In our interaction with clients, we have noticed two things -- an inexplicable draw towards NFOs (new fund offers) and the need to populate the portfolio with as many mutual fund schemes as possible. In our view, both these are fallacies that could prove fatal to the investor's long-term financial health. Everything that glitters is not gold and there isn't always safety in numbers. To address the 'NFO Menace' (we could not find a term more apt than menace given that most NFOs do more harm than good), we recently wrote an article on how most investors are forever looking for something new to add to their portfolios. Unfortunately since NFOs are perceived (in reality, most are recycled versions of existing funds) as new and they come at an 'extremely cheap NAV (Net Asset Value) of Rs 10', they command a lot of investor attention.
In this case study, we discuss the case of a client our team of financial planners met recently. His case was typical of what we have seen with several clients -- too many mutual fund schemes competing for space in the portfolio. The client under question had 15 equity funds. While that may not sound like a huge number of funds to some visitors, in our books, 15 equity funds are way too many for any individual, who treats investing as a part-time activity, to track competently.
So when we saw our client's 15-fund-strong portfolio (which was more like a 15-fund 'fragile portfolio'), after carefully understand the client's need and subsequently considering each scheme, we asked him to do away with most funds. There were mainly two reasons for this -- one, some of the funds did not add any value to the portfolio and only overlapped with other funds and two, many of the funds were not well managed and were nowhere close to meeting Personalfn's rigorous fund selection process.
Having 'cleaned' his equity fund portfolio of all the niche funds and non-performing funds, we recommended what can be termed as an Ideal Portfolio (of Equity Funds) to the investor. This ideal portfolio had 6 funds; yes, only 6 from hundreds of equity funds. The reason for our 'stingy' selection approach is that there just isn't need for all the fancy themes and ideas being marketed by fund houses. The average investor does not need more than half a dozen funds embracing the broadest investment styles. When you have funds with broad investment mandates, you can do away with funds with niche investment mandates.
More and more funds only bloat your portfolio without adding sufficient incremental value. Ultimately, there is a cost associated with mutual funds, both in terms of money (entry loads) and time (remember you have to track these funds regularly; in most instances your agent will disappear once he sells you those duds).
As Warren Buffet, the renowned investor once said, 'Diversification is a protection against ignorance. It makes very little sense for those who know what they are doing.' In other words, if you are certain about your mutual fund investments, you do not need to diversify impulsively; rather you just need to pursue a focussed mutual fund strategy with the best fund picks. Given the nature of this discussion, in time, we plan to address this issue through a dedicated article.
The ideal portfolio that we selected had funds that rank high on sponsor credibility, fund management philosophy, investment approach and processes and performance. These are the funds that have met and continue to meet our demanding fund selection processes over the years. In a nutshell, the key traits of the Ideal Portfolio included:
A good mix of large cap/mid cap/flexi cap funds and value style and growth style funds. The idea is to give the investor the broadest investment mandates and styles so as to achieve maximum results with the minimum of funds.
There are no sector/thematic funds in our portfolio.
All AMCs (Asset Management Companies) that manage the funds in the Ideal Portfolio have close to 10 years of experience in the fund management business.
Over the years, the funds in our portfolio have consistently outperformed their benchmark indices by pursuing well-defined processes. Put simply, this means that they adhered to their investment mandates, performed well across market phases (particularly the downturns) and had no surprises for investors either during an upturn or downturn.
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