When to Say Good Bye to your Mutual Funds? - Part-II

When to Say Good Bye to your Mutual Funds?(contd.)

Evaluating your funds’ performance in conjunction with your financial situation every quarter is the basic prerequisite while reviewing your mutual fund portfolio. Having elaborated the You related factors, we now move over to the Fund related factors as to why you would want to sell your mutual fund.

Poor Performance

In the first place, compare the fund vis a vis itself at varying time periods. Obviously a fund should be sold due to poor performance. Be careful not to sell a fund because of poor short-term performance. One bad quarter or even a sub-par year is not sufficient justification to ditch a fund, especially if it has a good long-term performance record. Usually two to three years of unexplained or dramatic underperformance are appropriate indicators.

Change in Style or Objective of the Fund

If you researched your fund before investing in it, you most likely invested in a fund that accurately reflects your financial goals. If your fund manager suddenly starts to invest in financial instruments that do not reflect the mutual fund's original goals, you may want to re-evaluate the fund you are holding In case there has been a change in the fund’s investment objective or strategy you are justified in selling. If you bought a fund for exposure to large blue-chip companies and all of a sudden it starts buying small start-ups, that’s a definite red flag! Or if you bought a fund that buys undervalued companies and it starts buying companies at any price whose earnings are growing rapidly ....another red flag. Note that funds are typically required to notify unitholders of any changes to the original prospectus. Some funds may change their names to attract more customers. When a mutual fund changes its name, sometimes its strategies also change. If you are not comfortable with the direction of the fund, sell it.

Change in the Fund Manager

While investing, one of the criteria is to evaluate the expertise, knowledge, experience and past performance of the fund manager. However, while the fund manager is a key player in managing your money, you should not forget the contribution of the research team, the investment committee, the top management and AMC's investment philosophy. Therefore, a change in the fund manager need not necessarily mean exiting the fund. But it may be worthwhile keeping the fund under a close watch. If the fund mimics a certain index or benchmark, it may be less of a worry as these funds tend to be less actively managed. For other funds, the prospectus should indicate the reason for the change in manager. If the prospectus states that the fund's goal will remain the same, it may be a good idea to watch the fund's returns over the next year. You could also research the new manager's previous experience and performance. Give the new fund manager time, particularly if he has a similar investment philosophy as the previous manager. If there is a perceptible decline in the performance or if the new fund manager has a different investment strategy, you may consider selling.

Change in the Fund's Size

Sometimes the size of the fund starts affecting the returns. The bigger the fund, the harder it is for a portfolio to move assets effectively. Note that fund size usually becomes more of an issue for focused funds or small-cap funds, which either deal with a smaller number of shares or invest in stocks that have low volume and liquidity. Certain mid-cap funds took a voluntary step to stop accepting fresh money into the fund, when the size became too large to manage. This is because (i) the mid-cap space is limited (ii) even small purchase of such stocks send their prices soaring and (iii) too large a holding in such stocks will be difficult to offload when required. Here, of course the funds took a proactive step to protect the returns of the existing investors. But if the funds themselves do not take such a step, you should take appropriate steps at the right juncture.

Selling funds based on comparative evaluation will be dealt with in the next blog.