The ‘When And ‘Why Of Selling Equity Mutual Funds

Exiting a particular equity mutual fund is, at most times, triggered by a panic reaction to the behaviour of the stock market. This should not be the case. Investors need to be clear in their mind about the motive behind making such an exit and then timing it right

There are various kinds of mutual fund investors in accordance with thought processes and inclinations. Some of them believe that having once bought a fund, it’s all right to remain invested forever and thereby create wealth. Then there are others who think that the best policy lies in getting out of a fund if it is fetching lower returns. In addition to these two extremes, there are investors who squat in the middle and neither marry the fund nor are in a hurry to move out of the fund without prior due diligence. For some investors, the rate of return is the enticement factor and hence they constantly seek funds that give them higher returns.

However, investors need to be extremely careful while exiting their equity mutual funds. In this article, we are going to discuss when you should consider ditching your equity mutual fund. But before moving deep into it, it’s important to understand that mutual funds are not stocks. And hence, it does not in any way mean that a decline in the stock market should trigger exit from mutual funds. Stocks are individual entities, whereas mutual fund schemes are portfolios of stocks. And hence it would be futile to engage in market timing to exit from a fund. So, when should you sell your equity mutual fund? Here are some salient factors:

Achievement of Financial Goals

You may need to sell your mutual funds if you have achieved your financial goals. This is obvious because you have been saving for a particular set of goals. Goal-based investment is one of the best ways to invest in mutual funds as you know beforehand why you are investing. It is like deciding your destination prior to starting the journey and coming to rest once you have reached there. Further, if your long-term goals are nearing, then you might need to switch from an existing portfolio to a low-risk debt portfolio. This will ensure that your investment plan does not get impacted due to any sudden volatility in the market. For instance, the current sharp fall in the market may tempt you to shift your accumulated corpus to safer securities if you are nearing your goal.

Underperforming Fund

At times it happens that the fund you have selected might turn out to be a bad one. That is because the fund’s dynamics might have changed in a way that has made it fall from the top to the bottom. Moreover, it should not surprise you that the worst fund may turn out to be the best and the best fund taking a turn for the worse over just a single quarter. Hence, continued underperformance might be the trigger for the investor to sell the units. However, before you decide to exit, you should compare the scheme with its benchmark, category and also look at its portfolio. This will help you to find out whether the scheme is actually underperforming or the entire category is sailing in the same boat. Further, if your mutual fund is underperforming for two to three quarters back-to-back, then it is prudent to check the reason behind it before you decide to redeem it or making a switch. However, this should be done only if your goal is of short-term duration. In case you have a long-term goal, you can give the fund some more time.

Fund Manager’s Exit

Though this is not a clear trigger to exit from a fund, it does tell you to be cautious. As we all know, a fund manager plays a crucial role in the performance of a fund. Hence, it makes sense to check the new fund manager’s previous experience and performance. Further, you should also wait for two to three quarters to judge his or her fund management skills 

Change in Fundamental Attributes

At times, it happens that due to a change in fundamental attributes, the fund might not be adhering to its previous investment objective. In such a case, it is prudent to move out of that scheme as it no longer would be aligned to your investment objective. For instance, it may have been dedicated to large-caps when you had invested in the fund but has then changed its category. Such a change requires a thorough revision of the fund to understand its suitability with a change in its attributes.

Rebalancing the Portfolio

While crafting a portfolio, it is always recommended to adopt an asset allocation strategy for investing. Further, to manage the risk, it is important to rebalance your portfolio periodically, usually every year. Rebalancing is nothing but restoring your pre-determined asset allocation to which you would like to adhere to. Rebalancing helps to bring the portfolio back to its original state if in case its allocation gets more inclined towards any particular asset. In such a situation, you might have to sell or purchase more units of a fund in order to reset your asset allocation. 

Switch in Ownership

Every fund house has its own investment philosophy to which it adheres and takes investment actions. However, if a fund house is being acquired by someone else, then there are chances of change in the investment culture and philosophy. If you come across any such developments then it is advisable to be cautious. Recently, we have seen many such cases: Pramerica Global Investment Managers acquired DHFL, Nippon India Asset Management Company (AMC) acquired Reliance AMC and more recently there is news about L & T Mutual Fund looking to sale its stake. Any such change has a potential impact on your returns. However, don’t be in a hurry to move out. Give the new management team some time (two to four quarters) and then take the exit decision.

Holdings Overlap

When you hold different funds there is diversification benefit. However, having funds from a similar category would create a situation of over-diversification that won’t benefit you much. In fact, it will only create portfolio overlap. For instance, if you have invested in a large and mid-cap fund category then investing in large-cap, mid-cap and multi-cap are likely to create an overlapping portfolio. Hence, if your portfolio is of such a type, it might trigger selling funds that you no longer need. 

Emergency Situation

Any emergency doesn’t give you any prior intimation before arriving. It arrives all of a sudden. And in such cases, all you need is liquidity and immediate cash. Hence, you might consider exiting from your equity funds. Having said that, it is advisable to have an emergency fund in a place where the funds are parked in a savings bank account, bank fixed deposits and liquid funds. This will ensure that you don’t need to exit your equity funds for your liquidity needs.

Conclusion

Having an investment plan in place often helps you to define your exit strategy. In fact, a goal-based financial plan will help you know when you require exiting from a particular fund. Further, if you are adopting a tactical asset allocation, then there are pre-determined triggers that would help you know when to exit the fund. For instance, if the high valuation is your trigger, then exiting from equity mutual funds should be the option when the markets are highly valued. Exiting from any fund depends upon the situation. Hence, we would recommend analysing the scenario in detail and only then taking a decision to move out of your investments.