Choosing movies and mutual funds
Choosing the right mutual fund scheme will have healthy consequences, but choosing the wrong one can prove disastrous. Making the most suitable choice is not a simple task
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Those who have subscribed to Netflix or Amazon Prime know it is relatively easy to start, but I’m hoping you also relate to my muddled state of mind soon after subscribing. Technology is a boon, but it doesn’t always lend you the skill to master multiple choices. Making the right choice is where I got lost.
The new television came with built-in access to an array of service providers like YouTube and Netflix. The luring into the digital library of movies, documentaries and sitcoms wasn’t immediate, but happened soon; a month’s free trial sealed the deal.
All was well till we encountered the problem of too many movies and shows. The first few times, nearly an hour was spent just scrolling through titles, despite organised categories. Unable to stop at the first good one, we kept switching to see if there was a better one. This invariably ended in us turning the television off without choosing even one show.
This made me wonder: is it Netflix or is it me?
Even restaurant menus confuse me. If it’s a restaurant I have visited often, I tend to go through the menu each time but order items I have tasted before. That brings us to why we are discussing the dilemma of choice.
Making investment choices like picking a mutual fund scheme also entails the task of exercising choice. While I find it far easier (than picking movies) to choose 4-5 schemes from the 400-plus diversified domestic equity funds out there, it is not something I see people around me being very comfortable with. Of late, this ability has proven useful as many friends needed help with their investments; mostly advice on how they can build a reasonable basket of investments for their children’s higher education.
The last leg of such discussions is usually about which products to pick. This is where choice comes in. Pointing them to aggregator websites or naming the top five fund houses and asking them to pick from there seemed futile, since for most this would be their first tryst with funds.
The simplest option was to give them the selection of funds I use for my long-term allocation and hope it works for them too. It has taken me 13 years of working with and writing about mutual funds to reach this level of decisiveness in fund selection. It would be careless of me to assume that they will know exactly what to pick.
Is an ABC Top 100 Fund better than XYZ Growth Fund? How does one compare them?
Let’s go back to Netflix for inspiration. It has a rating for each of its reels and automatic recommendations based on your previous selections. But you may not always like the 5-star rated movie or you may like something that was rated 1 star.
There are independent ratings for mutual fund schemes too. And as with movies and shows, you need some familiarity with mutual funds before you can sort through the different categories and ratings. But that familiarity takes time to develop. In the meanwhile, how do you choose the right category of funds for yourself? Or, more importantly: how do you choose between two funds in the same category, which have the same rating?
You could look at their past performance. But that path is not a smooth road either. Out of 40 (open-ended) large-cap equity funds, 33 have beaten their benchmarks in 5-year performance, but the difference in performance of the topmost and the bottommost (out of the 33) funds is a staggering 7% annualized. Data for 10-year performance shows a similar picture. And you have to choose wisely: with the wrong movie, at worst you lose some time. But the wrong mutual fund selection can cost you lots of time and money.
So how does one select a fund out of so many? To a large extent some of the overlap is getting addressed with the capital market regulator stepping in to nudge asset managers into merging similar schemes. This reduces multiplicity—schemes from the same manager can often be similar in construct but packaged under different names. As manufacturers of these schemes, asset managers will continue to launch new ones. So, the onus is on the investor to make effective choices.
Choosing a handful of schemes from hundreds is laborious and requires specific skills for the result to be reasonably effective.
Luckily, the skill can be learnt, and many do. In fact, there are professionals called registered investment advisers (RIAs) who have been good at it for a while. RIAs are registered with the Securities and Exchange Board of India (Sebi), so there is a standard to go by. There are other advisers and financial planners too who can guide you through this task in a manner that is most productive for your needs.
Advising can come from many different types of ‘advisers’. There are those, both physical and digital, who work for you and for which you compensate them. There are also some distributors and bank relationship managers, who may speak to you as advisers. You need to verify that their efforts are indeed towards your benefit and not for their own extra revenue.
After watching Netflix for a few months, recommendations now appear for the next shows with explanations that go something like: ‘Because you watched The Big Short.’ The title being recommended may, however, be a sci-fi action thriller. It’s not the right suggestion for me, but it makes me feel there was some personal attention.
You can’t take the same chance with your money. A conscious effort is needed to get your fund selection right. This effort is less in understanding the shades of a particular scheme and more in finding the right adviser.
Lisa Pallavi Barbora is a consultant with Mint.