Eyes wide shut

'Don’t base high expectations on beginner’s luck; study the problem and learn from mistakes.'

Once upon a time a man went fishing. As soon as he threw the fishing line in the water he caught a fish. Thrilled at the immediate success, he decided to fish at the same spot everyday. Gradually his catch started reducing everyday. A friend advised him to use a worm on the hook as bait.

Initially, the trick worked, but after a few days, his success rate dipped again. In a few weeks, the man was heard complaining about everything—the fishing rod, river, his friends and even the fish. Moral of the story—the man had no knowledge of fishing. He based his high expectations on beginner’s luck without bothering to study the problem.

Many mutual fund investors have the same experience as our fisherman. Some of the typical mistakes they make are:

Investing in mutual funds without understanding the derived benefit of their investments. This leads to a mismatch in the perceived deliverable of investments and the actual benefits.

Buying funds without testing their suitability. Before buying consumer durables, most customers first check the product deliverables. Only when they are completely satisfied do they become loyal to the brand. Same should apply for mutual funds too.Vikaas M Sachdeva

Blindly following the crowd. Most investors choose mutual funds based on what others are buying. But you must analyse your needs, goals and fund availability before investing in any fund.

Not measuring risk-taking capability. An AA-rated fixed deposit will always give you higher returns than an AAA-rated one. But the probability of losing your capital is lower in AAA than in AA. There is no free lunch in this world. So assess your risk-appetite along with expected returns while investing in funds.

Expecting too much, too soon. The best of cricketers don’t score centuries in every match, but if you look at the career of any legend you will observe that they performed stupendously over a period of time. Following the same principle, investors should give their funds time to perform.

Surprisingly, many investors tend to repeat their mistakes despite incurring substantial losses during the first time. A quick look at some mistakes and myths regarding mutual fund investments based on my experience:

  • Most investors tend to invest when markets are high and start redeeming when the situation changes. This defeats the purpose of investing in mutual funds which are meant to minimise your losses through their diversified focus.
  • Investors assume that higher net asset value (NAV) means that the fund costs more. This is completely untrue. NAV states the value of the particular portfolio which you have entered today. A similar portfolio with a lower NAV will grow as fast or as slow as this one since the underlying portfolio is the same.
  • Unlike a dividend declaration from corporate earnings, dividend declaration from a mutual fund is actually a part of the NAV being returned to you. Investors should be aware of this difference while evaluating the performance of a fund.
  • Lastly, some people tend to reveal details of their financial portfolio and worse hand over documents to anyone who appears to be knowledgeable about the subject. Never do so before verifying the credentials of the person.

It is indeed in this spirit of caveat emptor that mutual funds put a disclaimer—“Mutual fund investments are subject to market risk, please read the offer document carefully before investing”—this is more of a request to investors to read the contents of the documents on offer rather than trusting their perception or instinct. Be careful about the above mistakes that any one might make–and the returns will automatically follow.

By Vikaas M Sachdeva, Country Head–Business Development