1.

Beta
Likewise, say the Beta of a fund is higher than 1. Assume it is 1.5. So, if the NIFTY
50 jumps by 1%, the fund benchmarked against NIFTY 50 is likely to go up by 1.5%.
A similar pattern is followed where the Beta is lower than 1 as well.

As an investor, you can use this information on Beta to align your Mutual Fund
portfolio according to your risk appetite. For instance, if you are a conservative
investor, you might want to focus on low Beta portfolios.

Remember, Beta is a relative measure and does not give the inherent risk of an asset.
So if you are that conservative investor and are classifying an investment purely based
on the Beta, then you might be in for a rude shock. This is why you should never look
at Beta in isolation when selecting a Mutual Fund.

Nevertheless, Beta does have its usefulness as a statistical measure, especially for
diversification which can be used along with other risk controls like asset allocation.

2. Alpha
The term “Alpha” is not entirely a risk measure. However, it is very often used
together with Beta.

Alpha quite simply measures how much better a fund has performed as compared to
its benchmark index. For instance, if the NIFTY 50 index delivered 10% in the past
year and the fund benchmarked against the NIFTY 50 delivered 11%, then the Alpha
is +1%. And if the fund underperformed and achieved only 8%, then the Alpha is -
2%.

Therefore, actively managed funds can have positive or negative Alpha depending on
how well the fund manager runs the fund. In fact, creating positive Alpha is the entire
essence behind someone investing in an actively managed fund.

Index Funds, on the other hand, will not produce any Alpha. But a zero Alpha is not
necessarily a bad thing, especially in the current scenario when most Large Cap
Equity Funds are struggling to beat the NIFTY 50 index.
A thing to remember with regards to Alpha and also with regards to Beta is that both
these measures are based on historical data and change from time to time. So it would
be wise on your part to not treat their past performance as any guarantee of future
results.

3. R-Squared
The R-Squared aims to measure a fund’s correlation to its benchmark performance,
which is done on a scale of 100. So, if the R-Squared is a 100 then it shows that the
Mutual Fund’s performance is perfectly correlated with the performance of the
benchmark.

For instance, Index Funds have an R-Squared of close to 100. On the other end,
actively managed Mutual Funds can have a range of R-squared values. Mutual Funds
which have an R-Squared of 80 or lower tend to not perform like a typical index.  But
these are far and few in the Indian Mutual Fund space.

Now, the question is, how do you use this information?

Generally, if an actively managed fund has a high R-squared value, then it is probably
structured like an index and, as a consequence, is performing like one.

Take, for example, the last 8 quarters of performance for the Aditya Birla Sun Life
Frontline Equity Fund. The performance of this Large Cap Fund is matching with the
benchmark. So, it comes as no surprise that the R-squared of this fund is 99.
4. Standard Deviation
The standard deviation measures the dispersion of data from its mean. And from a
Mutual Fund perspective, it represents the volatility or riskiness of the fund.

For instance, let’s say a Mutual Fund delivers 10% average returns over a period of
time. But as expected, this fund has had some good months and also some bad months
with returns moving between +20% and -15%.
This up and down trajectory of returns in the historical mutual fund NAV is what
standard deviation captures and presents as an annualized number.
For instance, let’s say this fund that delivers a 10% average return has a standard
deviation of 3%. As a rule of thumb, this means 68% of the time. You can expect the
fund’s returns to be between a lower value of 7% (10% – 3%) and a higher value of
13% (10% + 3%).

So 68% of the time, you can expect fund returns between 7% and 13%, i.e., mean
plus/minus 1 standard deviation. And then, this same concept can be applied to a
mean plus/minus 2 standard deviation measure, which covers not 68% but 95% of the
events.

In the above example, the range will come to 10% minus 2 multiplied by 3% that is
4% on the lower range. And 10% plus 2 multiplied by 3, which is 16% in the upper
range. So, 95% of the time,, the fund’s returns will move in the range of 4-16%.

As a rule, the higher the standard deviation, the more volatile the Mutual Fund on a
historical basis. Typically the Sectoral Funds or Thematic Funds like Banking and
Infrastructure Funds and even Small Cap Funds would have a high standard deviation
due to the high volatility in annual returns with these funds.
However, higher volatility may not always be a bad thing, and some investors might
prefer that as it allows them to earn superlative returns in some years.

In other words, your risk profile determines how you view a fund’s performance
through the lens of standard deviation. So if you prefer more predictable performance,
then opt for funds with a low standard deviation like Hybrid Funds. But if you can
fathom the ups and downs of volatility, then don’t shy away from high standard
deviation funds to make more Alpha from your investments.
5. Sharpe Ratio
The Sharpe Ratio measures risk-adjusted performance. It is calculated by subtracting
the risk-free rate of return from the fund’s returns and then dividing the result by the
standard deviation.

In other words, the Sharpe Ratio indicates whether a Mutual Fund’s returns are due to
the wise investment decisions taken by the fund manager or it was the result of taking
excessive risk.

