Mutual funds are an ideal investment instrument to generate wealth over a period. However, mutual funds could be subject to various market risks. For instance, they could be influenced by inflation risk, liquidity risk, fund manager’s risk, interest rate risk and so on.
As an investor in a mutual fund scheme, it is crucial to keep an eye on underperformance and the reasons behind it. For example, in a mutual fund scheme, look at the rolling returns and compare its performance with the benchmark index and risk-adjusted return. If it has underperformed for a span of two-three years, then an investor needs to rework their investing strategy.
It is important to understand the difference in factors, which could be related to market or fund manager-led underperformance. An investor needs to understand the reason for underperformance which could be influenced by the change in the investment style of a particular fund manager. Referred to as style drift, it occurs when a fund manager deviates from the stated philosophy. The reason for underperformance could be temporary or structural. If it is the latter, then an investor could look forward to exiting the fund.
Any investment in equity mutual funds through a systematic investment plan (SIP) involves a long-term strategy. A low phase of one or two years should not be a reason to worry for an investor.
However, an exit strategy should be adopted only after due diligence and shouldn’t be a hasty decision influenced by short-term market fluctuations.
As an investor, it is important to keep the focus on long-term financial goals, risk appetite and investment time horizon. In case of any doubt, it is important to reach out to the fund house and gather their perspective on the underperformance.
The final decision to exit should be based on discussions with a professional fund advisor and after taking into consideration tax implications as well as fees, which are associated with the selling of mutual funds.
Rajiv is an independent editorial consultant for the last decade. Prior to this, he worked as a full-time journalist associated with various prominent print media houses. In his spare time, he loves to paint on canvas.