Myths about Investing in Mutual Funds

This article deals with the myths about investing in mutual funds.
Myth No:1. It is better to invest in a scheme with Rs.10.00 as NAV (Face Value) than investing in an existing scheme with NAV Rs 14.00

let us consider that the the NAV appreciates from Rs. 10 to Rs.11 and the NAV of Rs. 14 to Rs. 15.40; Now the appreciation in both schemes are identical - both has given 10% increase only. Identiacl schemes in the same period gives identical returns. So the crux of the matter is not the NAV per se but whether the schemes are identical in all aspects!! The NAV shows the realized performance. So please do not penalise good performance by fund managers.

Myth No:2. Long term investments give good returns. So one needs to buy & hold only.

Even if the investments are made on a long term basis, one needs to periodically, at least once in an year, review the performance of the fund & one's dsireability in holding it further in view of changes in macro-economic factors as also personal life goal shifts. Again, it is the aggressive growth stage of mutual funds as far as India is concerned. So it is possible to have mergers & acquisitions happening in a big way. It could be scheme mergers of the same fund family, or between funds. There is also need for updating the change of address/bank account as th einvestor changes residence/bank etc.. Some times, the fundamental attributes of the scheme is altered by the fund providing information to the investor. So it is in the interest of the investor to annually once see what is happening on his investments, whether he should continue holding or change course.
Myth No:3. (Systematic Investment Plan)SIP is a panacea for anythng & everything.

Some people belive that SIP is a cure for all investment needs. SIP is only a beginning. As you earn, you save. But, to translate it into life goals is really amatter of concern. The cash flows at the time of requirement should be sufficient to meet the life goals. The decisons about SIP is concerned with
How much amount?
What periodicity?
Which fund?
Which scheme?
What period?
What frequency?
This is where more thoughts needs to go.

Myth No: 4. Index funds do not give good returns. Fund Managers do not manage it.

Index funds give returns equivalent to that of the Index being tracked. If BSE sensex is tracked by the fund as taht in Master Index fund of UTI MF, both should give same returns in the same period. It is achieved by the fund manager by mimicing a portfolio as taht of the index. Ofcourse, the fund manager's skills are to the extent of manging the dividends/bounses received, always maintaining the portfolio composition as that of the index. Therefore operating expenses are kept low. Not much is spent for portfolio selection as well. In totality, one can say that, these low cost funds are best suited for common man looking at taking same risk as that of the market.

Myth No: 5. Dividend Scheme is better than the growth scheme.

This is like the bird-in-hand policy. You do not know what will happen in future. So whatever is got, fine. To put it scientifically, one Re. received today is more valuable than same recevied/ receivable later. The capital appreciation translates into money ony when one repurchases the units. A dividend declared is ready money. From the point of view of taxation, capital gains are non-taxed. Dividends are subject to dividend distribution tax for debt funds at the aggregate level but not in the hand of the individual. Nevertheless, take a learned decision.

Nifty Index NAV (Rs per Unit)
Dividend Growth
3900 15 15

4250 18 18

Dividend 3 0
15 18
3900 12 14.4

investor got 12+3=15 14.4


Myth No: 6 Diversification reduces risk. An investment into an equity scheme provides adequate diversification. So I need to invest only in that scheme alone to ensure required diversification. Put differently, how much diversification is adequate diversification?

The books say that if one is holding about 15-20 scrips, it is adequate diversification. Most of the mutual funds have portfolios larger than that. So if one buys into a scheme of a mutual fund, it is correct diversification, going by the books. Now what are the risks that one is open to? the strategy/style/asset allocation of a single fund manager. Therefore, it is advisable to have some 3-4 different funds in your investment portfolio.

Have a look at the original malayalam version in Business Manorama dated February 12, 2007