Let’s understand this by comparing two funds.

Fund A generates a return of 15%, while fund B delivers a 12% return.

 Fund A

Fund Returns 15%

Risk-Free Return 5%

Standard Deviation 11%

Sharpe Ratio 0.91

On the face of it, fund manager A has performed better than fund manager B. But
when you apply a risk-free rate of 5% and consider the standard deviations mentioned
in the table, the Sharpe Ratio of fund A comes to 0.91 while fund B’s Sharpe Ratio is
1.17.

This means while Fund A gave more returns, Fund B delivered a better risk-adjusted
return.

Another way to look at this is to say that Fund B, which has a higher Sharpe Ratio
exhibits better potential in earning more return per unit of risk.

Since the Sharpe Ratio is actively used in many models, it is also essential to look
closely at this Ratio when you are comparing funds. And that is because, like many
statistical tools, the Sharpe Ratio too can lead to some misleading inferences if used in
isolation.

For example, it is commonly possible that a fund with low returns and low standard
deviation might show a high Sharpe Ratio.

6. Sortino Ratio
The Sharpe Ratio uses the total volatility in its calculations in the form of standard
deviation. This is where the Sortino Ratio is different as it only uses the fund’s
downside standard deviation in its calculations.
So as a formula, the Sortino Ratio is much like the Sharpe Ratio and subtracts the
risk-free returns from the fund returns. But instead of dividing it by the total standard
deviation, it divides the difference with the downside deviation.

Mutual fund investments call for some level of financial knowledge and market awareness. Here,
investors have two choices. Either buy a regular fund from any intermediary or conduct prolific research
to invest directly. But an investor’s responsibilities do not end after that. It would help if you also kept
an eye on how the fund performs in the market.

Shortlist a few peer Funds to compare

It is difficult to assess a mutual fund in isolation. So, you should always make a small list of comparable
funds and continuously compare them. There are many FinTech firms and third party websites that offer
free mutual fund screener tools.

Check the historical Performance Data

Now every mutual fund handbook comes with a disclaimer stating that past performance is no
indicator of future performance. However, this data can help you check how the fund has fared across
different market cycles. Consistency can also shed light on the skill of the fund manager. In short, it will
be easier for you to find a fund with lower risks but higher returns.

Fee Structure of the Fund

A mutual fund company charges you for its services and expertise. Some funds require deft
management and quick decisions on whether to buy, sell or hold on to an asset. Please remember that a
fund with a higher fee is automatically better. Do check out other parameters too before choosing.

Risk-Adjusted Returns
Every fund expects certain risks related to the market and the industry. When fund strategies in such a
way that they make more returns against anticipated risks, we call them risk-adjusted returns.

Performance against Index

Indexes like Nifty, BSE Sensex and BSE 200 set benchmarks, and all fund performances are evaluated on
this basis. Comparing different timelines against the benchmark as well as peers, can be insightful. A
well-managed fund won’t fall too hard during a market low.

Why track the Investment Performance

You might have seen the disclaimer that past performance does not indicate the future performance of
a fund’. It means that you cannot expect guaranteed returns on investment. Therefore, you need to look
beyond the previous years’ returns to assess a mutual fund.

Primarily, you should monitor your investments so that you can make informed decisions that can lead
to higher returns. You know that the capital market keeps fluctuating with changes in the overall
economic conditions. Such a change disturbs the asset allocation of the portfolio.

For instance, an original allocation of 50:50 in equity and debt may change to 60:40 owing to a market
rally. It may increase the risk profile of the fund beyond your requirements. Fund evaluation also helps
you to compare the performance of your investment against other similar funds.

Additionally, a change in fund manager or fundamental attributes of your fund may also trigger an
evaluation. Hence, a review and rebalancing might be required to keep the risk profile of the portfolio
intact.
How often to Evaluate Fund Performance
The market is subject to fluctuations. However, that doesn’t mean you need to assess the fund
performance daily. Ideally, you should evaluate your fund every six months to a year, depending on the
tenure of the investment. Evaluating the funds in a shorter period does not give an accurate insight into
the performance of your investments. If all this sounds too much, you may invest in regular funds. As
qualified intermediaries, they advise you to invest in funds based on your financial goals and risk profile.

Financial Ratios & Fund Performance 

While you may have taken due diligence and advice before investing, you still need to track the
performance of your funds. The easiest way to do it is by using the fund fact sheet. In simple terms, the
fund fact sheet shows the performance of all the schemes managed by your fund house, including your
investment. You must compare these financial ratios with the mutual fund schemes in the same
category to understand where your fund stands.

Alpha
The fund’s Alpha gives an overview of the fund manager’s skills and strategies and how they fared in the
past. It should always be higher than the expense ratio of the fund. Additionally, your fund’s Alpha
needs to be higher than the peers, which are at a similar level of beta.

Expense Ratio
This is essentially the fee for the fund house for managing your mutual fund. Expense ratio s reflects
the value-for-money aspect of a fund. It consists of fund management charges and all the other costs
related to that of fund management. It impacts your ultimate take-home returns.

