Ritwik Chopra (name changed) started investing in mutual funds after hearing about it from his friends. He asked them to tell him the names of the funds they had invested in and he subscribed to SIPs in the same funds. After a few months he realized that some of the funds he had invested in carried very high risks – far more than his risk-taking abilities and a sudden need for funds forced him to liquidate his expenses. at a time when the markets were performing badly. thus causing him to suffer enormous losses. The experience left a bitter aftertaste and Ritwik, fearing more losses, withdrew his investments from other funds as well.
Such investment stories are unfortunately not uncommon as they are symptomatic of the most common mistakes made by retail investors, especially those who are new to investing. These mistakes usually fall into investor blind spots and can be easily avoided by exercising caution. Here are some common mistakes you should avoid as a mutual fund investor.
Invest without goals or deadlines
Investing in mutual funds without having a specific goal in mind is much like driving without having any destination in mind. Unless you are clear about the purpose of your investment, you will not be able to envision how much capital you want to accumulate through the investment, how much you would have to invest at regular intervals, and how often you invest. In addition, investing without a defined goal also makes it more difficult to accurately assess whether the performance of an asset class is stable enough to generate returns within the stipulated time frame of your goal, as there is no point in own an investment that can derail the achievement of your goal. of a few years. Goal-based investing helps you define the risks you can take and goals serve as a benchmark to stay disciplined and on track with your investments.
Lack of research
It is tempting for many of us to just copy and paste and choose funds based on our perception of the fund’s performance. However, the problem is, one man’s meat could be another man’s poison. It is important to avoid the temptation to take such shortcuts and do your own research before choosing a fund. Judging a fund simply by looking at a mutual fund’s rank or past performance is not enough. As an investor, you should ask yourself questions such as: what is the nature of the fund (is it heavily equity-oriented or tooth-oriented), what is the risk factor, who is the manager of the fund and what is its performance history, how has the fund performed during downturns, what is the expense ratio? Collecting all of this information is crucial to making sure the fund is right for you before you start investing. Getting caught up in the buzz in the market can prove to be a costly mistake in the long run.
Investing in too many or too few funds
If there is one axiom that all investors should always remember, no matter where they are in their investment journey, it’s that âPutting all your eggs in one basketâ is perilous. In the investment world, this just means that you should avoid putting all of your money in one basket as it makes you overexposed to risk. For example, consider the situation where an investor dumped all of their savings into high risk equity funds. Now, if the markets enter a slippery slope, the risk of losses will increase and the investor could even incur significant losses. Now, if the investments had been spread across different asset classes, the non-equity component of the portfolio would have acted as a shock absorber and lessened the impact.
Alternatively, there are many investors who tend to over-diversify their portfolios and even this can be a recipe for disaster. Managing too many funds and keeping an eye on the performance of all funds can prove to be a nightmare and you could end up with funds in your portfolio that may not suit your goals and risk appetite.
Ignore inflation overall
If you are still learning how to navigate the investment world, you should always consider inflation when analyzing the performance of an investment vehicle. Inflation is pretty much the elephant in the room, but it’s a cardinal sin to ignore its impacts on investments. This is because inflation erodes the value of money – you would not be able to buy the same quantity and quality of goods for â¹100 that you could have bought five years ago because the value of the rupee was then much higher than it is today and it will be even less in a few years. In a nutshell, inflation reduces the purchasing power of the rupee and this also impacts your returns on your investment. For example, if you invested in a fixed deposit that offers an 8% yield and the prevailing inflation rate is 5%, your effective investment returns would hover around the 3% mark; a number much lower than you would have expected if you had not taken inflation into account. Therefore, considering the effect of inflation on your fund’s returns is an essential exercise, as investing your money in an investment that is unable to beat inflation defeats the purpose of the investment.
Key points to remember
â¢ Goal-based investing helps you define the risks you can take and goals serve as a benchmark to stay disciplined and on track with your investments.
â¢ Gather all the information and research to make sure the fund is right for you before you start investing. Getting caught up in the buzz in the market can prove to be a costly mistake in the long run.
â¢ Many investors who tend to diversify their portfolios too much and even this can be a recipe for disaster. Managing too many funds and keeping an eye on the performance of all the funds can be a nightmare.
â¢ Considering the effect of inflation on your fund’s returns is a necessary exercise because placing your money in an investment that cannot beat inflation defeats the investment objective.
Disclaimer: This article is part of the HT Friday Finance series published in conjunction with Aditya Birla Sun Life Mutual Fund.