Most of us are familiar with Mutual funds as one of the vehicles for investment and a simple tool which any common man can use to create wealth. There more than 3000 schemes of mutual fund available for investment and hence choosing one becomes very difficult.
Also Mutual funds offer investment as a lump sum investment or through SIP. There are others schemes like SWP systematic withdrawal plans and a transfer plan known as STP.
But when it comes to choosing a fund, for you to invest, it will appear as if you need know some Greek. There are various terminologies like alpha beta rho sigma etc which are some measures which help us understand the performance of the funds. I am not teaching you Greek but there are at least two alphabets you must familiarise your self with.
Alpha this is a measure to find out the incremental differential a fund has delivered, compared to its bench mark. If fund has delivered 8.2% return over one year against its benchmark of 7% we can say the alpha is 8.2- 7= 1.2
Simplest way to understand alpha is the extra height Ronaldo gained to head the goal against Wales. which is the height of 2.5 feet which is indicated in the figure below.
The second parameter is sigma or the standard deviation. This measures the extent the real returns varies to expected returns. The lower the sigma the better the prospects of getting expected returns.
Why sigma and not average. Take this example. A shooter aims to hit the bulls eye. First shot is 10 m to the right and second one 10m to the left of the target. The average is 0 hance it appears he was on target.
Whereas if you measure the sigma which is the square root of variance (0-10)*2 +( 0+10)*2 is square root of 200 which is 14.1
if the deviation is say only 2 metres on either side then sigma is 2.8125 the second shooter is close to the target than the first one.
How do you understand this. Let us compare four funds, HDFC equity fund, HDFC top 200 fund, Birla front line equity fund and Franklin Blue chip fund.
If you see in the above excel sheet, the std deviations of both the HDFC funds has been increasing with the bench mark index and hence it is leading to lower returns. This can also be seen with the increase in standard deviation in the recent years and the saving grace has been its performance over the earlier years.
The highlighted figures in green are for the benchmark index and the yellow ones pertain to HDFC funds.
My message is to have an understanding while investing.
Before you invest understand why some funds are good. Are they consistent? how the risk level is?
If you want know other Greek terms for Beta gamma delta rho etcCread this article clicking the. Link below
The easiest way you can do is to check with your financial advisor.
Some latin before we close.
Caveat emptor. Which means buyer beware like the slogan mutual funds are subject to market risk
Ex aequo et bono
according to the right and good” or “from equity and conscience”) is a phrase derived from Latin that is used as a legal term of art. In the context of arbitration, it refers to the power of arbitrators to dispense with consideration of the law but consider solely what they consider to be fair and equitable in the case at hand.
Every financial advisor does suggest funds according to the right an good.