Investment Review Process Parameters

Review Process

We buy investments several times based on advice and/or analysis done by others, because of which the buying part becomes very easy but the real problem starts from there as we do not get to know when to get out of the investments, the selling part. I have already written an article on this earlier called “Are you Abhimanyu of our times?”. Please read my earlier article when you get a chance. So, instead of repeating my earlier topic this time I would like to define review process parameters for investments, specifically for Equity oriented Mutual Funds.

The purpose of the review process is to look at the facts and identify natural biases, if any, and avoid such biases. Review process will clearly help us understand whether our equity mutual fund is worthy of further investments or not, and if it’s not then whether it’s a one-off issue or we are good to get out of it altogether.

Now, let’s get to some of the basic parameters which are included in our review process.

NOTE: Please refer Value Research and Morning Star to check below-mentioned parameters. Both are data aggregator portal from different organizations, their data may vary so take anyone or both data point whichever you prefer. Here is a link to Quantum Long Term Equity Growth fund for Value Research and Morning Star for reference purpose.

Risk Profile

This is very basic check we should make. Whether the product is within our risk tolerance or not, because in course of life of Mutual Fund their managers may make certain investment decision which may alter the risk profile of the fund. In case Risk parameter of the fund is not within our risk tolerance limit then it’s a clear sign that we need to get out of the fund, immediately.

Return Profile

Mutual Fund should have better Return profile compare to the Risk it takes. In case Return is lower than Risk (for example Return is Below Average and Risk is Average), we should investigate whether it is a one-off issue due to nature and status of the economic cycle. If so and if you are convinced with fund managers conviction then keep on holding it and apply stringent review next time otherwise it’s a good indicator to get out of the fund. If Return profile is better than Risk profile say Return is Above Average and Risk is Below Average then it’s a good fund but still lookout for other parameters. Risk is Low and Return is High is the highest rank if you find any fund with such a combination then prefer that first.

True to Category

During the course of investment convictions, at times fund manager may take several bets out of fund’s category. For example, a large-cap fund may take several mid-cap positions, but if it takes excessive bets in different category compare to its core category then it’s a definitely not a good sign and unless it’s within risk tolerance get out of such fund.

Churning (Turnover) Ratio

Churning Ratio depicts how much percentage of portfolio gets changed over a period of a year. For long term oriented large-cap fund churning ratio should not be more than 25%. Unless fund is actively looking for opportunities it’s not a good sign to have high churning ratio. In most cases, excessive churning ratio gets reflected in Risk parameter being high.

Star Rating

Fund should have consistently four or five stars rating. In case it slips to three stars or below, do investigate the reason behind star rating drop. If reasons are because of fund manager’s bets are going wrong occasionally then apply stringent review next time. In case, consistently fund manager bets are going wrong then definitely get out of the fund. In most cases, star rating drop gets reflected in Return profile being Low.

Fund Manager

When a fund manager departs a successful fund, it usually depends on who takes over. Unless someone from existing team or a well-known member becomes fund manager the fund usually suffers. It’s essential to probe incoming fund manager’s capability. In case fund manager does not have a good background in handling similar category fund, size is not the constraint, it may be a good indicator to leave the fund. For example, Anoop Bhaskar did fantastic job at UTI Opportunities (Large Cap high churning) Fund as it’s fund manager, but when he moved to IDFC Premier Equity (Mid Cap low churning) Fund he struggled and it’s very much evident in recent year (2016) performance of both the funds.

Return Comparison

Return Numbers Comparison goes without saying. Try to identify Alpha the fund is able to generate. In simple words, alpha is the difference of return compare to same of its benchmark. If a fund is able to generate positive alpha for 1/3/5 years of return numbers then it’s a good fund to have, in case alpha is negative for 1 and 3 years then it’s a good time to look for the alternative fund as the fund is struggling to provide good returns. It’s better to investment in an index fund instead of investing in a fund which is consistently delivering below the index.

Need of Money

You will not be able to find this parameter on any portal because you only know when you need the money. If you have reached your goal and/or you need money for some reasons then irrespective of how the fund is doing we should get out of fund we tagged with the goal. We invest in a fund to enjoy our goals. :)

We discussed few basic parameters above. There are many such indicators which we can leverage, but the point is how complex we want to make our review process. Fewer reliable indicators are good enough to help us with the decision. I was able to find few funds which were underperforming during my review process last month, I had a biased view of them till then. But once it became clear to me that they are becoming a pain for my hard earned money I did not hesitate to get out of them. Go ahead and run above parameters to your funds and see how they are doing. And do not hesitate to throw a fund out of the portfolio and move to another one. It’s your hard earned money and you have all rights to invest it wherever you like.


Originally published at The Simple Personal Finance.