Does the size of the mutual fund affect fund selection

The ultimate aim of investing is to generate adequate returns to meet your financial goals. Your affordability as an investor, the individual risk appetite, investment horizon, returns expected and various other factors affect fund selection. Does fund size play a similar role?

Let’s understand if the size of a mutual fund is indeed an important factor that can affect your choice of fund.

Defining mutual fund size

The size of a mutual fund is defined as the asset under management (AUM) or the total amount of money that the fund manager needs to oversee and invest. AUM pertains to the total market value of all the securities held by the fund on behalf of the investors.

The value of the AUM changes on a daily basis. When new clients invest in a scheme or the market value of asset increases, the AUM expands. In the event where some investors exit the scheme by liquidating their investment, the AUM shrinks. The judicious use of the AUM by the fund manager is a big factor in determining the success of the mutual fund.

Does the size of a mutual fund impact the performance of a fund?

There is a general belief among investors that the size of the fund affects its performance. Many investors believe that the bigger the size of the AUM, more will be the funds at the disposal of the fund manager. This means that it will allow him to have a considerable amount of leverage to take strategic decisions.

As per market experts, there is no correlation between the AUM and the performance of the fund. They believe that the AUM can instead be used to identify funds with higher growth potential.

What is the ideal size of a mutual fund?

There is no definite answer to this question because it is not possible to estimate a figure that can be termed as ideal for a particular fund. The best possible technique is to compare the fund with other funds within the category to ascertain the most suitable fund.

If the fund size grows excessively or shrinks too much, it will adversely impact the performance. Therefore, an inappropriate size of AUM is one which adversely affects the fund performance.

For instance, let’s assume that a new equity fund scheme becomes extremely popular with the investors and attracts a high number of subscriptions. In this scenario, it is possible that the fund size might grow to such proportions that it becomes unmanageable. As a result, the fund manager would be under pressure to produce returns similar to returns produced in the past. He/she may invest in securities that are not aligned with the mandate of the fund. If this continues, the fund returns might start resembling an index fund.

Similarly, if the AUM is smaller as compared to others, it will render the fund vulnerable to any volatility in the market. As a result, investors will start liquidating their investments, and the entire fund might be at risk.

Should you consider the size of the mutual fund while selecting?

While selecting a fund, you may consider its AUM. However, sometimes funds with smaller AUMs deliver better returns as compared to others with a larger AUM. But in addition to the AUM, you need to examine other parameters as well. These can be the fund manager’s track record and the past performance of the fund in the long run.

You should refrain from funds that deviate consistently from their mandate as well as those whose AUM is shrinking. Having a balanced approach is crucial for your investment to grow and that is what you must strive for it.