Planning to Invest in the Best Mutual Funds for the Long Term? Read This…

May 13, 2023 Mutual Fund

Investors often face the dilemma of which types of mutual funds to invest in for their long-term financial goals. Long-term goals can include financial objectives that need to be achieved over the next 5-10 years or beyond, such as retirement, children’s education/wedding, buying a house, etc. Since the tenure of investment is long, it is vital that investors have a definite plan in place before they begin the investment.

Equity Mutual Funds are one of the best investment avenues for such long-term financial goals, for investors who are willing to take risks. But before beginning mutual fund investments, ensure that there are enough resources to meet various short-term goals or any potential contingencies such as job loss, medical emergencies, and other unexpected expenses.

Once funds for short-term goals and contingencies are allocated in safe and liquid avenues, investors can move on to plan for long-term goals.

Which types of mutual funds are best for long-term investment?

Large Cap Mutual Funds and/or Aggressive Hybrid Funds are suitable for novice investors who are not used to the volatile nature of the equity market.

Large Cap Mutual Funds invest in well-established companies that enjoy strong brand recall value, economic moats, competitive advantage, ethical and efficient management, and solid balance sheet. Due to these factors, Large Cap Mutual Funds tend to offer steady growth of capital in the long run without exposing the portfolio to very high risk.

Likewise, Aggressive Hybrid Funds offer the opportunity to grow wealth through equities at relatively lower risk. These funds invest 65-80% of their assets in equities and 20-35% in debt to enable diversification across asset classes. This enables Aggressive Hybrid Funds to minimise the downside risk, making it suitable for investors having moderate risk appetite.

Flexi Cap Funds, Multi Cap Funds, and Large & Midcap Funds are suitable for investors who are used to the volatile nature of the market. These types of equity mutual funds offer the benefit of diversification across the market cap. Since the market cap winner changes yearly, investors will likely benefit from decent returns over various market phases. However, do note that the risk involved is higher as well.

Value Funds are suitable for investors to gain the advantage of diversification across investment styles.

On the other hand, Mid Cap Mutual Funds and Small Cap Mutual Funds are suitable only for investors who have the appetite to handle intense market volatility.

Mid Cap Mutual Funds and Small Cap Mutual Funds invest in emerging companies that have the potential to become large-caps in the future. These funds have the potential to outperform other categories during bull phases. However, Mid Cap Mutual Funds and Small Cap Mutual Funds are not as resilient during bear phases and may witness higher downside risk compared to other categories.

Investors may be better off stating away from Sector/Thematic Funds as they are highly risky and can witness concentration risk.

What investment strategy is preferable while investing in mutual funds for the long term?

It is necessary that investors align long term mutual fund portfolio with their financial needs so that there are no unexpected risks. This can be done by creating a well-diversified portfolio comprising best equity mutual funds from different sub-categories, based on the investor’s investment objective, risk appetite, and investment horizon.

It is important to set reasonable returns expectation when calculating the investment amount. One should avoid investing in mutual funds by looking at past returns or try to time the investment, assuming it will help in earning higher returns.

When investing in mutual funds, one could prefer the Systematic Investment Plan (SIP) mode of investing. Investing regularly via SIP enables investors to automatically purchase more units when the NAV is lower and less units when the NAV is higher and thus, saves them from the worry of timing the market.

Once a personalised investment plan is in place, it is important to continue with it regardless of the market conditions until the set financial goals are achieved. But do not just invest and forget; make it a point to review it at least annually. At times even high-quality funds can trail its peers and the benchmark index if the investment strategies/styles adopted by the fund manager move out of favour.

However, if the fund consistently lags in terms of risk-reward parameters across most time periods and scores low on qualitative parameters, it may be time to replace it with a better alternative. Once the financial goal is nearing, one could trim the equity allocation and gradually shift investment to less volatile avenues such as debt funds.

This article first appeared on PersonalFN here