When it comes to investing, mutual funds offer a convenient way to diversify your portfolio and grow wealth. In the past few years, the awareness of mutual funds has increased significantly.

However, one problem that people could face when looking to invest in mutual funds, is making the right choice from the hundreds of options available.

To make an informed decision, it's essential to compare mutual funds based on several key factors. This guide will walk you through the steps to effectively compare mutual funds to find the one that aligns with your financial goals.

1. Investment Objective and Fund Type

The first step to compare mutual funds is to understand their investment objectives. Mutual funds typically fall into different categories based on their primary investment goal:

• Equity Funds focus on growth by investing in stocks.
• Debt Funds prioritise capital preservation and provide stable returns by investing in bonds and government securities.
• Hybrid Funds combine both equity and debt instruments to balance risk and returns.

Choose a fund type that aligns with your financial goals, risk tolerance, and investment horizon. For example, if you’re seeking long-term capital growth, equity funds might be ideal.

On the other hand, debt funds are better suited for short-term goals with minimal risk.

2. Fund Performance and Track Record

Past performance is a critical factor to consider when you compare mutual funds. While past returns don't guarantee future performance, they can provide insights into how well the fund has managed market volatility and delivered returns over different periods.

Look at the fund's returns over various periods — one year, three years and five years. Compare these returns with both the fund's benchmark and other similar funds in the same category. Funds that consistently outperform their benchmark and peers over the long term are usually good candidates.

3. Expense Ratio

The expense ratio is another key factor to watch out for when looking to compare mutual funds. It is the annual fee charged by the mutual fund company for managing the fund. It directly impacts your returns, as higher fees can erode your overall gains over time.

When you compare mutual funds, opt for funds with a lower expense ratio, especially if they offer similar performance levels.

For instance, if two funds deliver comparable returns, the one with the lower expense ratio will yield better net returns. Typically, passively managed funds like index funds have lower expense ratios than actively managed funds, as they don't require frequent trading.

Direct mutual funds tend to have a lower expense ratio compared to regular mutual funds.

See Also: All About Mutual Fund Taxation In India

4. Risk Profile

Every mutual fund comes with a risk level, which is usually determined by its portfolio allocation.

When comparing mutual funds, look at key risk indicators such as Standard Deviation and Beta. These metrics help you gauge how volatile the fund is compared to its benchmark or the market. Choose a fund that matches your risk appetite and financial goals.

Standard deviation is a statistical measure used to assess a fund’s volatility by analysing the dispersion of its returns over a specific period. A higher standard deviation indicates greater fluctuation in the fund’s returns, implying more risk and volatility. It essentially reflects how much the fund’s performance deviates from its average return.

On the other hand, beta is another important statistical tool that measures a fund’s volatility or risk relative to its benchmark or index. A beta of 1 indicates that the fund moves in line with the market, while a beta higher than 1 suggests the fund is more volatile than the market. A beta lower than 1 indicates that the fund is less volatile.

5. Fund Manager's Experience

A mutual fund's performance largely depends on the expertise of its fund manager. When comparing mutual funds, review the fund manager's track record and experience in managing similar funds.

A well-established manager with a history of consistently outperforming benchmarks is a good indicator of a reliable fund.

6. Exit Load and Other Charges

Apart from the expense ratio, mutual funds may have an exit load, which is a fee charged when you redeem your units within a specified period. Make sure to consider these additional costs when you compare mutual funds, as they can reduce your overall returns if you plan to exit early.

To effectively compare mutual funds, investors should assess multiple factors such as investment objectives, past performance, expense ratios, risk, and fund manager expertise. By conducting a thorough comparison based on these criteria, you can select mutual funds that align with your financial goals and risk tolerance, ultimately maximizing your investment success.

Read Next:  What Are Fixed Income Mutual Funds?

Disclaimer: This content was partially produced with the help of Benzinga Neuro and was reviewed and published by Benzinga editors.