Mutual Funds Unlocked: Fundamental analysis of funds
Whenever we talk about the fundamental analysis, the first thing that comes up in our mind is equity shares. Nevertheless, mutual fund schemes can and should be fundamentally analysed. Despite all the hue and cry about mutual funds investment performance, many of them have performed better than their benchmarks except for large-cap funds. Despite such out-performance of the funds, portfolios of most of the investors have witnessed a sharp underperformance. One of the reasons for such diametrically opposite performance is the way you have constructed your portfolio. It may happen that you have invested in the best of the funds; however, in the process, you have made a bad portfolio. For example, you have constructed your portfolio based on one of the articles published in one of the best news daily on personal finance, maybe with a heading ‘Five Best Funds To Buy Now’. Chances are high that you might be having the same kind of funds in your portfolio. And hence defeating the very purpose of good portfolio management, which argues ‘do not put all the eggs in one basket’.
Since you are investing in five different funds, it may give you an illusion of diversification; however, if you dig deep you find all the funds are closely correlated and are investing in the same set of companies. Therefore, if one fund performs badly others also follow as they have invested in similar companies. Funds selected on the basis of ‘Best of last year’ will perform as long as the current market trend remains in motion, but once the tide turns, the entire portfolio will sink. This is what exactly happened in the year 2018 when looking at last year performance many naïve investors got overexposed to small and mid-cap funds.
Therefore, fund selection should also be forward-looking and not backward looking. This means it should be selected based on its expected returns and not the historical returns. Therefore, funds selection should be focused more on fundamental analysis. Besides, you should also understand what role a fund plays in your portfolio.
The fundamental analysis should start with the type of securities that form the part of the funds. Each share has a distinct character in terms of growth and value. Check how all these shares' character sums up and give character to the fund. Check if it meets your needs and investment style. If yes you can invest. Moreover, the fund needs to be constantly monitored to check if it maintains its fundamental character.