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How Benchmark performance helps you pick the right mutual funds to invest in
Mar 03, 2017
5 mins | Views 40
Are you happy that your Fund gave you 8% return? Congrats! Just hold for a second: Did you notice that a lot of other Funds gave 12% returns?
Similarly, if you are fretting over 1% fall in Fund value, just have a look around. Take solace in the fact that many Funds from the same category fell as much as 5% in value!
The key takeaway from this is: Comparison is the only way to gauge if your Fund (or for that matter, other investments) performed well.
This is where Benchmarks come into the picture.
Setting a benchmark
Every day, you may hear news that the Sensex jumped 300 points or that the Bank Nifty slumped 5%. If you check your portfolio immediately, you may realise that your Funds' value did not fluctuate as much.
In other words, your Funds’ performance did not match those of the indices.
If it gave you more returns than an index—say Nifty, then it is good news! Pat yourself on the back for choosing a good Fund! If it fell in value instead, then it may be time to reconsider that Fund.
Good v/s bad performance
What the Nifty did in the above example is to help you understand whether your Fund performed well or not. This goes for all benchmarks and depends on the Mutual Fund Scheme you choose to invest in. They help you distinguish between the good and the bad. Otherwise, you will never be able to figure out if the return you are getting is good enough.
Select the right Fund
The benchmark also indicates if there are better options available. A Fund that consistently outperforms a Benchmark is the right option. Point to note is ‘consistency’. Yes, the past performance only indicates, not promises, future returns. But, the consistency factor can help you trust the Fund manager. This means the Benchmark can help you evaluate the Fund manager’s performance. This brings us to the next point.
Benchmark as an end goal
Fund managers use benchmarks too; it acts like the Bulls Eye in a game of Darts. The Benchmark becomes the starting point for Fund managers. Let’s understand:
Suppose the Sensex is the Benchmark. The Fund manager looks at the 30 stocks that form the index. He or she then decides what proportion to invest in these 30 stocks and if they should replace or add more stocks. The end target, eventually, is to make more profits than the Sensex.
Remember, though, not all benchmarks are same!
You can’t compare a good apple with a raw orange. Similarly, you cannot compare the performance of a Debt Fund with an Equity index such as Sensex. This is why you should use the right Benchmark or you set yourself up for failure.
Also, check if your Fund manager uses the right Benchmark. This is for two reasons. One, the manager may get the end goal wrong altogether. For example, he may target a 5% return because of the wrong benchmark when he could easily target an 8% return.
The bottom line is; blindly trusting numbers is a recipe for disaster.
Use a wide array of indices to compare your Funds while deciding to invest. This is your first line of defence from failure.
Mutual fund investments are subject to market risks, read all scheme related documents carefully.
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