When and how to sell funds?

Ideally, an investor should exit mutual fund investments on completion of financial goals. In fact, for long-term investments, he/she should start exiting equity-linked MFs when the goal is still 2 to 3 years away and shifting the funds to safer investment options. 

But things don’t always happen, the way they should. The same is true for investments and hence, one needs a well-sounded exit strategy. 

Apart from what one should do in an ideal situation, Kalpen Parekh, MD and CEO, DSP Mutual Funds, points out four other scenarios when an investor should exit MF investments:

1. When the mutual fund deviates from its stated mandate and takes undue risks that it is not supposed to take
2. The mutual fund is unable to deliver consistent fund performance over a full market cycle of under five years
3. When your asset allocation merits you to rebalance between asset classes 
4. When you need money

In such cases, here are the exit strategies an investor should follow:

When the mutual fund deviates from its stated mandate and takes undue risks

A classic example for this would be Franklin Templeton. The company had to wind up 6 of its mutual funds in debt category in April last year simply because it took more risk than its stated mandate. 

The AMC took exposure in bonds with high credit risk to generate high return. As much as this strategy might work wonders for longer term investments, the company took this risk for short-term debt funds. 

Though these funds were able to provide high returns before the pandemic based on this strategy, in the post-COVID era, as redemption requests increased and the bonds became illiquid, unable to manage the pressure, the AMC had to wind up its funds. 

The mutual fund is unable to deliver consistent fund performance

A fund can be called as an underperformer if it has delivered say 5% or 6% in 2-3 years. “It may be that the market too delivered the same. Not your fund’s fault,” says Vidya Bala, co-founder of PrimeInvestor.in. Also, if a fund has been steadily behind the benchmark for 3 or more quarters by 3-6 percentage points or more, it is again an underperformer.

Then, you need to see if this has to do with the theme/strategy itself. For example, a value fund might not be performing well in the Nifty 50 but, the situation might be as such that other value funds are also at the same level. In that case, compare it with similar funds to know if your fund is a poor one among the other underdogs. “It is a different call if you choose to exit a strategy. That is more about your portfolio requirement and less to do with the performance of the fund,” Bala asserts.

What should be the exit strategy for the above-mentioned cases?

If your fund has been underperforming or shifted from its stated mandate, you should first stop the SIP. And, start the same in similar funds in your portfolio or choose a better one. 

“If you simply stop with the above, it is likely that over a period, you will be left with an unwieldy portfolio,” Bala adds.

When your asset allocation merits you to rebalance between asset classes 

For an effective investment plan, one needs to rebalance his/her portfolio periodically. It is done by selling/exiting investments in overpriced asset classes and investing in underpriced ones. Rebalancing portfolio helps the investor to generate higher return and at the same time de-risk the assets.

How to decide which funds to sell?

Explaining the exit strategy while rebalancing one’s portfolio, Vidya Bala said, when you are rebalancing and you have multiple funds from the same category or style, exit the funds that are in ‘hold’ category first, if there are no funds in the ‘sell’ category. 

Reinvest in funds that you like/favour in your portfolio, Bala says adding, and if there are none, the nearest fund in terms of risk profile. 

For example, if you had a large and midcap fund and you would rather exit it to consolidate, you can well consider investing in a multicap fund. It may be marginally less aggressive but there’s no point adding a new fund since your aim is to consolidate. Else, split it between a multicap fund and midcap fund that you already hold, she suggests.

When you need money

No matter how prepared you are for the rainy days, there can be emergency situations when you might need to sell your mutual fund investments from the long-term portfolio. 

How to decide which funds to sell?

Under such circumstances, the funds in the ‘sell’ and ‘hold’ categories should be your first choice.

Bala opines, many of you use the argument that you will book profit in the performing fund first. But you need to remember that MFs are not stocks. A stock that has gone up becomes expensive. A mutual fund that has returned well, may continue to return well as it rejigs its portfolio to find newer opportunities. Track record of consistent performance is more important. The exception to this is sector/theme funds.

However, there is no one correct answer to when one should exit a mutual fund, it depends on various factors. “It’s a function of investor time horizon, risk appetite and the purpose of investment,” points out, Mahendra Jajoo CIO (Fixed Income) at Mirae Asset Investment Managers (India).