Why a Mutual Fund Portfolio Review Is Essential in the Current Volatile Market

This is where a Mutual Fund Portfolio Review (MFPR) becomes indispensable. Reviewing your mutual fund portfolio is not just a prudent exercise; it's a necessity to ensure your investments remain aligned with your financial goals amidst changing market dynamics.

Understanding Market Volatility and Its Impact

Market volatility, characterised by rapid and significant price fluctuations in equities, bonds, or other financial instruments, is a natural part of investing. However, the current scenario in India has brought unique challenges and opportunities for investors.

[Read: Why a Year-end Portfolio Review Makes Sense Now]

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India's equity market is not immune to global events. The ongoing Russia-Ukraine conflict and escalating tensions in the Middle East have disrupted supply chains, particularly in energy and commodities. As a significant importer of crude oil, India's economy remains vulnerable to rising oil prices.

The current market volatility in India is being driven by a combination of global and domestic factors. Domestically, elevated valuations in the equity markets, rising crude oil prices impacting inflation, and tighter monetary policies by the Reserve Bank of India (RBI) have added to the uncertainty.

As you can see in the graph above, both indices show a steady upward trend from November 2023 to mid-2024, driven by strong investor optimism and robust economic data. However, post-August 2024, a sharp correction is evident as both indices experienced significant declines.

This drop reflects market reactions to rising global uncertainties, profit booking, and concerns over high valuations. The parallel movement of the indices underscores how broader market sentiment is uniformly affecting large-cap stocks in India. This recent downturn highlights the need for investors to review and rebalance their mutual fund portfolios amid heightened volatility.

Market volatility significantly affects mutual fund portfolios, as fluctuations in equity markets, bond yields, and sector performances directly impact fund valuations. Equity mutual funds, particularly mid-cap, small-cap, and sectoral funds, can experience sharp fluctuations due to their sensitivity to price changes.

Mid-cap and small-cap mutual funds have exhibited higher volatility compared to large-cap funds. While the long-term growth potential of mid-cap and small-cap companies remains intact, short-term fluctuations can challenge investors' patience. Although volatile markets could be unsettling, conducting regular reviews ensures that you're prepared to weather downturns. A well-diversified and balanced portfolio can help cushion the impact of market fluctuations.

Without timely reviews, portfolios might deviate from their intended asset allocation or risk tolerance, leading to suboptimal performance. Therefore, conducting a periodic Mutual Fund Portfolio Review (MFPR) is essential to realign investments with financial goals, minimise risks, and capitalise on opportunities presented by the current volatile market.

Why Reviewing Your Mutual Fund Portfolio Is Crucial

1. Reassessing Risk Tolerance

A volatile market often exposes investors to levels of risk they may not have anticipated. When you review your mutual fund portfolio, it allows you to evaluate whether your current investments align with your risk appetite. For example, an aggressive investor in their early 30s may be comfortable with high equity exposure, while someone nearing retirement may prefer a conservative debt-oriented allocation.

2. Realigning Financial Goals

Life stages and financial goals evolve. A fund that suited your goals five years ago may no longer be relevant today. A portfolio review ensures that your investments remain in sync with your objectives, whether it's wealth creation, buying a home, or retirement planning.

3. Tracking Fund Performance

Not all funds perform consistently. A portfolio review allows you to evaluate whether your mutual funds are delivering returns in line with their benchmarks and peers. For instance, if a mid-cap fund is underperforming its category for several quarters, it may be time to switch to a better-performing fund.

4. Adapting to Market Conditions

Different market conditions favour different types of funds. During a bull run, growth-oriented funds might excel, but in volatile or bearish markets, value or contra funds could provide stability. Reviewing your portfolio helps in shifting allocations to funds that may better withstand market turbulence.

5. Balancing Asset Allocation

Over time, the performance of funds may skew your asset allocation. For example, a significant rally in equity markets might increase your equity exposure beyond your desired level. Periodic reviews help in rebalancing the portfolio to maintain the right mix of equity, debt, and other asset classes.

Key Steps to Conduct an Effective MFPR

1. Define the Purpose of the Review

Before diving into numbers, clarify the intent behind the review. Is it to rebalance your portfolio, exit underperforming funds, or reduce risk exposure? Clear objectives will streamline the review process.

2. Evaluate Fund Performance

Look at your funds' returns over various time frames-1-year, 3-year, and 5-year horizons. Compare their performance with the benchmark index and peer funds in the same category. However, don't rely solely on past performance; assess whether the fund manager's strategy aligns with current market conditions.

3. Analyse Expense Ratios and Exit Loads

High expense ratios can affects your returns over time, especially for actively managed funds. Similarly, review the exit load structure before making any changes to your portfolio.

4. Assess Risk Metrics

Use metrics like Sharpe Ratio, alpha, beta, and standard deviation to understand the risk and return profile of your funds. Funds with high volatility (beta) may not be ideal in the current environment unless they're part of a well-diversified portfolio.

5. Check Portfolio Overlap

Diversification is a key principle in mutual fund investing, but excessive overlapping among funds can reduce effectiveness. For instance, holding multiple large-cap funds with similar stock holdings doesn't provide additional diversification.

6. Review Sector and Geographic Exposure

Certain sectors or geographies may face prolonged challenges in volatile markets. For example, funds heavily invested in tech or export-driven companies might underperform during a global economic slowdown.

To summarise...

The current market volatility underscores the importance of a Mutual Fund Portfolio Review. It is not a one-time activity but an ongoing process to ensure your investments are working hard for you in changing economic landscapes. A well-reviewed portfolio is better equipped to navigate market uncertainties, providing stability and growth.

By adopting a disciplined approach to reviewing your mutual fund portfolio, you can stay on track to achieve your financial goals, even amidst the most challenging market conditions. Don't wait for the next market downturn to take action; schedule your portfolio review today and safeguard your financial future.

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Hiral Bhuta is a Investment Consultant & Principal Officer. She is a seasoned professional in the financial services industry, currently serving as an Investment Advisor and Financial Planner at PersonalFN. With her expertise, she plays a pivotal role as the Principal Officer appointed under SEBI's amended IA Regulation. Hiral holds distinguished certifications such as Certified Financial Planner (CFP) and NISM XA & XB, complemented by a post-graduate degree in commerce (M. Com). Her primary areas of focus encompass financial planning, investment advisory, and wealth management, where she leverages her knowledge and skills to provide tailored solutions to clients. With a cumulative experience spanning five years, Hiral brings a wealth of expertise and insight to her role at PersonalFN, ensuring clients receive expert guidance and support in navigating their financial goals.
 

Disclaimer: Investment in securities market are subject to market risks, read all the related documents carefully before investing.
This article is for information purposes only and is not meant to influence your investment decisions. It should not be treated as a mutual fund recommendation or advice to make an investment decision in the above-mentioned schemes.