a recurrent topic of discussion among investors is whether the financial markets are more volatile and riskier than in the past. Though opinions vary, many investors believe that the markets are more volatile and are therefore worried about reducing their risks without affecting their potential returns. In the long term, one of the best ways to lower a portfolio’s risk and still earn attractive returns is to diversify. The best tool available to investors to diversify and thereby reduce risk is mutual funds.
To hold a diversified portfolio is the best strategy because most people want their investments to meet a number of different goals. Investing in mutual funds is the ideal way of pooling resources to achieve one’s financial goals. While no single investment can achieve all goals, each one can make an important contribution to the long-term objective.
For example, money market mutual funds can provide a foundation of stability and liquidity that is ideal for the cash reserve an investor may need to tap on short notice. Bond funds, on the other hand, provide steady, high income, while equity funds have the greatest potential for superior, long-term returns and protection against inflation.
The advantages of investing in mutual funds are many. These include low minimum investment, easy liquidity, automatic reinvestment, systematic investment and hassle-free withdrawal.
Most mutual funds require an initial investment that is within the reach of the average investor. With low minimum investments, it is easy for investors to build a diverse portfolio fairly quickly. Mutual funds offer an easy exit option. Investors can encash any or all of their units on any trading day. They have the option to automatically purchase more units by reinvesting dividend distributions. They can request for regular payments by systematically withdrawing from their plans. Investors can also transfer an investment from one fund to another within the same fund house.
Experienced, full-time people manage each mutual fund. These professional money managers research market and economic trends. Using the information, they decide when to buy or sell securities to increase return. The money managers keep tabs on individual holdings and the overall performance of particular markets, adjusting the portfolio for the strongest possible performance. They also strive to achieve specific objectives, such as long-term growth or aggressive growth.
With the economy expected to grow at a robust rate and interest rates remaining low, it is believed that equity and debt markets are heading for better days. Though the debt markets will be range bound in the near future, high liquidity, low inflation and strong dollar inflows are expected to keep yields soft, interspersed with a relatively higher level of volatility. An investor should also periodically invest in equities. For a fairly long-term investor, equity markets, at present, will continue to give better returns than the debt markets.
(The author is chief investment officer, UTI Mutual Fund. The views expressed in this article are his own)