Diwali cleaning but for your investments: How to remove risky, underperforming assets from portfolio Underperforming mutual funds might be dragging down the overall returns. You need to identify these unwanted elements and realign the portfolio to match your risk tolerance. This will not only help improve returns, but also ensure that you achieve your financial goals with ease. Lets start the exercise with a simple question: How many stocks and mutual funds do you have in your portfolio?
It’s Diwali week and you must be busy cleaning up the house. As you remove the useless stuff and clear the clutter, do the same for your investment portfolio. You might have some poor quality stocks that enhance the portfolio risk. Underperforming mutual funds might be dragging down the overall returns. Or you may have simply invested in too many schemes, making the portfolio unwieldy and difficult to monitor. There could also be some tax-inefficient instruments in the portfolio.#sr_widget.onDemand p, #stock_pro.onDemand p{font-size: 14px;line-height: 1.28;} .onDemand .live_stock{left:17px;padding:1px 3px 1px 5px;font-size:12px;font-weight:600;line-height:18px;top:9px} #sr_widget.onDemand .sr_desc{margin:0 auto 0;} #sr_widget.onDemand .sr_desc{color: #024d99;margin-top:10px;} #sr_widget.onDemand .crypto .live_stock .lb-icon{8px 6px 5px 3px !important} #sr_widget.crypto.onDemand a.text{border-bottom:1px solid #ccc;padding-bottom:5px;display:block;width:100%} #sr_widget.onDemand .sr_desc .text p, #stock_pro.onDemand .sr_desc .text p{font-size:12px;font-weight:400;} You need to identify these unwanted elements and realign the portfolio to match your risk tolerance. This will not only help improve returns, but also ensure that you achieve your financial goals with ease. Let’s start the exercise with a simple question: How many stocks and mutual funds do you have in your portfolio? “If you can’t answer how many funds or stocks you own, it’s a sign you have lost track of your investments,” says Vidya Bala, Co-Founder, PrimeInvestor.in.
Abhishek Wadgaonkar (see picture) reached out to ET Wealth for help in cleaning up his mutual fund portfolio before Diwali. The Aurangabad-based doctor has earned good returns from his aggressive investments in mutual funds. However, his portfolio is heavily skewed towards small- and mid-cap funds. “There is too much froth in the small- and mid-cap space. The past performance of these funds is not likely to be repeated,” warns Raj Khosla, Managing Director, MyMoneyMantra.com.
Market experts are alive to this risk. Many fund houses have stopped accepting lump-sum investments in their small-cap funds. They feel valuations have run up far too much. Other fund managers are sitting on cash, waiting for valuations to come down before they deploy the money. Staying out might mean losing out if stock prices go up further, but it also protects the portfolio against a downturn. “We are cautious and a significant portion (of the small-cap fund corpus) is in cash, and large or mid caps. The market is irrational right now. Hence, we are not chasing returns and focusing on capital protection,” said Anish Tawakley, Co-CIO of ICICI Prudential Mutual Fund, in a conversation with ET Wealth earlier this month.
Investors like Wadgaonkar should take heed of this. Even though he has a high risk appetite and a long-term investment horizon, exposure to the small- and midcap segments should not exceed 40% of the portfolio. Large-cap stocks are more resilient and can deliver stable returns.
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Much depends on the time available. If your goal is very near, even large-cap stocks can be risky. Ravinder Nath (see picture) will retire in two years and his son’s marriage is scheduled next year. Yet, 75% of his portfolio is in stocks and equity funds. “Putting money in equities with a horizon of 1-2 years or less is akin to gambling,” says Rajul Kothari, Partner at investment advisory firm, Capital League. “He needs to rebalance his portfolio towards debt because two of his goals are coming up in the next two years. Prioritising safety and liquidity is essential,” she adds.
Clear the clutter
If reducing the risk of the portfolio is important, so is getting rid of laggards. Experts say investors should periodically review the performance of stocks and funds in their portfolios. Investors have the tendency to accumulate a lot of different mutual funds in their portfolios. “It is not unusual to see mutual fund portfolios with 30-35 different schemes,” says Khosla. Some do so because they want to invest in the best performing schemes. Others try to diversify their holdings by spreading their money across multiple schemes.
Abhishek Wadgaonkar,40 years, Aurangabad:Reduce risk by cutting exposure to small- and mid-cap funds.Note:An aggressive investor, he has earned good returns from small- and mid-cap funds. He has a significant exposure to these segments, with small-cap funds accounting for 18% of his Rs.1.4 crore mutual fund portfolio, while mid-cap funds constitute 27%. The remaining 55% is in flexi-cap and large-cap equity funds.
EXPERT ADVICE:RAJ KHOSLA,MANAGING DIRECTOR,MYMONEYMANTRA.COM
Note:“There is too much froth in the small- and midcap space, and the past performance is not likely to be repeated. Even in normal times, the allocation to the small- and midcap segments should not exceed 40%. Shift out of some small- and mid-cap funds to reduce the risk in the portfolio.”
Both are wrong reasons to invest in more funds. Winners change every year, so an investor will end up adding more funds to his portfolio if he chases returns. Meet Anita Rao (see picture), who has been investing in mutual funds for the past 6-7 years. She started with an ELSS scheme to save tax, but stopped when its performance slipped after a few years. Then she started SIPs in the best performing schemes. Some ETFs also caught her eye. An adviser convinced her to invest in NFOs. Over the years, Rao has accumulated 32 schemes in her portfolio. “My portfolio may have too many funds, but this also makes it well diversified,” she contends.
