Plans are made to reach goals and they should be reviewed regularly so that the goals are achieved without any mishaps. If your financial goal requires investment in different asset classes, then the performance of these asset classes needs to be reviewed.

But when should an investor start worrying about his fund performance?

The 4 Ps

Negative returns are not the only reason to review the fund. Returns are the end result of a process to achieve a stated goal. The cause of worry could be deviation from the stated goal and deviation from the stated process. Following are the 4Ps one should evaluate before choosing a fund or a manager:

People : What is the background of the people who are managing the money or running the business? What is their experience?

Philosophy : Check whether there is a clearly defined philosophy across all market situations or is the manager only a “recent bull market” manager?

Process : What is the research and investment process and how reliable is it?

Performance : Given the process, is the performance as predictable as it should be?

A change in any of the above should worry the investor.

While evaluating a process, the investor should understand the philosophy followed by the fund house, the kind of stocks the fund buys, the amount of trading/churning it does and the discipline it follows.

The investor should pay attention to the portfolio construction process and the characteristics it exhibits over long periods. If the mandate was to manage the portfolio with a value philosophy, then the question to ask is “Does the characteristic reflect a value style?

Process or methods used to avoid problematic stocks could be another area of focus. Focusing on the expense ratio of the fund or the distribution strategy of the fund could lead to further insights.

Significant changes to any of the above processes could have a bearing on the performance of the fund.

Another situation that should prompt investors to review their choice is when the fund's recent good performance brings in additional investments from investors . Nothing wrong in being a part of a well-performing fund, however, investors must consider whether the fund has the capacity to deploy and manage the additional inflow .

Portfolio pattern

The performance of the fund will deteriorate if the fund starts to receive assets much beyond what it can handle. The kind of stocks a fund manager chooses for the fund will dictate the capacity of the fund.

Did it own more small-cap stocks when the fund size was small and more large-cap stocks when the corpus became big?

A mutual fund house that is focused on growing its assets will not really care about “capacity” .

You now need to focus on the investment processes and the disciplines of each mutual fund product that is offered to you. You need to ensure that the funds you buy have the investment objectives that match your needs.

Situations to look out for

Check if there is a change in the management of the mutual fund and as a result there is a change in the fund management team. However if the fund management team does not change for at least three years after the acquisition, you are safe to carry on with your investment in the mutual fund.

If the new buyer starts launching a series of new products — even though the fund management teams remain in place for three years — then be careful.

If there are changes to the independent members of the Boards of the Trustee Company or the AMC, understand why those changes have taken place.

It is important to follow simple pragmatic solutions that can save your valuable investments from getting into the wrong hands.

(The author is Director, Quantum Asset Management Company Private Ltd)

Queries may be e-mailed to >mf@thehindu.co.in

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