Assessing Portfolio Performance Is Imperative

Hemant Rustagi
CEO, Wiseinvest Advisors

Retail investors usually face trouble with taking an ‘exit’ call on their investment and end up selling in haste or making the wrong decisions. Asset allocation should thus be a crucial aspect of every portfolio, says Hemant Rustagi.

Investors usually have to make two major decisions with regard to their investments - when to buy and when to sell. While a disciplined approach of regular investing can take emotions out of investment decisions, making a sell decision is always tricky. That’s why it is very important to invest with a clearly defined time horizon as it helps in avoiding abrupt selling decisions. The key for every investor is to maintain asset allocation at all times since it determines the level of risk one is exposed to.

It is quite common to see investors allowing their portfolio to ride when the going is good. However, many of them panic when faced with volatility. It is no wonder then that they either sell in haste or continue to hold on thinking that they will get an opportunity to sell at higher levels later. In both cases, they ignore the need to maintain their asset allocation. In other words, both these strategies expose them to different types of risks. It is therefore important for investors to have a strategy for making selling decisions. 

One such strategy is to rebalance the portfolio periodically. Rebalancing is a method by which you can bring your asset allocation back to the original level. It is necessary because every portfolio is designed to achieve the desired results at an acceptable level of risk. By doing nothing, you will violate this premise and get exposed to higher risk. However, book profits only when the exposure level deviates by say 10 per cent or more.

Similarly, if you desire to book profits periodically, but are not sure when and how to do it, opting for a dividend payout option can be an ideal way of doing so. Considering that equity and equity-oriented funds generally pay dividends once a year, you don’t have to worry about timing the markets. Besides, the tax-free status of dividend makes the whole exercise quite tax efficient.

Another important aspect that can help you make the right selling decisions is to assess the performance of the portfolio properly. While every investor would expect a decent performance from his investments, to figure out whether it is actually happening or not is not always easy. Investors often get disillusioned by the negative returns of equity funds. However, negative returns from a portfolio can’t always be attributed to its poor performance. For instance, even a quality portfolio is likely to deliver negative returns during market downturns. Similarly, even a mediocre portfolio can deliver decent returns when the markets are doing well. Therefore, you must focus on long-term performance and not base your investment decisions on short term performance.

Besides, you need to assess the performance in the right manner. For an equity fund, you could compare its performance with the benchmark as well as the peer group. An equity fund has an index like CNX 50, CNX 100 or CNX 500 as its benchmark. Similarly, for funds investing in debt securities, there are benchmarks like Crisil Composite Bond Index, Crisil Short-term Bond Index and I-Sec Si-BEX. Gold savings funds are benchmarked against the price of physical gold.

A comparison with the peer group is important because quite often a particular category of funds may either out-perform or under-perform the benchmark. In such a scenario, the peer group comparison helps in identifying better managed funds. 

Consistency in performance is another key factor. Beta of a fund indicates how much it will rise or fall in relation to the changes in its benchmark index. If the fund has a beta of 0.95, it represents that the fund will go up (or down) by a factor of 0.95 for every one per cent change in the benchmark index. The consistency in returns is measured by standard deviation. 

Another crucial element in this process is total return. The total return is the sum of two components — dividend/interest and capital appreciation. In other words, total return is the sum total of what an investment earns over a period of time from his investment. It can be presented either as cumulative growth or as compound annual growth rate (CAGR). However, to get the true picture, one must rely on CAGR as cumulative return does not reflect the true picture. For example, a fund with 10 years cumulative return of 100 per cent may not have given a CAGR of 10 per cent.