We have many young, first-time investors, wanting to know where and how to make a start in building a fund portfolio.
In this article, we will deal with investors starting a savings habit for the first time and wish to start investments in mutual funds.
The New Investor
If you have just started a career and wish to kick start some savings, then mutual funds can be a great way to do it systematically.
But then, if you are new to equity markets, then investing in equity mutual funds and experiencing any short-term volatility can spook you out of mutual funds, which otherwise make for great long-term products.
Hence, for an investor with little or no knowledge about equities, the following steps may make life easier:
– Consider making a start with debt-oriented products (such as MIPs), which offer 10-25% exposure to equities. This will provide a good entry point to equity investing.
– It is a misconceived notion that MIPs are only for those who look for monthly income. MIPs can be held with a growth option. Their simple aim is to generate debt-plus income, with the additional equities they hold. This may be a better option than going for a recurring deposit.
– Hold some surplus in liquid/ultra short-term funds to build an emergency fund, or if you would like to set aside some amount for your own spending – ranging from buying a mobile, to going on a vacation, or for expenses incurred to apply for B-school a year or two later.
Consider parking your incentives and bonuses in this kind of contingency fund. You can always shift this money to other investment avenues later. It is likely that it will be spent if it remains in your savings account.
– In about a year’s time, you can gradually add balanced funds which will offer 75% exposure to equities (and the rest in debt) and then a year from then, start off with diversified equity funds with a large-cap exposure. Again, use only the SIP route.
– At this point, you can start considering tax-saving mutual funds as well, for your Section 80C benefits. Until then, use other tax options such as PPF, EPF and some basic term insurance and medical insurance for your tax benefits.
– By the time you are over 3 years into your career, you may start having specific goals such as saving to buy a property, upgrading your lifestyle with consumer durable products, saving for your own marriage, or investing for your retirement or for your family’s needs – such as child’s education.
At this juncture, you can have a well allocated portfolio of equity and debt funds. This may have liquid/ultra short-term funds for short-term requirements and a combination of equity and income funds for long-term goals.
Please note that you may even begin this whole process with a good asset allocation strategy, if you already have fixed goals in mind, have an idea on how to go about it, or have the right guidance. Otherwise, the above will be a more phased approach.
The biggest advantage with mutual funds is that it allows you to ride different asset classes (equity, debt, gold) using the same vehicle. Hence, it becomes easy for you to have an asset-balanced approach once you start investing towards specific goals.
Not New To Equities
But if you are one of those young investors acclimatized with the equity markets while you were a student, then it is that much easier for you to start off with equity mutual funds. Since your job may not allow you to spend too much time tracking stock markets, mutual funds could be a good platform to invest in the markets. In this case:
Start off with a basket of diversified funds and slowly take some exposure (up to a third) to mid-cap funds.
If you wish to play any specific sectors, use your familiarity in the stock market to pick stocks directly in such a sector, instead of going for a sector fund.
Try to use active tools such as trigger options or value averaging plans, if you understand gyrations on the equity markets.
Actively consider allocating some money to debt funds so as to have an asset balanced portfolio. This will come to your rescue in times of a bear onslaught. You may like to note that even a 5-year equity portfolio is not immune from bear markets and can generate negative returns, especially if you invested a lot in the peak. Debt allocation acts as shock absorbers then.
A contingency fund is also a must here if you do not already have one.
But there may be some baggage that you may be carrying from your equity investing/trading days that you need to shed, if you are making a start with mutual funds.
One, there can be no trading business in equity funds. It follows that equity funds are meant for the long term. The longer the better. Think in multiples of 5, if you can, when you think of equities.
Two, lower NAV does not mean a fund is cheap. NAVs are nothing but the current unit value of the money managed by the fund. It is the return potential from the point you invest, that matters.
Three, you may have booked profits in stocks or exited them when you made your money. You don’t have to do that in mutual funds because the fund manager is constantly churning the portfolio, booking profits and entering new opportunities on your behalf.
That means he/she is actively managing your portfolio. Hence, avoid constant chasing of returns and churning of funds. Resort to selling if you have the following reasons: One, you are exiting simply because you need the money at that point or are nearing your goal. Two, the fund has been consistently underperforming its benchmark and peer group for several quarters. Three, when you do portfolio rebalancing.
Now, the third point requires some explanation. If you have a portfolio with allocation towards different asset classes, you should consider rebalancing them once a year if they have moved away from your original allocation. For instance, if you had a 75% exposure to equities and it moved to 85% after a rally, then this may be the time you reallocate by exiting some equity and moving to debt.
To sum up, as a young investor, invest systematically, take on equities in a phased manner to help achieve long-term goals and use debt judiciously to counter equity volatility. Gold, will remain an option, if you wish to use it as a diversifier.