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How To Select Mutual Fund


How to Select the Mutual Fund:

1 Here is a checklist of items that can help you rationalize the selection of Mutual Funds. This way you can feel comfortable that your homework behind the selection is logical and is not driven by your emotions

2 Mutual Fund Objective & Investment Strategy: One of the main factors to consider is to check whether the objective of the Mutual fund matches that of the individual. The fund may seek long term (usually) capital growth and/or income, and this may not suit the need of an individual. The appropriateness of the funds objectives to individual’s needs has to be considered before any investment.

3 Mutual Fund Manager: A fund manager is like a head coach of a basketball team; he might be supported by a team of managers, economists, analysts, statisticians and IT systems. The fund manager with the help of his team looks at the current situation of the economy, analyzes the securities that can benefit from the current state of economy and then invests in securities that conform to the fund’s objectives and strategies. Look for funds which have manager tenure of more than 3 to 5 years.

4 Star rating from Morningstar: Morningstar’s star rating compares a fund’s historical returns to its historic volatility and rates each fund from 1 to 5 stars; 5 being the best. The fund with highest return/volatility in its category earns 5 stars. Screen for funds with 5 star rating from Morningstar before I perform any more analysis on the fund.




5 Performance above the benchmark: Many actively managed funds do not outperform their respective index funds and that is an important factor to consider while choosing a Mutual fund. If an index fund that is not actively managed and that has lower expense ratio (discussed next) can outperform an actively managed fund, then why pay extra expense to buy the actively managed fund? Morningstar also compares each fund against S&P 500 and against the category returns. That compared number will be positive if the fund outperformed the index during the period and negative if the fund underperformed.

6 Expense Ratio: The cost of owning the mutual fund is represented by the expense ratio and it includes advisory fees, operating fees, 12b-1 distribution fees and other administration fees. If there are multiple funds that are in the same category, then choose a fund with lower expense ratio.

7 Load on the Fund: Some Mutual funds charge sales load that is paid to the brokers and that does not benefit the investor at all. Sales load is called Front load when the load is paid upfront, and is called Back load when the load is paid when selling the fund. Load fees can vary from 1% to 8%. Paying sales load is like starting with negative return on the investment and the load does not buy any special privileges for the investor. Just say “No” to Load funds unless the load is justifiable.




8 Standard Deviation: The risk associated with a mutual fund is seen in the volatility of the performance and standard deviation is used to measure the volatility of a fund. The higher the standard deviation, the higher is the volatility of the fund performance which maybe associated with higher returns. When you are comparing two funds that have same performance, choosing the one with lower standard deviation is better because it is maximizing the returns for the risk taken on.

9 Annual Turnover: A funds turnover rate represents the percentage of fund’s holdings that it changes every year. A turnover of 100% or more implies that the entire portfolio of the fund is changed every year. Buying and selling stocks will costs money through commissions and hence higher costs for the fund. Look for a lower turnover ratio.


10 Gather data for all of the factors mentioned above for each Mutual Fund that you want to consider and then select the Mutual funds that fare better among all these factors. A better approach is to screen for Mutual Funds based on these factors and then zero down to your final choices manually.