Think before investing in new fund offers

It's that time of the year when it is raining NFOs and mutual fund companies are all set to aggressively market them. Very often, for an average investor the decision of investing in a NFO versus choosing from among the existing mutual funds could be quite a predicament.

Which one actually serves as a better option? Investment Yogi explains the most basic aspects of both the options, helping you make a wise decision.

Existing mutual funds: The pros

Most financial experts propagate that before making any investment, it is essential to do a bit of research. Factors such as track record and fund managers expertise are vital considerations to be made.

Fund track record

The best indicator of whether a fund is being managed well or not is to have a peek into its track record. Evaluation of an existing fund's past performance, say for the last 3 to 5 years or so, gives a picture of the funds capability of delivering returns.

A consistent track record indicates the fund's sustenance, and one could expect similar results in the future too. An NFO loses out on this aspect. With no past record, predicting its performance could get pretty impossible. One has to constantly keep guessing whether the fund would do well or not.

Mutual fund charges

In comparison to existing funds, NFOs generally quote high charges. This is to recover the charges associated with marketing, publicity, and commissions that need to be given to agents and distributors. A SEBI rule permits AMCs to collect marketing expenses of up to 6% from the collections of an NFO issue.

Such costs are generally recovered from the investor in the initial few years of the scheme. No wonder we often see sales executives pushing NFOs more than existing funds. In a scheme that has been in existence for say 5 years, such costs would have already been recovered.

The above two points however does not mean one should not look at NFOs.

When to invest in NFOs

Though various experts vouch strongly for existing mutual funds, one could still consider investing in NFOs under certain situations.

Funds offering something new

The last year saw various fund houses launching funds, very similar to existing ones, and at a higher brokerage cost. With the SEBI clampdown on new funds in the later part of 2010, fund houses are now launching funds that vary from the already existing ones.

As an investor, the first thing to look out for in a NFO is what exactly it offers. Does it offer something new? For example, a real estate investment, a silver or gold ETF fund, or an overseas fund in a specific sector etc... If the investment is in a new asset class that existing funds don't have in offer, it is worth considering. But do check if the fund matches your investment objective and your risk appetite. The offer document of the fund would give you an insight into this.

To sum up, investing in an NFO would prove rewarding only if the fund is able to provide a value advantage to your existing portfolio.

Points to keep in mind when making an investment in mutual funds

Irrespective of whether it is an existing mutual fund or an NFO, when making your choice, a critical evaluation of the following factors is a must. This would help you compare the available schemes and choose the most suitable one.

Your investment need

It can be stressed again and again that a sound investment portfolio stems from identifying one's financial need. What is your need? Is it long term financial commitments or for short term payments or parking of funds etc... You would need to have a proper clarity. Choose a scheme that meets your financial need the closest.

Understand risks

Understand your risk appetite. Different funds carry different levels of risks depending on the ratio of debt to equity. So ensure you are comfortable with the scheme portfolio before taking the plunge. Also remember, whether it is a fund with a face value of Rs 10 (as in the case of NFO) or a fund with NAV of Rs 200 (for existing funds), both are finally linked to market performance. So the chance of earning money or losing is in both, owing to the underlying risks associated with any mutual fund investment.

Quality of portfolio

Earning positive returns from a fund depends on the way the portfolio is managed. So whether it is an NFO or a long running scheme, the composition of the portfolio, sectoral investments, etc... needs to be evaluated. Even in a NFO issue, having knowledge about the fund manager and an idea of his past fund management experience could give a bit of insight into the management expertise of the portfolio.

Conclusion

As an investor it will be better to go with existing funds unless the NFO is really offering something new and compelling. Since there is no past data for NFOs the risk is higher.