You must remember one thing as an investor. Anyone can enter the capital markets when the time is right, but only a wise investor can exit when the time is right. Staying invested in mutual funds for longer periods of time will result in good returns after the investment period is over. A long-term horizon, especially when investing in equity funds, can help you get the most out of your investments. However, there may be times when you must leave before the specified time. Exiting mutual funds should be done with caution because your investments will no longer generate returns for you. Here are a few examples of when leaving becomes necessary.
Conditions Under Which a Fund Must Be Exited
To some extent, asset allocation and diversification can mitigate market fluctuations. However, there may be times when you are forced to sell your mutual fund investment. The following are some scenarios in which exiting is the best option:
- The fund’s consistently poor performance
If your fund is consistently trending downward, it’s time to take a fresh look at it. However, a single month of poor fund performance should not put you on the defensive. Instead, compare the fund’s performance to the industry average over the last four quarters. There could be several reasons for your fund’s poor performance.
It may have required exposure to an unsuitable industry or theme at an inopportune time. In another case, your debt fund may have invested in low-credit-rated securities and failed to generate the expected high returns. When your equity fund underperforms an index fund, this is the worst-case scenario. If any of these are to blame for your fund’s poor performance, you should exit the scheme.
- Change in fund scheme
When you invest in a mutual fund scheme, you ensure that your investment goals match those of the fund. But what happens when your fund embarks on a transformational journey? It could be planning to transition from a diversified equity fund to a pharma fund. This would expose the fund to increased risk, such as concentration risk. There is a possibility that your fund will be merged with another scheme. In another case, your balanced fund may decide to change its focus. All of these circumstances alter the fund’s core character. If you are unhappy with a change in your scheme’s basic profile, remove it from your existing portfolio.
- Rebalancing of the portfolio
You establish an asset allocation at the start of your mutual fund investment. Consider your desired equity allocation: debt to income ratio is 50:5 Your target allocations may have become skewed after one year. It could be the result of the recent rally, which increased the NAV of the portfolio’s equity component.
In another case, a change in macroeconomic policy may have favoured large-cap stocks over others. All of these events would result in a portfolio rebalancing. In this case, you sell funds that have become obsolete in the current market. You put that money into other, more promising funds.
- Accomplishment of a personal financial goal
The entire point of investing in mutual funds is to achieve your financial goals in a systematic and planned manner. You may have a goal, such as amassing a sizable corpus in order to live a comfortable post-retirement life. You began investing in an equity fund. Assume you are a couple of years away from retirement.
Because of the volatile market, the chances of a rapid drop in fund value are higher at this time. Instead of risking it all at once, consider starting a systematic withdrawal plan (SWP). In this case, you can transfer your money from an equity fund to a safer haven, such as a liquid fund. SWP would also necessitate a phased exit from the current fund.
- Change in fund management
This could be one of the most compelling reasons to reconsider the fund. Assume your fund hires a new fund manager. He devises radical investment strategies that you find erratic and unreasonable. Furthermore, it is causing the fund to consistently underperform. If you disagree with your fund manager’s decision, you should withdraw from the fund. You can look for other funds that are aligned with your goals.
- If macroeconomic environment is changing
If the government or the regulator changes its macroeconomic policy and the fund does not align with it or is likely to be impacted in the long run, it may be a good reason to exit. For example, if a Budget announcement makes some funds less tax-friendly than others, you may want to shift even if the fund performance is good because it may affect your long-term returns. In such cases, you can exit and reinvest when the situation changes to protect your capital.
Things to Consider Before Exiting the Fund
Before you exit a fund, you must consider your options. You must ensure that the new fund meets your requirements. For example, if you invested in large-cap funds because they are less risky and discover that your fund has been merged with a mid-cap fund, you can redeem the combined fund for a fund made up entirely of large-cap units. Along with this, you must consider the LTCG (Long-Term Capital Gains) tax and ensure that the exit and redemption do not result in large losses.