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In the previous article, we learned about the category selection process of mutual funds for your portfolio. In this article, we will learn about the process and key variables to consider for finding the right mutual fund from our selected categories. If you have not read the previous article, we strongly recommend you read it before moving forward. It will help you in understanding the whole process thoroughly. So without wasting much time, let's dive in!
We have already learned about the selection process of the preferred fund category based on risk appetite and time horizon. For selecting the right mutual fund from the shortlisted categories, we will use different parameters.
We will use the below-mentioned parameters to compare the mutual funds. On top of that, we will also learn about relative measures that we can use to compare mutual funds.
Let’s have a quick recap of what each parameter indicates.
On top of that, we will also look into how the fund is being managed by the manager and whether it is aligned with the investment goals of the fund. For that, we can look into the holding of the mutual fund and try to perform a comparative analysis.
Let’s take some examples of how you can define a framework for your fund selection process.
Let’s assume your age is between 25-30 and you have a steady monthly income (salary or from your business). You are not worried about short-term liquidity as you generate stable income and want to build a portfolio for long-term goals like a retirement fund. You are also comfortable with taking high risks in exchange for potentially higher returns in the long term.
From our earlier article, you can find suitable categories for you. Let’s say you decide to invest in flexi-cap funds as you have sufficient diversification in stable assets like FDs and Debt funds. Now let’s do some analysis to find out the right funds for you. We have done this analysis to show how you can screen funds. You can change screening parameters as per your preference.
We will see how we can use sharpely screening tools to identify the funds that fit our criteria.
We will be selecting the flexi-cap funds. For that, we will select equity: Flexi cap from the category section of the screener.
As we can see, from 1175 available mutual funds, we have come down to 70 funds.
From the selected category, you might want funds that have consistently outperformed their peers in the past. We will select funds in the top 25% based on their quarterly consistency. You can select quarterly consistency from the relative performance tab and select the top 25%.
As we can see below, we now have only 18 funds in our selection universe.
Now we will find funds that have outperformed their peers. We will use alpha for that and find out the top 25% of funds based on their generated alpha. You can use alpha from the relative performance section of the screener.
As we can see below, now there are only 5 funds left after this filter is applied.
Many investors are also concerned about drawdowns as they can impact the long-term returns of your portfolio. For that, we can find out funds with minimum drawdowns. We can use the max drawdown from the risk measure tab of the screener. We will select funds with the least drawdowns, as shown below.
After applying this filter, we are left with only 2 funds.
You can change the percentage value and use different filters as per your preference to modify our search.
Only 2 mutual funds qualify through our filters. Now we can compare them in detail using the sharpely mutual fund comparison tool. You can add multiple parameters and compare both funds in more detail.
The comparison shows that both funds have a similar level of volatility (We use standard deviation for this. Remember?). But Quant Flexi Cap Fund has a higher Sharpe ratio and alpha. You can also check factor scores. You can read more about it here along with many other parameters like maximum drawdown and P/E and P/B ratio of the fund portfolio.
After seeing the factor scores, we can comment that both the funds follow similar investment philosophies and are inclined toward good-quality momentum stocks.
You can also compare the portfolios of both funds to look at the number of stocks they are investing in, valuation, top sectors, top holdings, and how concentrated their top holdings are. You can view all the details in the holdings section of any mutual fund in sharpely.
Some investors prefer a higher top-10 holding percentage, and others prefer less number of securities in the fund portfolio. Now you can choose a fund for investment based on your detailed comparison. You should also consider the exit load and tax implications of the mutual funds. You can do the same analysis for other mutual fund categories.
You can also use sharpely insights to get unique and relevant insights regarding the fund. For example, if we want to get some very helpful insights regarding the Quant flexi-cap fund, then just hit on the insight button after opening the mutual fund (highlighted in yellow).
You will find 3 sections. In the Overview tab (as shown below), details of alpha, consistency, volatility, and expense ratio will be shown. This can be very useful and provide relative insights.
In the Equity insights tab (as shown below), you will find sharpely scores based on quality, value, and momentum. These scores are generated based on a proprietary algorithm and can be very helpful in relieving the management style.
For example, a value fund should have a high-value score compared to a momentum score. If a value fund has a high momentum score, then the fund manager can be deviating from the original philosophy of the fund, and further analysis of the holdings should be performed.
The equity insights tab helps us in step 3 of our framework. We can also compare scores and analyze the holdings.
As this fund is an equity mutual fund, there will be no insights related to debt. You can find the same for debt funds.
In this article, we have analyzed a detailed 3-step framework for finding the right mutual fund per your investment preferences. We also gave some suggestions that we feel are important for any investor. We hope this framework will serve you as a compass in your mutual fund investment journey.
There are no mutual funds that are best for every investor. You have to consider your risk profile, investment goals, time horizon, etc. before selecting any mutual funds. For example, aggressive long-term investors may prefer equity mutual funds like flexi-cap and Index funds. And risk-averse investors may find debt or hybrid funds more suitable for their investments.
For equity mutual funds factors like alpha, beta, standard deviation, Sharpe ratio, exit load, P/E and P/B ratios, etc. are important. For debt mutual funds Macaulay duration, yield to maturity, maturity, credit rating, etc. are important.
Disclaimer: The article contains the personal views and opinions of the authors. The information contained in this article is for general, educational, and awareness purposes only and is not a complete disclosure of every material fact. Any investment advice should not be construed as such. We do not have any incentives/partnerships with the funds discussed in this article. Kindly consult your financial advisor before investing.