Benchmark
It is always advisable to compare the fund performance against the benchmark. The benchmark acts
as a standard for funds’ performance. If your fund is outperforming the benchmark consistently, it is a
sign that the fund is doing well. You can also compare the average return during a specific time frame
with its peer funds in the same category.

Portfolio Holdings
Look for considerable changes and probable overlapping in the portfolio holdings. The fund needs to
hold good quality stocks which have a lower Price to Earnings-per-share (P/E) Ratio vis-a-vis Price to
Book Value (P/B) ratio. Additionally, ensure that the fund is investing as per its investment objective. For
instance, fund having a high portfolio turnover ratio vis-a-vis lower returns is a bad indicator.

Sharpe Ratio
This ratio shows how much extra return you receive for the additional risks you undertake. It is a rule of
thumb that higher risks must be compensated more. Moreover, you deserve a reward (excess returns)
for the added volatility. Sharpe Ratio tells you how much exactly that reward should be.
In short, consistency says a lot about performance. If you think that doing all this research and analytics
is beyond you, you can always invest with ClearTax Save. With hand-picked funds from the top
fund houses in the country, you are in safe hands.  

Frequently Asked Questions

Which are the best mutual funds to invest in India?

You may consider picking the best mutual fund depending on your investment
objectives and risk tolerance. You could check the track record of the mutual
fund house and the fund manager before investing in the mutual fund.
However, you may invest in the mutual fund only if you are comfortable with
the investment style of the fund manager.

You must check the expense ratio before putting your money in the mutual
fund. You may find the best mutual funds having a lower expense ratio.
However, you must check other important parameters before investing in the
mutual fund. You would find the best mutual funds have a lower turnover ratio
for the portfolio. You may avoid mutual funds where the fund manager churns
the portfolio many times.

You may pick the best mutual funds depending on your investment horizon.
You could invest in equity funds only if you have an investment horizon of
three years or more. You may invest in debt funds for a shorter time horizon of
under three years. Invest in balanced or hybrid funds only if you have an
investment horizon of three to five years.

You may measure the performance of mutual funds against a benchmark

index to select the best mutual funds. For example, you may check the
performance of a large-cap fund against the Nifty 50. Compare the
performance of the mutual fund against its peers and also take a look at the
consistency of performance. Best mutual funds have a consistent track record
of outperforming peers and the benchmark index over five years or more.

You must choose the best mutual fund house with large assets under
management (AUM). The fund house may be able to bear sudden redemption
pressure if it has large assets under management.

How to find the best performing mutual funds in India?

Best performing equity fund:

An equity mutual fund may be the best performer in its category if it
consistently beats the benchmark index over some time. The best performing
equity fund has a lower expense ratio as compared to peers. You may find the
best performing mutual funds doing well across market cycles.
You must check the alpha of the equity fund to identify the best performing
mutual fund. It shows the excess return generated by the equity fund above
the benchmark index. You can pick the equity fund with a high alpha as
compared to the peers.

You must take a look at the beta of the equity fund. It gives you an idea of the
volatility of the fund as compared to the benchmark index. An equity fund with
a beta less than one is less volatile as compared to a fund with a beta more
than one.

Take a look at standard deviation which gives you an idea of the volatility of
the equity fund. You may find an equity fund with a higher standard deviation
to be riskier as compared to a fund with lower standard deviation. You may
pick the best performing equity fund based on risk-adjusted returns. Check the
Sharpe’s ratio of the equity fund and opt for an equity mutual fund scheme
with a higher Sharpe’s ratio which signifies a higher risk-adjusted return.

BEST PERFORMING DEBT FUNDS

You may consider picking the best debt funds based on the credit quality of
the bonds in the portfolio. Credit rating agencies would assign a credit rating
to bond-issuers based on their ability to repay the principal and interest
amounts. You must invest in debt funds with AAA-rated bonds in the portfolio.
It is a safer investment as compared to bonds of a lower rating which may
offer a higher interest rate. However, they could default on both principal and
interest payments.

You may select the best performing debt fund based on the expense ratio.
You must not pick a debt fund with a high expense ratio. Best debt funds have
an excellent track record of performance over three to five years. You may
select the best debt fund where the average maturity period matches your
investment horizon.

BEST PERFORMING HYBRID FUNDS

You could pick the best performing hybrid fund with a good track record of
performance over three to five years. Select a hybrid fund which has beaten
the benchmark index and peers over some time.

You may check the track record of the fund house and the investment style of
the fund manager before picking the best performing hybrid fund. Pick a fund
house with huge assets under management which can bear the sudden
redemption pressure of big investors.

Select the best performing hybrid fund with a low expense ratio. A high
expense ratio may eat up the return from the fund. The best performing hybrid
funds must match your investment objectives and risk tolerance. Take a look
at the portfolio of conservative hybrid funds. It gives you an idea on the credit
quality of bonds in the portfolio.