The equity market is a marketplace where companies’ shares and stocks are traded. In an equity market, equities are bought and sold either over the counter or on stock exchanges. It is also known as a stock market or a share market, which allows sellers and buyers to trade equity or shares on the same platform.

What is equity investment?

An equity investment is basically money invested in a firm through the purchase of shares of that firm on the stock exchange or the equity market.

For short-term goals, investing in stock has a high level of risk and the risk-reward ratio may not be optimal. It is well-known to everyone that investing in equities assets yields tax-efficient returns and beats inflation over the long term. This does not, however, imply that we should put all of our eggs in one basket.

The most important thing to take into consideration when planning for financial objectives is the timeline. However, this is often overlooked while looking for the best returns, whether for short-term or long-term goals.

The equities market’s volatility makes it a dangerous investment in the short term. In this way, long-term equity investments are more profitable and reliable, making them ideal for accomplishing long-term objectives. With stock investments, you’re taking a lot of risks, and the risk-reward ratio may not be in your best interest. For this reason, seasonal investors should refrain from 100% short-term equity investments.

How can you make short-term goals a reality?

Setting financial goals, including short-, medium-, and long-term objectives has to be the first step in financial planning. Short-term objectives usually have a time frame of 6 to 18 months. 

Short-term goals should be accomplished with stable investments such as debt or fixed income instruments that are not swayed by market volatility. However, despite the lower returns, these investments are highly liquid and allow investors to withdraw money immediately if needed.

Short-term goals can be subdivided into quarterly, monthly, weekly, and daily goals, depending on your needs. Investing in a combination of liquid funds, debt funds, and bank savings accounts is a great way to manage such goals.

 If you are a more aggressive investor, you would consider a little equity allocation of 10-20% of the desired short-term goal value. A significant allocation, such as a 100% equity commitment for a short-term goal, is not advised.

Three to five years goals:

This time horizon is classified as short- to medium-term. To achieve such goals the investor can plan to allocate a part of their investment to equity and rest in a debt fund, at the knock of 3rd year an investor should start switching their portfolio from equity to debt this can be done at a go or this process can be more of a gradual, where the investor can design an STP and slowly shift the equity corpus to debt fund.

You can invest in a mix of short-term debt funds, hybrid funds, small caps, large and mid-cap funds. The ideal mix of the various asset classes would vary from investor to investor based on their risk appetite.

Five to seven years goals:

A diversified portfolio with a mix of different asset classes and market caps would be a better bet. Investors can also decide to include a smaller amount of debt to take advantage of the business cycle. Investors based on their risk appetite can design the portfolio matching their risk profile.

Another important point to consider is as the duration is long it would be wise to periodically rebalance the portfolio and adjust the same as per the market condition.

Disclaimer: Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.

Written by: CA Suraj Kar

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1. Compare Mutual Fund Performance with a benchmark:  

You can begin by comparing a fund’s performance to the benchmark. Use a fair and acceptable benchmark for comparing. Always make an apples-to-apples comparison. Using the incorrect measurement will result in inaccurate statistics.  

Take, for example, a Large-Cap Equity Fund. When compared to a broad and diverse index like the Nifty 50, it performs better. 

2. History of the Funds: 

The market value of a mutual fund can only be determined during market corrections, as evidenced by fund history. Look for a fund with a longer track record, such as 5 to 10 years. Compare the performance of a fund throughout different timeframes and business cycles. 

Assume that a fund has consistently generated returns that are in line with expectations during a market rally. Furthermore, if the fund lost 8% of its value during a downturn and the benchmark dropped 10%, it is considered that the fund did well. 

3. Fund Expense Ratio Comparison: 

The annual cost imposed by the fund for managing your investment is known as the expense ratio. According to SEBI regulation, fund houses are not allowed to charge more than 2.5 percent of the fund’s average Asset Under Management (AUM). Before investing in a mutual fund, make sure to look at the fee ratio. 

The expense ratios are deducted from the fund’s returns. As a result, the larger the expense ratio, the smaller your take-home revenue. Always seek a fund with comparable results but a lower expense ratio. 

A direct plan and a regular plan are both available for the same mutual fund. Mutual fund direct plans have a reduced expense ratio, which correlates to higher returns. Investing in mutual fund direct plans rather than ordinary plans can save you a lot of money in commissions. 

