When should you sell your mutual funds? Consistent underperformance, Rebalance portfolio, Target amount achieved

Check out these six reasons that justify exiting from your mutual fund investments.

Investing and divesting are two sides of the same coin. Just as you have various reasons to invest in a mutual fund, there may be many reasons to sell. An exit may be warranted due to a necessity, change in investment plan, or attributed to external factors. So, here are six instances you should be aware of when to sell mutual funds. 

1. Consistent underperformance

It is important that investors periodically monitor the performance of their various mutual funds to the category benchmark or index fund. Make a two-year, three-year, and five-year comparison to see if your investment has been consistently underperforming vis-a-vis its peers. You can also easily access third-party data that assesses a fund’s performance across various risk and return parameters. However, do not be in a hurry to exit if the fund has only underperformed in the short term or is a relatively new fund.

2. Change in investment mandate

Investors choose funds based on specific financial objectives, risk appetite, and asset allocation parameters. You may want to consider selling funds that deviate from (or reposition) the investment mandate. For example, let’s say you invested in a multi-cap fund whose portfolio is now heavily leveraged towards mid-cap stocks. This significantly increases the risk exposure of the fund, which may not be suitable for a moderately risk-averse investor. Analysing and comparing quarterly fund reports will help you understand if any explained or unexplained changes have happened in the fund’s investment choices.

3. Overlap across investments

Investors who have a portfolio of mutual fund schemes may unknowingly end up with an overlap of stock holdings. This usually occurs with large-cap/blue chip stocks that provide much needed stability to a portfolio. You should look at selling mutual funds that have an overexposure to a particular stock or holdings similar to another fund, which increases portfolio risk and does not help achieve the optimum level of diversification. Again, you will have to go through the reports of all the funds in your portfolio and identify which fund to exit after accounting for returns, holding period, tax efficiency, etc.

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4. Change of fund manager/ownership

Every fund manager and asset management company has their own investment culture that is reflected in how money is managed. A change in ownership or the core fund management team can have an impact on your investment with them. Sometimes, the consistent underperformance or change in investment mandate can be attributed to these changes.

5. Rebalance for asset allocation

Equity-based mutual funds are subject to market volatility. So, the performance needs to be assessed at least once in six months to keep the asset allocation in check. In the event your mutual funds deliver super-normal returns over a periods of time, you can book a part of the profits by liquidating corresponding units of the fund and reinvesting the proceeds in other underappreciated assets. If you are trimming units from different mutual funds, remember to do so in proportion of the gains achieved, while reverting to the original asset allocation.

Related: 5 Assets that you can liquidate quickly in case of an emergency

6. Targeted appreciation achieved

Planning for retirement, saving for a child's education, or making a down payment on a home are some of the major life goals for which investors choose mutual funds. One of the obvious reasons to redeem these investments is when the target corpus has been achieved or the goal for which the investment was made is close at hand. It is prudent to liquidate the investment and deploy the corpus in a fixed income asset to lock in on the gains and protect your capital from market volatility.

Related: How to invest in direct mutual funds?

Last words

Avoid taking hasty decisions just because you suffered a steep short-term loss or made atypical gains. Remember to factor in the taxation and regulatory aspects of your decisions. You may be liable to pay capital gains tax on profits, or have an opportunity for tax loss harvesting. Consult your financial advisor and chartered accountant before you exit a fund so that you have all variables covered. Savvy millennials betting big on Mutual Funds.

Disclaimer: This article is intended for general information purposes only and should not be construed as investment advice. You should separately obtain independent advice when making decisions in these areas.