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If you have been an eager investor in the recent spate of new fund offers (NFOs), you may find yourself owning one too many equity mutual funds.

While the theory of diversification rightly states that one shouldn’t put all the eggs in one basket (to be read as all your money in one fund), how many funds are enough? Do you need five or 15 diversified equity funds in your portfolio?

Financial planners are unanimous in saying that there is no formula to decide how many funds an investor should have in her portfolio. Data shows that the average returns for a portfolio of equity funds is more or less the same whether you hold five or 45 funds (see table). This shows that adding too many funds won’t incrementally benefit your portfolio. Here are a few guidelines to follow while deciding the number of funds you need.

Don’t chase performance

If you dissect the performance of diversified equity funds over the past 3-5 years, you will find that every quarter, different funds are the top five performers (in terms of 3- and 5-year returns). What this shows is that no one fund can be the best or the second best and so on at all points in time. So, if you are buying based only on performance, you may end up adding a new fund to your portfolio every six months or a year.

At the same time, you can’t ignore performance. Suresh Sadagopan, a Mumbai-based financial planner, said, “Along with performance, you also have to consider the track record of the fund house and the fund manager in managing equity. A fund that is a top quartile performer at a stretch, for 10 or 20 quarters, is elusive."

According to Kartik Jhaveri, founder and director, Transcend Consulting (India) Pvt. Ltd, “The idea is to avoid duplication. One could look at a minimum of four funds split across various categories such as large-cap, mid-cap and sectoral funds. Look for at the most two funds in each category, so that you have some representation for all market situations and also the advantage of more than one style of fund management."

Don’t add a different fund to your portfolio just because it performed the best in a category based on the most recent performance measure. The more important consideration is the ability of the fund manager to remain true to the scheme’s mandate. “If a fund sticks to its defined objective in terms of its portfolio, it gives clarity on what kind of returns to expect. Then it’s less important whether it’s a top performing fund or the fifth from above," said Sadagopan.

Also, the difference in performance between two funds may not be enough for you to add an additional scheme. “For most long-term goals, 10-12% (per annum compounded annual growth) is good enough. So, investors need not scramble for the additional 1-2% difference in returns between two funds," said Sadagopan.

Link the fund to a goal

There is no need to buy funds from all fund houses and diversification can be achieved through exposure to 3-4 fund houses. The starting point should be your long-term financial goals—link your fund purchases to the goals. Based on this, and risk appetite, you can decide on an overall allocation between different types of funds. Sadagopan suggests that 3-4 funds within the large-cap category are good enough, while 2-3 within the mid-cap segment will suffice if needed.

“You can split the amount allocated for one goal into 2-3 funds, so that there is adequate diversification. Overall, there is no need to add too many different funds or fund houses as most products are similar across fund houses," said Deepali Sen, founder and director, Srujan Financial Advisors LLP.

Thus, a selection of 4-5 fund houses that have a good track record in managing equity assets, and then a limited selection of different types of funds with these can effectively meet your long-term wealth creation goals with adequate diversification.

Nothing new about NFOs

Recently, the spate of NFOs might make you think that you should add one or two new schemes to your overall portfolio, or that there may be a compelling theme you are missing. But not all NFOs have a new theme to offer. “If a NFO is replicating what’s already available in the market, there is no need to consider it. Consider investing in a new fund only if there is a theme that’s different from what you already own," said Jhaveri.

The focus should always be on what you are investing for—can a fund that has been launched today achieve your financial goals better than the funds you already hold?

Mint Money take

So, how many funds are too many? Anything between four and 10 funds is usually enough. You don’t need to add a new fund each time you invest. If the funds you hold already are performing well and you are satisfied with the overall experience, there is no need to change; just add incremental investments to the same folio. Administratively, too, it is easier to maintain fewer folios.

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