If the returns provided by your premium fund do not match the fee charged, you may want to consider passive investing. Look for index funds that meet your budget because they are less expensive and give returns that are comparable to the underlying benchmark. 

4. Track Fund Managers historical performance: 

A large number of equity fund investors have no understanding of what their fund manager’s strategy is. They have no idea the stocks he has been buying and selling month after month. Investors haven’t been able to keep track of their fund manager because they lack a portfolio history that allows them to determine whether the fund management is following a strategy or simply timing the market. There is also a category of investors that do not use fund management and instead invest on their own. They do, however, like to observe what popular fund managers are buying and selling to feel confident in their investments. 

Fund management is a complicated procedure that involves a great deal of financial expertise and investigation. This is why, when choosing a mutual fund, you should choose with a reputable and experienced fund manager. When evaluating a fund manager, consider the following factors: 

• Industry experience. 
• Manager rankings by leading institutions. 
• The funds they are actively managing have a track record in the past. 

5. Examine the risk-adjusted returns: 

Look for risk-adjusted returns of the fund rather than just annualized returns. A higher level of risk should be balanced by a higher level of return, according to the risk-return tradeoffs. The risk is calculated using the standard deviation. 

The Sharpe ratio can be used to determine whether a fund is providing better returns for each additional unit of risk taken. The fund manager achieved higher returns for the extra risk taken since the Sharpe ratio was higher than the category average. 

Consider the two equity funds A and B, each with a standard deviation of 13% and 17%, respectively. If the Sharpe Ratios of funds A and B are 0.47 and 0.60, respectively, choose fund B since it is a better bet for the risk. If B’s Sharpe Ratio was near 0.50, though, you may have gone with A. It’s because a 0.03 extra return isn’t worth taking on an extra 4% risk for a 0.03 extra return. 

The Sharpe Ratio can be used to evaluate the performance of different equity mutual funds to a benchmark index. It aids in determining the risk-adjusted return of equity funds. The Sharpe Ratio is a technique that may be used to compare the performance of a mutual fund or a portfolio. It compares the standard deviation of the portfolio return to the excess portfolio return over the risk-free rate. 

Let’s look at an example of the Sharpe Ratio. You’re comparing Fund A and Fund B, two separate equity funds, to see which has the superior risk-adjusted return. 

Sharpe Ratio = (Portfolio return – Risk-free rate of return) / Standard deviation of the portfolio. 

Sharpe Ratio (Fund A) = 13% – 5% / 6 = 1.33  

 Sharpe Ratio (Fund B) = 11% – 5% / 4 = 1.50 

Fund A has a higher expected return as compared to Fund B. The volatility, on the other hand, is higher. When compared to Fund A, Fund Y has a greater Sharpe Ratio and a higher risk-adjusted return. 

6. Compare the Alpha and Beta of various mutual funds: 

The number of extra returns achieved by the fund over the benchmark returns is measured by alpha. The riskiness of a fund is measured by its beta. It also displays if the fund loses or gains more or less than the benchmark. If the beta value is greater than one, it means the fund outperforms the benchmark. 

A beta of one means that the mutual fund’s returns move in lockstep with the benchmark. The fund will gain or lose less than the benchmark if the beta is less than one. Consider two funds A and B with the same beta level, i.e., if the alphas of funds A and B are 2 and 1.75, respectively, you should go with fund A. It’s because the fund manager can deliver greater returns than the benchmark for the same amount of risk. 

7. Evaluate the Portfolio Turnover Ratio (PTR): 

The portfolio turnover ratio indicates how frequently the fund manager purchases and sells securities in the portfolio. In the case of equities funds, it indicates the amount of trading that takes place within the fund. You should be aware that when you buy or sell an equity share, you will incur transaction fees such as brokerage. 

Frequent trading in a portfolio results in increased expenses, which is reflected in a higher expense ratio. It could lower your fund’s take-home earnings. As a result, PTR is an essential consideration for selecting funds. 

When selecting a fund, choose one with a lower PTR. If you want to invest in a fund with a high PTR, be sure that the high PTR is justified by higher returns. 

8. What MyGoalMySip can do for you: 

It can be extremely challenging to choose a mutual fund mentioned in previous parameters unless you are an active investor who closely monitors market movements and related indicators. Based on your financial goals, MyGoalMySip can assist you by handpicking the most suited and best-performing investment portfolios for you. 

