- The investors and the distributors should avoid ad-hoc investment decisions and instead follow a well thorough out plan suited to the investor needs
- Most experts are now agreeing that on of the most effective ways to invest through MFs is to develop a model portfolio for each investor.
- It is also extremely important for the distributors to know how to choose a particular scheme or set of schemes from all of the options available
Equity Funds Characteristics:
- Fund category – the fund chosen should be suitable to investor objective
- Investment style – choose between growth and value depending on investors risk perception
- Age of the fund – experienced funds are preferred to new funds
- Fund Management Experience – track record of the fund managers is important
- Size of the fund – larger funds have lower costs
- Performance and risk – risk adjusted performance matters
- High beta means higher risk
- High turnover means high transaction costs
Risk Statistics:
- Beta – represents market risk, higher the beta higher the risk
- Ex-Marks – represents correlation with markets – higher the ex-marks, lower the risk. A fund with higher ex-marks is better diversified yield should be preferred.
- Gross dividend yield represents return. Funds with higher gross dividend yield should be preferred.
- Funds with low beta, high ex-marks and high gross dividend yield are preferable
Money Market Funds:
- Liquidity and high turnover rate is high.
- Shorter-term instruments are turned over more frequently
- Protection of principal invested is important
- NAV fluctuation limited due to low duration and lack of interest rate risk
- Credit quality of portfolio should be high
- Low expense ratio is important
Jacob’s 4 Step Program for Developing a Model Portfolio:
- Work with investors to develop Long Term Goals
- Determine the Asset Allocation of the investment portfolio
- Determine the Sector Distribution
- Select Specific Fund Managers and their Schemes
Recommended Investment Portfolio as per Investors 5 Life Cycle Phase:
- Investor in the Accumulation Phase (age 25-30)
- During this phase, clients are looking to build wealth because their financial goals are quite some time away and investments can be made for the long term
- Recommended Portfolio for this phase: Equity (65-80%); Gilt (15-30%); liquid fund (5%)
- Investor in the Transition Phase (age 30-50)
- During this phase, one or more of the clients goals are approaching
- Example (1) a salaried executive is planning to retire at 60 years of age, he should start preparing about 3 years in advance by gradually transitioning from growth to income generating investments. Example (2) a couple in their mid 40s who have children approaching the age of higher education or marriage.
- Investor in the distribution or Reaping Phase (age 50+)
- This is the cashing out stage. For example, if the client has retired, investments need to generate income for as comfortable post retirement life
- Recommended portfolio for this phase: Equity (15-30%); Gilt fund (65-80%); liquid fund (5%)
- Investor in the Inter-Generational Transfer Phase (Older age)
- This phase belongs to older investors who wants to transfer their wealth
- Recommended Portfolio for this phase is depends upon the beneficiaries given as follows
- Children: Balance of Growth & Income Funds
- Grandchildren: Growth Fund for Long terms
- Charitable Causes: Income Funds
- Investor in the Sudden Wealth Stage: Keep money in liquid fund and plan for financial planning as per investor’s objective and need without failing to keep in mind about taxes.
Financial Planning for Affluent (High Net worth Individual (HNI)) Investors:
There are two classes in Affluent (Wealthy) Investors
- Wealth Creating Individuals:
- Such investors have a higher risk bearing capacity
- Recommended portfolio is 70-80% in diversified equity and rest in sector funds
- Wealth Preserving Individuals:
- These are low risk bearing capacity class investors
- Recommended portfolio should be conservative like 70-80% in income, gilt and liquid funds and rest in diversified equity or balanced fund
Bogle 4 step advice for selecting right equity fund:
- Classify the available equity schemes
- Choose one of the strategies
- Evaluate past returns of available funds
- Review the salient features of a scheme
Equity funds characteristics:
- Cash Position: Theses are nothing but holding cash position in liquid format by fund manager and depends upon the fund manager skill by prediction of market. Like in up market holding cash and investing in down market.
- Portfolio Concentration: Fund largest top tem holding and their proportion in scheme
- Market Capitalization of the fund: The holding scripts are large or mid or small or mix and ultimately decide the level of risk of fund.
- Portfolio Turnover: Frequent sales and purchase in portfolio means higher transaction costs
Portfolio Statistics:
- Ex-mark
- Beta
- Gross Dividend Yield
3 Steps for selecting right Debt/Bond/Income funds:
- Narrow down the choice
- Know your investor objective
- Determine the right selection criteria and select following:
- Fund age & size
- Relative yields
- Costs
- Portfolio Characteristics
- Average Maturity
- Tax Implications
- Bonds versus bond funds
- Past returns
Selecting Right Money Market / Liquid fund:
- Following are factors needs to consider for selecting right liquid/money market fund
- Costs
- Quality
- Yields
Selecting Right Balanced Funds:
- There are two basic types of equity oriented balanced funds that invest
- Investment in equities up to 65% and
- Investment in debt up to 65%
- Hence for selection of balanced fund portfolio we need to think equity as well as debt selection steps approach
- Select balanced fund by looking at following factors:
- Portfolio Balance
- Debt Portfolio Character
- Costs
- Portfolio Statistics
- Returns
Selecting Right Equity Funds:
- Percentage holding in cash should be low – Funds can always sell liquid stocks for liquid requirements
- Concentration in portfolio should be low – An equity fund should be well diversified
- Market Capitalization of the fund – High capitalization means better liquidity
- Portfolio Turnover – Higher turnover means more transactions and costs, but exploitation of opportunities. Low turnover represents patience and stable investments.
Selecting Right Debt Funds:
- A smaller or new debt fund may not necessarily be risky
- For debt funds expenses is important
- For short-term investors, load is more important than expense ratio
- Total return rather than yield to maturity (YTM) is important
- Expenses are very important because high expense ratios lead to yield sacrifice
- Credit quality – Better the ratings of the holdings, safer the fund
- Average Maturity – Higher average maturity means higher duration and interest rate risk
- Funds with higher average maturity are more risky than funds with lower average maturity
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