Anita Rao,35 years, Bengaluru:Review fund performance and get rid of consistent laggards.Note:She started investing in an ELSS fund to save tax six years ago, but stopped when its performance slipped. Then she started SIPs in the best performing schemes, ETFs and NFOs. Over the years, she has accumulated 32 schemes in her portfolio. She believes this makes her portfolio well-diversified.
EXPERT ADVICE:VIDYA BALA,CO-FOUNDER,PRIMEINVESTOR.IN
Note:“Holding too many funds runs the risk of delivering mediocre returns. When you invest in more schemes, you can upset the original risk profile of the portfolio. It is also possible that the new scheme merely duplicates the strategy already being followed by another fund in the portfolio.”
That’s a widely held misconception. Investing in multiple schemes does not really diversify the risk. “When you invest in more schemes, you can upset the original risk profile of the portfolio. It is also possible that the new scheme merely duplicates the strategy already being followed by another fund in the portfolio. Besides, holding too many funds runs the risk of delivering mediocre returns,” cautions Bala.
This Diwali, throw out the funds that have consistently underperformed their benchmarks and the respective categories for more than 2-3 quarters. If there are a couple of identical funds in the portfolio, keep the one that has a higher rating and junk the others. This will optimise your returns.
Rebalance the portfolio
Diwali is also a good time to rebalance your portfolio. As any investor would know, asset classes do not move in the same direction or at the same pace, and the differential growth changes the complexion of the portfolio mix over time. For instance, equities have risen by about 35%, gold by 27% and fixed income options have delivered 7-8% returns since last Diwali. If,one year ago, your desired allocation was 60% in equities, 30% in fixed income and 10% in gold, the equity allocation would have increased to around 65%, while the allocation to debt would have shrunk to 25%. The portfolio is now exposed to more risk than you may be comfortable with.
Ravindra Nath,58 years, Pune:Goals are very near so get out of volatile assets.Note:A long-term investor, he has almost 75% of his Rs.1.5 crore portfolio allocated to equities. The mutual fund portfolio is a mix of small-, mid- and largecap funds. He also invests in stocks directly. Nath is scheduled to retire in two years and the marriage of his elder son is likely next year. Another son may get married in 3-4 years.
EXPERT ADVICE:RAJUL KOTHARI,PARTNER,CAPITAL LEAGUE
Note:“He needs to rebalance his portfolio towards debt because two of his goals are coming up in the next two years. Hence, safety and liquidity are essential. Move out of direct stock investments to fixed deposits or arbitrage funds for the marriage due next year. Switch from equity to debt funds a year before the next wedding.”
“To avoid this, you must periodically review and rebalance your investment portfolio,” says Bala of PrimeInvestor.in. “Revisit your original asset allocation, identify significant deviations, and exit underperformers or redundant investments,” she adds. Rebalancing controls the risk by restoring the original asset allocation. Back-testing studies show that investors who regularly rebalance their portfolios and stick to a predetermined asset allocation tend to do better than the investors who keep their portfolios static and let them flow with the market.
“A deviation of five percentage points or more from your original allocation is usually a sign that rebalancing is needed,” says Bala. She recommends conducting a half-yearly portfolio review and annual rebalancing, noting that no rebalancing may be necessary if the portfolio is wellaligned.
Get rid of tax inefficiency
Keep tax in mind while reviewing and rebalancing your portfolio. Investors tend to go for fixed-income instruments because they provide assured returns, but don’t take into account the post-tax yield. Fixed deposits and bonds may appear stable, but their returns after adjusting for taxes and inflation can be disappointing. For example, if the investor is in the 30% tax bracket, a fixed deposit offering 7% returns will yield just 4.9%. “After accounting for inflation, the real return could be negative,” says Prableen Bajpai, Founder of Finfix Research and Analytics.
Sanjay Parashar,31 years, Jaipur:Go for arbitrage funds instead of taxinefficient fixed deposits.Note:Though he invests mainly in equity mutual funds and stocks, he has also put Rs.10 lakh in fixed deposits as part of the fixed-income portion of his portfolio. However, the returns are not very good because in the 30% tax bracket, the yield comes to less than 5%.
EXPERT ADVICE:PRABLEEN BAJPAI,FOUNDER, FINFIX RESEARCH & ANALYTICS
Note:“Interest from fixed deposits is fully taxable. Debt funds are a better alternative even though there is no indexation benefit anymore. The gains are taxed only at the time of withdrawal. Arbitrage funds can give higher returns and gains of up to Rs.1.25 lakh are tax-free after a year.”
That’s something worrying Sanjay Parashar (see picture). The Jaipur-based finance professional invests in equity funds and stocks, but also has about Rs.10 lakh stashed away in fixed deposits. Bajpai says Parashar should shift from fixed deposits to debt funds or arbitrage schemes. “Interest from fixed deposits is fully taxable. Debt funds are a better alternative even though there is no indexation benefit anymore. Arbitrage funds can give higher returns and gains of up to Rs.1.25 lakh are tax-free after a year,” she says.
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This story originally appeared on: India Times - Author:Faqs of Insurances
