TOO MANY MUTUAL FUNDS IN YOUR PORTFOLIO? IT’S TIME TO CONSOLIDATE
One of the biggest benefits of mutual fund investments is that they offer diversification. Another major benefit is that they make the stock market accessible for investors through the Systematic Investment Plan (SIP) option where investors can begin investing with as little as Rs 500 every month. Both these benefits make many investors think that adding as many mutual fund schemes as possible to their investment portfolio will be a smart move. Many investors keep adding five-star schemes and new funds to their portfolios and have over 20 to 30 different mutual fund schemes. This, however, is not the most prudent investment strategy. In fact, having so many different mutual fund investments can be counterproductive to creating wealth.
Why having too many mutual funds is not beneficial
Having so many types of mutual funds in your portfolio can lead to overdiversification. The biggest issue with this is that it reduces your portfolio’s overall returns and stunts growth. Beyond a point, every new mutual fund you add to your portfolio doesn’t necessarily provide any benefit but just takes up space and adds to the burden of monitoring performance. Adding too many mutual funds to your portfolio also does not help in meaningfully reducing risk.
There is no one ideal number of mutual fund schemes for a portfolio that would apply to everybody. This depends on your risk tolerance, asset allocation strategy, financial goals, size of the portfolio, etc. Depending on these factors, experts believe that somewhere between five to 10 schemes is the sweet spot. If you have a greater number of schemes, then it is time to consider consolidating your portfolio.
What you can do to consolidate
The first thing to do is to remove schemes that have overlapping portfolios. For instance, if you have three to four large-cap equity mutual funds, chances are that they will have invested in a lot of the stocks of the same companies. This will neither help reduce risk nor maximise returns. Hence, you should remove the schemes that are overlapping and look at different types of equity mutual funds. At this point, you should also reconsider and have clarity on your risk appetite and goals. If your risk tolerance is moderate but you have a high allocation to small-cap stocks, then it’s prudent to rebalance your portfolio so that it aligns with your risk tolerance.
Another thing you should do is withdraw from schemes that are underperformers. Every mutual fund comes with a benchmark index that shows you how that scheme is performing compared to the overall market segment. If your mutual fund scheme has consistently underperformed its benchmark, consider removing it. Make sure to look at other parameters such as the Sharpe ratio, standard deviation, etc., before you make this decision.
Moving forward, before you invest in mutual funds, think that decision through. For instance, while it can be tempting to invest in a New Fund Offer (NFO), it’s important to consider that this mutual fund scheme has no track record for you to determine how it is going to perform. Overall, it’s essential to not lose sight of your overall investment strategy and rebalance your portfolio periodically.
