How to read a mutual fund fact sheet

For a number of investors, the fact sheet serves purely as a reminder that they are invested in schemes from a given mutual fund house.

The best response its arrival elicits is a quick check of the investment's present status or a meeting with the investment advisor to chart the future course of action. However there is much more to the fact sheet than that.

The fact sheet is a storehouse, which can reveal loads of information about the fund. It informs investors where their monies have been invested and how their investments are performing.

Most investors at some time are faced with the query, 'How do I evaluate my mutual fund investment?' The answer to this query lies in the fact sheet as well.

While publishing the fact sheet is a statutory requirement (for the purpose of disclosing portfolios), it often acts as a mouthpiece for the Asset Management Company (AMC) as well.

The AMC's view on the markets, its future course of action and strategies are some of the points you can expect to find in the fact sheet. From the investor's perspective, the key lies in being able to identify the relevant bits, reading between the lines and blocking all the noise. In this article we present pointers for the same.

Equity-oriented funds

Diversified Equity Funds

Investment objective: The fund's investment objective lays out its area of operations, management style and what the fund aims to achieve. Investors should check if the fund manager has adhered to his mandate at all times.

For example an investment objective could read, 'The scheme aims to generate long-term capital appreciation by investing in equity and equity related instruments and fixed income securities. The fund will only invest in stocks of the large cap variety. While the fund aims to predominantly invest in equity and equity related instruments, it could invest a substantial portion of its assets towards fixed income securities if required.'

In the above case if the fund manager invests in stocks from the mid and small cap segments, despite a mandate to the contrary, it would reveal the opportunistic streak in his fund management style. This in turn is indicative of the disproportionately high-risk levels, the fund exposes its investors to.

Sectoral allocation

A diversified equity fund is expected to invest across various sectors and thereby grant investors the benefits of diversification. A concentrated portfolio across a few sectors enhances the fund's risk profile and makes it prone to volatility.

Funds at times tend to have allocations as high as 25 per cent in a single sector. While the same could be indicative of the fund manager's confidence in stocks from a given sector, it also makes the fund an over-leveraged one.

Another area to watch out for is the presentation of sectors. The fact sheet might be window dressed to make it appear like a sectorally well-spread one. For example, similar sectors like auto, auto ancillaries and two wheelers might be presented as distinct ones. Investors should club similar sectors to judge the degree of sectoral diversification (or lack of it).

Performance

Fact sheets present returns clocked by the scheme across time horizons like 1-year, 3-year and since inception. Investors should focus their attention on the fund's performance over longer time horizons like 3 years and more. The fund's ability to clock impressive returns consistently over longer time horizons is a true indicator of its worthiness. Impressive performances over shorter time frames could be a 'flash in the pan' and it would be inappropriate to draw conclusions or make investment decisions based on them.

Returns delivered by a fund in isolation reveal very little about the fund. Study the fund's performance vis-à-vis its benchmark index; also compare the fund's performance with that of similar-natured funds from other fund houses.

Top stock picks

The share of net assets accounted for by the top 10 stock holdings can reveal how well-diversified the fund is. For example a fund might hold a large number of stocks (say 50-60 stocks) in its portfolio; however if the top 10 stock picks account for 60 per cent of the net assets, the fund would qualify as a top-heavy and concentrated one.

Such a fund could be a candidate for volatility thanks to the high concentration levels. Similarly consistency in the top stock holdings can also reveal a lot about the fund's management style, for example a high churn would be indicative of an aggressive fund with a high risk profile.

Expense ratio, loads and other measures

A responsive fund house will inform its investors of the fund's expense ratio and other factors, which have a vital bearing on the fund's performance. For example, high expenses for the fund eat into investors' returns.

Similarly the load structure i.e. entry and exit loads represent the price an investor pays to participate in the fund. Like expenses, loads too have a direct bearing on the returns.

Other measures like Standard Deviation and Sharpe Ratio (albeit not required to be declared statutorily) can reveal a lot about the fund. Standard Deviation measures the degree of volatility a fund exposes its investors to, while the Sharpe Ratio measures returns delivered per unit of risk borne.

Find out if your fund provides you with information on these parameters and how it fares on the same.

Balanced Funds

A balanced fund is a hybrid instrument that holds both equity and debt. While factors like performance, top stock picks and sectoral allocation are equally relevant while dealing with the equity component, one area which deserves special mention is the investment objective.

 Investment objective

A balanced fund's investment objective can reveal its risk profile. For example a fund which purports to invest upto 75 per cent of its corpus in equities could be termed as a far more risky fund vis-à-vis one which invests just 60 per cent in equities.

Also the fund's adherence to its mandate should be studied closely. It is common to see balanced funds exceed their stated equity mandate during a bull run with a view to clock superior returns. Study the equity component held by your balanced fund during a bull run and bear phase alike, it will disclose the fund's true nature.

On the debt component front, the credit and maturity profile of the instruments are areas to watch out for. If the debt component is populated by lower rated paper, for example of AA rating or below, the same is indicative of the credit risks the fund manager is taking on.

Conversely, a debt component dominated by AAA rated instruments, sovereign paper like government securities will point to a conservative approach.

The maturity profile of debt instruments also offers an opportunity to peek into the fund manager's stance. In an uncertain interest rate scenario like the present one, a cautious balanced fund would typically hold instruments with a shorter tenure like treasury bills, call money instruments, floating rate paper or a higher cash component.

On the other hand, if the balanced fund is invested in longer tenured instruments, the same should be read as an attempt to clock higher growth by taking interest rate risks.

DON'T MISS TOMORROW: How to read a debt-oriented fund fact sheet

This article forms part of Money Simplified -- The definitive guide to Mutual funds. Empowered with this issue, you will be able to exercise better control in planning your mutual fund portfolio. This guide will serve as your definite reference point for mutual funds. Get your FREE copy now! Click here