Read Next: How to become a crorepati?

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When you walk into a bike showroom, you will see a wide variety of bikes. There are Glamours, Bullets, and possibly even sports bikes such as the KTM and R15. Each bike in the showroom has a variety of different functions. A sports bike may be preferred by a youthful person, whereas a Glamour or Bullet may be preferred by a married person with a spouse or kids. Similarly, mutual funds in India come in a variety of forms. 

Did you know? 

There are two other ways to categorize different types of mutual funds: 

• Based on the underlying assets (equity, debt, gold, hybrid). 

• Based on the length of time till they reach maturity (open-ended and closed-ended funds). 

Each fund type is designed to help investors achieve a particular set of goals. Some of the most popular types of mutual funds available in India are listed below: 

Types of funds based on asset class: 

• Debt funds: The funds that invest in securities that generate fixed income like Treasury Bills, Corporate Bond, Commercial papers, Government Securities, and many other market instruments are called Debt Funds. All these market instruments have a pre-planned maturity date and rate of interest that the buyer can obtain on maturity and, therefore, it is also known as Fixed-Income Securities. As a result, debt securities are considered a low-risk investment choice. 

• Equity funds: As the name recommends, equity funds invest in the shares of different kinds of companies across sectors. The fund manager, who is managing your investment, always tries to offer great returns to you by spreading your investment across companies from different sectors or with various market capitalization. Generally, Equity Funds are known to offer better returns than term deposits or debt-based funds. There is a large amount of risk involved with these funds since their performance depends on various market conditions. But there is a good choice if you wish to invest for long-term goals such as retirement planning or purchasing a house because the level of risk comes down over time. 

• Hybrid funds: Have you ever wondered, what if you can have both an Equity fund and a Debt fund in your one investment? If your answer is ‘NO’, then we would like to introduce to you another type of Mutual Funds known as Hybrid Mutual Funds or Hybrid Funds. Hybrid Funds are those funds that invest in a mix of both Equity and Fixed-income (Debt) securities. Based upon the asset allocation between Equity and Debt. 

Hybrid funds are further defined into various sub-categories. 

• Open-ended mutual funds: It is secure to say that when people say mutual funds, they only mean Open-Ended mutual funds. Far from their Closed-Ended counterparts, the units of open-ended funds are not traded on any stock exchanges, be it BSE or NSE. Further, there is no limitation on the number of fund units that the fund can issue at once. Investors can purchase or redeem fund units from the fund house or asset management company on any business day at the current Net Asset Value or NAV of the scheme. The NAV is determined by the performance of underlying securities of that fund.No maturity period exists in this scheme. 
• Close-ended mutual funds: Close-ended funds come with a pre-planned maturity period. Investors can invest in the fund only when it is launched. They can withdraw or take out their money from the fund only at the time of maturity. These funds are listed similarly to the shares in the stock market. In case investors want to redeem their positions, they can sell the units in the Exchange where the funds are listed. However, this fund is not much liquid because the trade volume is lesser in this fund. 

Types of funds based on investment objective: 

Mutual funds are often referred to as quick and easy investment goals. 

• Growth funds: Capital appreciation is one of the main objectives of Growth funds. These funds keep a remarkable segment of the money in stocks. These funds can be comparatively riskier due to high equity exposure, and therefore, it is better to invest in them for the long-term period. But if you are close to your goal, for example, you may want to avoid these funds. 

• Income funds: As the name suggests, income funds try to grant investors a constant level of income. These are debt funds that invest the maximum in bonds, government securities, and deposit certificates, etc. They are affordable for different-term goals and investors with a lower risk appetite. 

• Liquid funds: It puts your money in short-term money market instruments like treasury bills, Certificate of Deposits (CDs), term deposits, commercial papers, and so on. Liquid funds help to safely park your surplus money for a few days to a few months or make an emergency fund. 

• Tax saving funds: It provides you with tax benefits under Section 80C of the Income Tax Act. When you invest in these funds, you can claim deductions to Rs 1.5 lakh each year. An example of Tax Saving Funds is ELSS (Equity Linked Saving Scheme). 

Read Next: Why Should You Invest in Mutual Funds?

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Team, MyGoalMySip.