How to Compare Mutual Funds?

Why Do You Need to Compare Mutual Funds in India?

Several mutual fund schemes exist across debt, equity, thematic, and hybrid categories. Each fund stands out regarding return potential, risk profile, price, and investment tactic. For instance, two large-cap mutual funds may significantly vary in past performance, expense ratios, and the fund manager’s strategy. These aspects prominently affect long-term returns.

When you compare mutual funds, you benefit from the following:

• Goal Alignment: You align your financial goals with the choice of the appropriate fund type. It helps whether you are saving for a home, retirement, or short-term liquidity.

• Risk and Return Assessment: Comparing these funds allows you to assess volatility, rolling returns, and downside protection. As a result, you can avoid picking funds that perform well in volatile markets only.

• Cost Structure: You can understand how exit loads, expense ratios, and transaction charges differ across schemes. This helps you make a selection among direct plans and regular plans.

• Fund Management Style: A fund’s performance can offer insight into the manager’s approach, though many factors beyond individual skill influence it. Comparing management strategy and track records can help determine whether a fund is passively or actively managed following a benchmark.

• Regulatory Benchmarking: SEBI requires mutual funds to be compared within the same category using a Total Return Index (TRI), including price changes and dividends. The framework follows a two-tier system: 

• Tier-1 (category benchmark) is mandatory, while 

• Tier-2 (style/strategy) is optional. AMFI publishes the benchmark lists used across the industry.

Parameters to Compare Mutual Fund Performance

It is essential to compare mutual fund performance indices that indicate cost, risk, returns, and consistency before selecting a mutual fund. The following table shows how various parameters impact the fund’s performance:

How to Compare Equity Mutual Funds?

Equity mutual funds mainly invest in stocks and facilitate long-term wealth building. All equity funds may not perform equally despite being in the same category. Investors must take into account previous returns and different parameters as discussed below. Comparing funds across various categories (for example, small-cap vs large-cap) is not helpful because each carries a unique risk and return profile. Rather, you must compare funds within the same category and benchmark.

The table below outlines the factors to be considered for comparison:

Example to Understand Mutual Fund Comparison

Let’s take an example of a young investor, Riya, who plans to grow her wealth consistently over time but is a beginner to mutual funds and is uncertain about how to choose a fund. Suppose she chose two options, i.e., Fund X and Fund Y, and intends to invest through a SIP to pursue long-term growth via SIP.

Let us assume that the first fund has shown a stable return, i.e, 9% during the past 3 years, and the volatility is low. To reduce the risk, it invests in popular firms. The second fund -Fund Y- has provided 12% returns; however, its performance swings high as it invests in new, swiftly growing firms. 

Riya prioritises returns and considers the manager’s experience, fund diversification, and each fund’s response to market trends. Fund X provides more stability, whereas Fund Y carries higher growth potential, volatility, and risk. Riya splits her SIP between funds to balance potential growth with relative stability. This approach may assist her in understanding how different mutual funds behave over time and tailor her strategy as she gains experience.

Common Mistakes to Avoid When Comparing Funds

To end up with the finest choice, a detailed comparison is essential. An investor may commit mistakes if they overlook some key considerations. Here are some common mistakes to refrain from:

1. Emphasising the Recent Returns Only

   Many investors only consider the past year’s top-performing fund and assume it will continue performing well. Short-term returns may not reflect the true potential of a fund, as fleeting market fluctuations often impact them. For a more reliable assessment, it's vital to assess long-term performance over 5–10 years and consider rolling returns to determine consistency.

2. Comparison Across Different Categories

   Avoid comparing funds from different categories, like small-cap vs. large-cap, since they serve distinct investment objectives and respond differently to market conditions. To have a fair and meaningful evaluation, compare funds within the same SEBI category using the mandatory Tier-1 TRI benchmark. This ensures transparency and consistency across mutual fund comparisons.

3. Neglecting the Risk Metrics

   Though mainly included in fact sheet disclosures, analytical tools like Standard Deviation, Sharpe Ratio, and Sortino Ratio can help investors assess a fund’s volatility and risk-adjusted returns. From January 2025, SEBI also requires the Information Ratio (IR) to be disclosed for equity-oriented schemes. Ignoring these may lead to choices that don’t align with one’s risk tolerance or investment goals.

4. Underestimating the Manager’s Influence 

   The person managing your fund greatly influences how it performs over time. You might incur an unexpected return shift if you overlook their track record and adopted strategy. 

5. Ignoring Hidden Fees

   Certain hidden fees can degrade your returns over time. Many investors neglect exit loads, expense ratios, and transaction charges. This ignorance can reduce the profitability of a high-performing fund over the long run.

6. Overlapping of Holdings

   When multiple funds share the same top holdings, your portfolio can become lopsided and riskier than it seems. A quick review helps you avoid doubling down on the same stocks by mistake.

7. Not Looking at the Investment’s Horizon

   Starting mutual fund investments without aligning them with your time horizon could be risky. Generally, equity suits long-term goals, whereas hybrid or debt funds present better stability, especially for shorter durations.

8. Not Focusing on Tax Implications

   Different mutual funds (debt, equity, and hybrid) are subject to distinct tax treatments under the Income Tax Act. Factors like dividend taxation, capital gains, and indexation benefits can considerably affect your net returns.

   Since tax rules change with each budget cycle, staying updated through official sources like CBDT (Central Board of Direct Taxes) notifications and SEBI circulars is essential. Considering taxation helps align your investment decisions with actual, post-tax returns.

Key Takeaways

When you compare mutual funds, you can make better investment decisions based on your risk tolerance, financial goals, and time horizon. Reviewing the fund manager’s track record, portfolio composition, and risk profile allows you to select funds more wisely and build long-term wealth. It is also important to consider costs such as expense ratios and exit loads, as ignoring these may result in poor choices. One of the simplest ways to get started is by beginning a SIP in mutual funds in India that aligns with your financial goals can be a practical way to begin your investment journey.