InvestorQ : Which are the points to be considered for buying mutual funds or can say best indicators?
Indrajeet Kashyap made post

Which are the points to be considered for buying mutual funds or can say best indicators?

Anushri Vasa answered.
1 year ago
There are very few well-defined parameters to measure good mutual fund performance. And it is very difficult to get the correct combination of all the necessary parameters in one mutual fund.   Nevertheless, having a list of important criteria makes the search a lot easier and effective. Some of the important parameters one needs to look into are as follows:  

Fund management team: A check over the experience of the fund management team may ensure that you give your hard-earned money to incompetent and deserving hands. The more experienced the fund manager, the higher chances of generating alpha (returns over and above the benchmark).

Alpha: This is the measure of a portfolio’s return versus a specific benchmark, adjusted for risk. The most common benchmark in use – and the one you can assume is used unless otherwise noted – is the S&P 500. An investment with alpha greater than zero has provided more return for the given amount of risk assumed. A negative alpha – less than zero – indicates security that has underperformed the benchmark; it has earned too little for the risk assumed. Investors typically want investments with high alphas.

Fund house pedigree: When you invest in a mutual fund, you are trusting the fund house to manage your money. This is why the pedigree of the fund is important. Decisions taken by the fund house and the fund manager may have a direct impact on your investment's performance and the realization of your financial goals. Hence, it is important to do a check on the fund house, history of existence, track record across schemes before selecting a scheme.

Past performance: Knowing how a fund has performed in the past can’t tell you how the fund will perform in the future, but it can tell you how the fund compares to other funds with the same investment objective. Ideally, you should review a fund’s performance for a couple of years and how it performed in different market conditions.

AUM of the fund:  Assets under management are the overall market value of assets/capital that a mutual fund holds. AUM is an indicator of the size and success of a fund house. One can easily compare its assets under management in various timelines and market phases performed as opposed to its peers. The AUM-value also includes the returns that a mutual fund earns. The asset manager can invest this in securities, distribute to investors as dividends or hold as per the investment mandate.

Beta: This is the measure of an investment’s volatility to another market index, such as the S&P 500. Volatility indicates how likely security is to experience wide swings in value. If beta is 1.0, the investment moves in sync with the S&P or experiences a measure of volatility similar to the S&P. If beta is positive, the investment moves more than the index; if negative, the investment is less volatile than the index. For example, a beta of 2.0 projects a movement two times that of the market. Assuming a market price change of 15%, the investment could move 30% up or down. Conservative investors typically prefer investments with low betas to reduce volatility in their portfolios.

Sharpe ratio-   This ratio shows how much extra return you receive for the additional risks you undertake. It is a rule of thumb that higher risks must be compensated more. Moreover, you deserve a reward (excess returns) for the added volatility. Sharpe Ratio tells you how much exactly that reward should be. The underlying premise is that an investor should receive a higher return if he assumes more volatility in his portfolio. Theoretically, the higher the ratio, the stronger the portfolio’s return has been relative to the risk taken. A ratio of 1.0 indicates that the return was what should be expected for the risk taken, a ratio greater than 1.0 is an indication that the rate was better than expected, and less than 1.0 is an indication that the return did not justify the risk taken.

Turnover ratio: The fund’s manager can decide when to sell off underlying investments and add new ones to the fund. The rate at which this buying and selling occur is known as the mutual fund turnover ratio. This is represented by a percentage and the higher the percentage, the more frequently a fund’s assets turn over. As a general rule of thumb, it’s more common to see higher turnover rates with actively managed mutual funds or hedge funds. The mutual fund turnover ratio is expressed as the rate of change over the course of a year. So, for example, if a fund has a turnover ratio of 50%, that means half of its investments were sold in the previous 12 months.