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How to analyse Mutual Funds?

By Shlok Kamat

31st May 2022

7 mins read

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If you are an investor, you ought to have heard about mutual funds, and yes, it goes without saying 'investments in mutual funds are subject to market risks.' Past performance of funds does not promise a promising future, but they give us an insight into which stocks to have and not have in your portfolio!

Assets Under Management (AUM) of the Indian Mutual Fund Industry as of April 30, 2022, stood at ₹ 38,03,683 crore. The AUM of the Indian MF industry has grown from ₹ 6.80 trillion as of April 30, 2012, to ₹38.04 trillion as of April 30, 2022, more than a 5.5x  increase in 10 years.  Many investors have entered the mutual funds via Systematic Investment Plans (SIPs), and this number is expected to grow multifold shortly. Are you a novice investor or a seasoned market participant? Do you have the know-how to analyse mutual funds? Lets us give you simple steps to perform mutual fund analyses all by yourself.

Criteria to analyse mutual funds

  • Assets Under Management
  • Expense Ratio
  • Fund Performance v/s Benchmark Performance
  • Risk Level (Riskometer)
  • Portfolio Turnover Ratio/ Churn Ratio
  • Fund House and Fund Manager

Assets Under Management

Assets Under Management refers to the total market value of the assets that a mutual fund manages at a given time. AUM includes the returns a mutual fund has made on its investment and the capital a manager has at its disposal to make new investments.

AUM is an indicator of mutual fund performance as well as its size. An increasing AUM may indicate positive fund performance or new customers who have brought in additional funds to be invested, or both. A decreasing AUM means poor performance or a large redemption, which may or may not be linked to the fund’s performance.

A fund’s AUM can be compared to establish its credibility and success. As an investor, you can also compare the AUMs of different fund houses to understand their performance.

The following table shows the AUM of some of the largest fund houses in India for the last quarter:

AMC Average AUM in ₹
SBI Mutual Fund 647064.29 Cr
HDFC Mutual Fund 432084.97 Cr
ICICI Prudential Mutual Fund 468258.02 Cr
Aditya Birla Sun Life Mutual Fund 295804.91 Cr
Nippon India Mutual Fund 283260.97 Cr

Expense Ratio

Under SEBI (Mutual Funds) Regulations, 1996, Mutual Funds are permitted to charge certain operating expenses for managing a mutual fund scheme – such as sales & marketing/advertising expenses, administrative expenses, transaction costs, investment management fees, registrar fees, custodian fees, audit fees – as a percentage of the fund’s daily net assets.

All such costs for running and managing a mutual fund scheme are collectively referred to as ‘Total Expense Ratio’ (TER). The TER is calculated as a percentage of the Scheme’s average Net Asset Value (NAV). The daily NAV of a mutual fund is disclosed after deducting the expenses.

Currently, in India, the expense ratio is fungible, i.e., there is no limit on any particular type of allowed expense as long as the total expense ratio is within the prescribed limit.

AUM (in ₹Cr)      TER for Equity Funds Maximum (%)      TER for Debt Funds Maximum (%)
0-500 2.25 2
500-750 2 1.75
750-2000 1.75 1.5
2000-5000 1.6 1.35
5000-10000 1.5 1.25
10000-50000    Starts at 1.5%, and goes down by 0.05% for every rise of Rs 5000 cr in AUM          Starts at 1.25%, and goes down by 0.05% for every rise of Rs 5000 cr in AUM     
>50000 1.05 0.8

Fund Performance v/s Benchmark Performance

A benchmark is a standard or measure that can analyse a given portfolio's allocation, risk, and return. Individual funds and investment portfolios will generally have established criteria for legal analysis. A variety of measures can also understand how a portfolio is performing against various market segments. Investors often use the Nifty 50, Nifty 500, etc., as benchmarks. Benchmarks have several measures used to evaluate portfolio risk and reward, including the following:

Standard Deviation is a statistical measure of volatility by calculating the variance in price moves of an investment to the mean or average return over a period. In other words, a higher standard deviation indicates more volatility and greater risk.

Beta: It is used to measure volatility against a benchmark. For example, a fund with a beta of 1.2 is expected to move 120%, up or down, for every change in the standard. A portfolio with a lower beta would be expected to have less up and down movement than the benchmark.

