than 6% returns in this period.
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For instance, as many as 12 ETF/Index Funds and seven Sectoral/Thematic Equity Mutual Funds have given a return of less than 6% in one year, according to data on the AMFI website at the time of writing (May 11, 2023).
Similarly, 14 Arbitrage Funds in the Hybrid category have given less than 6% returns in one year. Also, one fund each from equity small cap, flexi cap and focussed scheme categories has given less than 6% returns in one year. A few funds have also given negative returns in one year.
Low returns from mutual fund investments often create a lot of worries for investors. What should such investors do if the scheme in which they have invested has given less than a Fixed Deposit return in one year?
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“This (Equity SIPs delivering lower returns in the short term) is a part and parcel of equity investing. If you look at the last 23+ years, 25% of the time the one-year SIP returns of Nifty 50 TRI have been negative. Another 16% of the time, the returns were poor (between 0% and 7%). Put together, the odds of subpar returns (returns less than 7%) have been 40% for one-year SIPs. For three-year SIPs, the odds of subpar returns were 22%,” Shrinath ML, Senior Research Analyst at FundsIndia, told FE PF Desk in a response sent via email.
“Such poor outcomes are very common in the initial years of your equity SIP journey. However, in all these cases, the SIP returns recovered to more than 10% in the next 1-3 years,” he added.
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Ideal Time Frame
In view of the above, Shrinath suggested it is important for investors to invest for a longer time frame. But what is the ideal time frame?
Shrinath said that usually, a 7+ year timeframe is good enough to accommodate these temporary underperformance phases and provide reasonable returns over the long run.
The expert further said that the performance of equity funds generally goes through cycles as different styles (Value, Quality etc), market cap segments (Large, Mid & Small), sectors (IT, Financials etc) and markets (India, US etc) do well at different times.
“When cycles change, even the best of funds go through phases of short-term underperformance,” he said
How to identify a good fund
“To identify a good fund going through temporary underperformance, you can check whether the long-term historical performance has been good, the fund manager’s track record has been solid, investment philosophy continues to be consistent, the portfolio has low churn and reasonable valuations,” said Shrinath.
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According to the expert, if a fund passes the above checks, then the current underperformance is likely to be temporary and the performance could mean a revert in the future.
In conclusion, he said, “A SIP in 3-5 funds across styles, market cap and geographies can be preferred to have a well-diversified portfolio. This can produce a better return experience with lower downsides.”
