As more and more people are becoming aware of the fact that they can’t achieve their Financial goals via locking their money into “FD’s”, which used to be the norm before. You might have heard your dad saying this to you whenever you had some surplus money “FD karwalo beta, safe hai”. Well, now most of you might have realized that “safe” won’t help you to reach your financial goals.

So, yeah, you decided to invest your money via mutual funds, because “mutual funds sahi hai”, so, is the job done? Well, Not yet, if you don’t have adequate knowledge, you might F* things up, which will eventually result in mediocre returns.

So, in this article, we’ll be discussing the most common mistakes that people make while investing in Mutual funds.

Let’s dive right in.

Mistake number 1: They don’t allow compounding to happen!

It is said that “compounding is the 8th wonder of the world”, well it looks like most people don’t understand the most important element of compounding, and that is “TIME”.

Most of us invest because we want to get some fast returns, so when the markets don’t perform as we thought they would (in the short term), we tend to get frustrated and break our MF’s or other investments.

Another reason why they can’t stay invested for a longer time is that they don’t plan their investments, they put in a lot of money at once, and when they need some funds for some emergency, they don’t have any other option left other than breaking their MF’s, and other investments.

We forget the fact that to make exponential returns, we have to stay invested for a longer time frame (more than 5 years), and only then we’ll see the power of compounding, give it time, a lot of time.

Mistake Number 2: Investing in a Regular fund.

See, every mutual fund is available in two types, a Regular plan, and a direct plan.

So, what’s the difference between the two types, you would ask? Well, the only difference is that when you invest in mutual funds via a regular plan, you have to pay a higher expense ratio, as compared to what you would pay if you choose to go with a direct plan.

Why so? The mutual fund is the same, the manager is the same, the holdings are the same, so why does a regular plan have a higher expense ratio than the direct plan.

It’s because whenever you are investing in a regular plan, some cut of the expense ratio goes to the mutual fund distributor (most of the time these regular plans are sold by bank agents.) That’s why you have to pay a higher expense ratio.

The expense ratio is the annual fee that is charged by every mutual fund, It is a measure of the annual fund operating expenses of an investment fund, A fund’s management fee is also included in the expense ratio.

Here you can see the difference between the expense ratios of the direct plan and the regular plan of the Parag Parikh Flexi cap fund.

You are basically paying a 1.02% higher expense ratio if you choose to go with the regular plan, so if you are doing a SIP of 1000 Rs every month, you are basically giving 10.2 Rs to the mutual fund distributor, every month.

So, a SIP of 10,000Rs per month over the past 7 years in the direct plan of Parag Parikh Flexi cap fund would have yielded you 19.35 lakh.

But, if you had invested the same amount in the regular plan, you would have only made 18.75 Lakh, 60k less than the direct plan.

Why pay 60k extra to a mutual fund distributor, when you could just invest into the direct plan of that fund.

Mistake number 3: “DI-WORSIFICATION”

When you are investing in a mutual fund you are basically investing in a basket of stocks, debt instruments, etc

Now, if you invest in too many funds, you are most likely investing in similar stocks, instruments, but you are paying fees to many funds, which lower your overall returns in the longer term.

You will find brokers, agents promoting new schemes every now and then, because, that’s how they make money, and also most investors just get bored of investing in the same funds, thanks to shiny object syndrome, they decide to invest in a new scheme, and then a new one, cause hey, it just takes a few minutes to invest, right. Well, that’s why most investors can’t even get “avg returns”.

So, It’s always advisable to invest in not more than 2-3 mutual funds, and if the funds that you are holding have more than 50% overlap in their holdings, you should consider selling them and consolidating your investments.

Mistake number 4: Investing in sectoral funds based on short-term performance.

This is one of the big mistakes that new investors make, i.e they would look at the short-term performance of a sectoral fund, which is likely to be way higher than that of a large-cap fund, or a Flexi cap fund.

So, if something is giving more return in the short term, does it make it a better investment? Well, no, because usually this “outperformance” by the sectoral funds also leads to higher drawdowns, and also, by looking at the short term performance you can’t know whether that fund will continue to give the same results in the future or not, chances are that it will not.

So, it’s very important to not invest your money based on the short-term (1-2year) performance of a fund.

Mistake number 5: Choosing funds just on the basis of the Expense ratio.

Though expense ratio is one of the factors that will have an impact on your returns in the longer term, so most people prefer investing in funds that have a low expense ratio.

Well, you might be making a big mistake here. How?

See, the heart of a mutual fund is its manager, who manages your money on your behalf, so all the decisions, like which stocks to buy, how much to buy, when to buy, are taken by him. So basically if the fund manager is really good and has performed comparatively well over others in the long term, then even paying a bit higher expense ratio is worth it.

Let’s understand it through an example.

Say a fund “X’ has given 20% returns over the past 7 years, its expense ratio is about 1.5%, on the other hand, there is another fund “Y’ which has given 12% return over the past 7 years but its expense ratio is very low, about 0.5%.

So, which one is better?

See, if the fund is really good, it might not be a bad idea to pay a bit higher expense ratio. Bottom line is that you should not invest in a mutual fund just by looking at its expense ratio.

Mistake number 6: Not Analysing your Risk Profile

Everyone’s different, so is their risk appetite, but most people make this mistake of applying a “one shoe fits all” kinda approach towards their investments.

Like if you are in your 20’s and 30’s, you can take a higher risk than those who are in their 40’s and 50’s.

The goal is to match your risk profile with the fund’s risk profile like you would not want to be in a small-cap fund if you are in your 40 or 50’s and your risk appetite is very low, Debt and dividend funds might be a good option for you, whereas someone who is in their 20’s, who has a higher risk tolerance, should invest in Equity growth funds.

Bottom line is that you should evaluate your and your fund’s risk profile, and only then invest in it.

So, that’s for today from our side, we hope that you learned something from this article, please, do share it with your friends over social media for good karma ;)

Thanks for reading!