Sharpe Ratio: The Sharpe Ratio is a widely used measure of risk-adjusted return. The Sharpe ratio is the average return earned more than a risk-free investment, such as an Indian government bond. A higher Sharpe ratio indicates a superior overall risk-adjusted return.


Standard Risks

  • Mutual Fund Schemes are not guaranteed or assured return products.
  • Investment in Mutual fund units involves investment risks such as trading volumes, settlement risk, liquidity risk, and default risk, including the possible loss of principal.
  • As the price/value/interest rates of the securities in which the Scheme invests fluctuate, the value of an investment in a mutual fund Scheme may go up or down.
  • In addition to the factors that affect the value of individual investments in the Scheme, the NAV of the Scheme may fluctuate with movements in the broader equity and bond markets. It may be influenced by factors affecting capital and money markets in general, such as, but not limited to, changes in interest rates, currency exchange rates, changes in government policies, taxation, political, economic or other developments and increased volatility in the stock and bond markets.
  • Past performance does not guarantee the future performance of any Mutual Fund Scheme.

Portfolio Turnover Ratio

Portfolio turnover measures how frequently assets within a fund are bought and sold by the managers. Portfolio turnover is calculated by taking either the total amount of new securities purchased or the number of securities sold (whichever is less) over a particular period, divided by the fund's total net asset value (NAV). The measurement is usually reported for 12 months.

The turnover rate is significant for potential investors to consider, as funds with a high speed will also have higher fees to reflect the turnover costs.

  • Funds with a high rate usually incur capital gains taxes, which are then distributed to investors, who may have to pay taxes on those capital gains.
  • Growth mutual funds and any mutual funds that are actively managed tend to have a higher turnover rate than passive funds.
  • There are some scenarios in which the higher turnover rate translates to higher returns overall, thus mitigating the impact of the additional fees.

For example, a 5% portfolio turnover ratio suggests that 5% of the portfolio holdings changed over one year. A 100% or more significant percentage indicates that all the securities in the fund were either sold or replaced with other holdings over one year.

Fund House and Fund Manager

The mutual fund industry is highly regulated. The Securities and Exchange Board of India, also known as SEBI, and the Association of Mutual Funds of India, are responsible for regulation. When people invest their hard-earned money, hoping that it will grow in the future, trust is of utmost importance.

The 38.04 trillion mutual fund industry has had the trust of 10 crore folios for generations now, and with time, this trust is expected to grow. When novice investor wants to invest in mutual funds, they are tasked with the problem of finding a good AMC that has historically beaten the benchmark and produced stellar returns for its unitholders. Fund managers are critical for your funds' selection and performance, so you must consider certain things when evaluating a fund manager. Most experienced investors pay attention to the manager and their fund management team. One can differentiate between a good fund manager and an average one by looking at such factors as:

  • Has the fund manager succeeded in outperforming the benchmark in perpetuity?
  • Does the manager keep track of the other institutional investors (DII or FII) buying and selling stocks?
  • Are they experienced?
  • Are they able to identify scripts way ahead of their peers?

The trust in the regulators that the voice of an individual investor will be heard, confidence in the mutual fund house that it will respond to grievances and provide adequate redressals and trust in the fund manager that they will manage the capital well and not deviate from the investment philosophy of the scheme (fund).


How are portfolio turnover ratio and fund manager related?

The portfolio turnover ratio provides insight into how a fund manager manages its fund.

Generally speaking, a portfolio turnover ratio is considered low when the ratio is 30% or lower. When the turnover ratio is low, it indicates that the fund manager is following a buy-and-hold investment strategy. Funds with a low turnover ratio are called passively managed funds.

On the other hand, funds with a high turnover ratio indicate a considerable amount of buying and selling of securities (a fast-paced investment strategy). Funds with a high turnover ratio are called actively managed funds.

What is the age-old axiom used for mutual funds?

The age-old axiom is that, it is not wise to put all eggs into one basket was probably in the minds of those who formed the first mutual fund. Mutual funds follow the principle of avoiding keeping all eggs in a single basket – if the basket falls, all eggs break – instead if eggs are distributed in several baskets, fall of one basket, only some eggs in that basket break.

What is the major advantage for retail investors offered by mutual funds?

Portfolio diversification is the major advantage stressed by mutual funds, especially for retail investors. The investment of retail investors, if invested directly, will not be sufficient to invest in multiple shares/sectors; but when pooled together, they become large enough to distribute among several company shares and sectors.

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