First let me clear this wide missconception around “the best fund.”
There is no such thing as a best fund. There are only good funds. When someone tells you “this is the best fund” you need to look beyond its recent performance.
Why is the fund a good fund? How will it suit my goals? Does this suit my risk appetite? What is in this fund beyond its recent performance? If you can’t answer these questions, you don’t know why this fund is a good fund.
Some quick points to keep in mind while searching for a good fund
Have a premise: When you invest in a fund you must have a premise. A premise is a reason why that particular fund will play its role in your portfolio.
A good premise will be one that answers all the above questions. Without a premise, you don’t own a fund that is right for you, you just own randomly which is best today and can turn worst tomorrow.
Exstimate your risk appetite correctly: The biggest mistake most investors make is to invest in funds with more risk than they can really tolerate. This is where most investors got hurt during 2007 and now in 2020.
Investors had no idea they owned risky funds like small & midcaps, credit risk and sector funds more in their portfolio than they can tolerate. The Franklin fiasco is a classic example of this.
Investors overestimate their risk appetite during good years and underestimate during bad years. This reflects in the portfolios they build during such years and it hurts back when the tide change.
If you can tolerate, both financially and emotionally, a substantial loss in your portfolio you obviously will be okay. But most people aren’t in that position. Figure out how much downside you can live with before you invest in any fund.
A good fund for someone else can be a bad fund for you if it is not aligned with your risk appetite and needs.
Don’t miss the bus for a window seat: If you are investing with a multi-year investment horizon, what difference does a few percentage points make on your purchase?
Many investors wait for that 5% fall to invest and miss investing altogether. If you are right about your investment horizon, you will never lose because of the extra 5% or 10% you paid while investing.
If you found a good fund for go ahead and invest. Don’t wait. At least start investing in a staggered way.
Don’t chase the new best fund and ignore the old ones: Many investors invest in the best fund and immediately look for big gains. When they don’t happen, the fund falls away from the attention list.
Pretty soon it starts to underperform, and, emotionally, the investor stops watching it. Avoiding pain is common to us all. But you can’t let pain avoidance prevent you from taking corrective action.
Keep reviewing each fund in your portfolio, be actively passive. Keep asking yourself those questions for each fund you hold and if you are unable to find answers then action with corrective steps.
A hold is as good as a buy: If you wouldn’t invest in the fund today again if you had more money then you should either exit that fund or admit that you have taken a wrong decision and correct it gradually.
This condition often happens when you have invested in a fund when it is doing well. But then suddenly it starts underperforming.
Ask questions. What is driving the fund now? Why it is performing bad now? Would you invest in the fund today if you didn’t own it already? If you don’t know answers to these questions then go back to the rules.
Don’t be an inadvertent long-term holder: When your investment doesn’t work out, or you no longer believe in the fund , you must exit, even if it means a loss.
Holding on just get your principal back is the single biggest reason for losing more money.
Such mistakes are common when you are investing in sectors funds, duration funds or such other funds which are meant for tactical allocation.
Investors in Infra funds are holding back since years with a hope that it will bounce back. They have lost more buy staying invested. Read this blog to see how holding underperformers hurt your portfolio
You won’t be right in every fund you invest: If you are going to be an investor, you need to become accustomed to underperformance in some funds.
If all funds in your portfolio are performing well then you may not be well diversified. They may also underperform together sometime in future.
Staying put in the short term and exiting consistent underperformers in the long run is often the way you can manage your portfolio.
Keep this premise in mind when you review your portfolio next time. Don’t try to find the best in them.