Finding the Sweet Spot: How Many Mutual Funds Do You Need?
25 July, 2024
Synopsis
There's no fixed rule about the number of mutual funds that an investor should invest in. However, the thumb rule is to have a diversified portfolio with 4 to 5 different types of funds.
A diversified fund portfolio typically has exposure to equity, debt, gold, different sectors and global markets.
Over-diversification should be avoided to ensure that the portfolio is easily manageable.
A portfolio should be aligned with personal investment objectives, risk tolerance, and time horizon while avoiding over-diversification for ease of management.
If you are new to mutual funds, shopping for mutual funds can be a challenging task. Even after you have managed to zero in on the best funds for your specific investment needs, the job is still not done. Let’s try and make it simple by answering a question that may be bothering you the most:
How many mutual funds should one invest in?
While there is no set strategy for the number or types of funds one should have in their mutual fund portfolio, it’s best to stick to a group of funds that you can manage and track easily. Factors like stock or bond overlaps, weightage to a specific asset class and investment objectives should be considered.
The Importance of Diversification
Firstly, it's essential to understand that there is no one-size-fits-all solution when investing in mutual funds. The number and types of funds you should invest in should depend on your investment objectives, risk tolerance, investment horizon and overall financial situation.
That being said, having a diversified portfolio that includes different types of mutual funds is generally considered ideal. Diversification is a fundamental principle in investing, as it helps to spread your risk across different asset classes, sectors and investment styles. By not putting all your eggs in one basket, you can potentially minimise the impact of market fluctuations on your overall portfolio.
Types of Mutual Funds
Let’s understand the primary types of mutual funds and discuss how you can create a well-rounded investment portfolio.
Equity Funds
These funds are invested primarily in stocks. Equity funds can be further classified based on the market capitalisation of the companies they invest in (large-cap, mid-cap, small-cap), the sectors they focus on (such as technology, healthcare or banking), or the investment style (growth, value or a blend of both).
Debt Funds
Debt funds invest in fixed-income instruments like government, corporate and money market instruments. These funds are generally considered less risky than equity funds. They can provide steady, albeit lower, returns compared to equity investments.
Hybrid Funds
As the name suggests, hybrid funds invest in both equity and debt instruments. These funds aim to balance risk and return by investing in asset classes.
Index Funds
Index funds track a specific market index, such as the Nifty 50 or the Sensex. These funds aim to replicate the performance of the underlying index by holding the same securities in the same proportions as the index.
Sector Funds
Sector funds invest in companies operating within a specific industry or sector, such as technology, healthcare or banking. These funds can provide exposure to specific sectors that may be performing well or offer potential for growth.
International Funds
International funds invest in stocks or bonds of companies located outside India. These funds can help diversify your portfolio by providing exposure to different economies and markets.
Creating a balanced Portfolio
Now, let's address the question, "How many types of mutual funds should one invest in?" The answer lies in creating a balanced, diversified portfolio that aligns with your investment targets and risk profile.
As a general guideline, you can start with three to four different types of mutual funds, such as an equity fund, a debt fund, and potentially a hybrid fund or an index fund. This strategy can help you achieve diversification across asset classes and investment styles. However, it is recommended that you consult a financial advisor for setting your financial objectives and create investment plans for them.
Avoid Over-Diversification
It's important to note that diversification doesn't necessarily mean investing in an excessive number of funds. Having too many funds in your portfolio can make it difficultto monitor and manage your investments effectively. It can also lead to overlapping of the underlying securities of two or more funds.
Periodic Review and Rebalancing
It's crucial to periodically review and rebalance your portfolio to ensure that your asset allocation remains aligned with your investment objectives and risk tolerance as your circumstances or market conditions change over time.
Patience and Discipline
Remember, investing in mutual funds is a long-term endeavour, and it's essential to have patience and discipline. Consult a professional financial advisor who can guide you in creating a well-diversified portfolio that suits your needs and targets.
To wrap up, always conduct thorough research, read the fund's prospectus and understand the associated risks before investing in mutual funds. Being an informed investor can significantly increase your chances of success in mutual fund investing.
Download the HDFC Bank SmartWealth App from Playstore/Appstore to create a well-diversified portfolio that fits your financial dreams and risk appetite.
Disclaimer: This communication has been prepared on the basis of publicly available information, internally developed data and other sources believed to be reliable. HDFC Bank Limited ("HDFC Bank") does not warrant its completeness and accuracy. This information is not intended as an offer or solicitation for the purchase or sale of any financial instrument / units of Mutual Fund. Recipients of this information should rely on their own investigations and take their own professional advice. Neither HDFC Bank nor any of its employees shall be liable for any direct, indirect, special, incidental, consequential, punitive or exemplary damages, including lost profits arising in any way from the information contained in this material. HDFC Bank and its affiliates, officers, directors, key managerial persons and employees, including persons involved in the preparation or issuance of this material may, from time to time, have investments / positions in Mutual Funds / schemes referred in the document. HDFC Bank may at any time solicit or provide commercial banking, credit or other services to the Mutual Funds / AMCs referred to herein.
Accordingly, information may be available to HDFC Bank, which is not reflected in this material, and HDFC Bank may have acted upon or used the information prior to, or immediately following its publication. HDFC Bank neither guarantees nor makes any representations or warranties, express or implied, with respect to the fairness, correctness, accuracy, adequacy, reasonableness, viability for any particular purpose or completeness of the information and views. Further, HDFC Bank disclaims all liability in relation to use of data or information used in this report which is sourced from third parties.
HDFC Bank is a AMFI-registered Mutual Fund Distributor & a Corporate Agent for Insurance products.
