Mutual fund investing carries unavoidable risk tied to market fluctuations, interest rate changes and the performance of underlying assets, according to Santosh Agarwal, CEO of Paisabazaar, writing for The Times of India's Business-Today. While funds with higher risk can experience greater short-term volatility, they also offer the potential for higher long-term returns; lower-risk funds provide more stability but generally modest returns. Agarwal's guidance for investors is to keep the portfolio aligned with financial goals and risk appetite, using two core controls: asset allocation and diversification.
Allocate Assets According to Goals, Not Recent Performance
Many investors select a mutual fund scheme based on its recent performance, Agarwal writes. A fund delivering exceptional returns over the past year may not suit the investor's financial objectives and may even raise future investment risk. Instead, he advises building a portfolio on the basis of asset allocation — deciding what percentage of the total corpus is allocated among asset classes such as equity, fixed income, commodities, or cash and equivalents. Asset allocation aims to balance risk and reward by proportioning assets according to financial goals.
Risk is unavoidable when investing in mutual funds.
Each asset class behaves differently under changing market and economic conditions:
| Asset Class | Behaviour described by Agarwal |
|---|---|
| Equity | Potential to generate higher long-term returns; more volatile than other classes |
| Fixed income | Exhibits more stability; can help reduce the impact of market fluctuations |
| Gold | Often performs well during economic uncertainty; acts as a hedge |
| Commodities / cash & equivalents | Listed as allocation options; no specific behaviour detailed in the source |
Determine the Right Allocation: No Formula, Only Judgement
There is no rule or formula for the right asset allocation, Agarwal states. Investors must determine the proportion on their own, depending on age, income, financial goals, risk tolerance and investment horizon. For example, young investors saving for retirement over the next 25 to 30 years may allocate a larger share — or all — of their portfolio to equity funds to maximise long-term growth. Someone nearing retirement, or whose primary objective is capital protection, may choose a higher allocation to debt funds and other relatively low-risk investments to preserve capital and generate stable but lower returns.
Diversify Across and Within Asset Classes
Once asset allocation is decided, diversification across and within an asset class effectively reduces dependence on the performance of a single asset class and can improve overall risk-adjusted returns over the long term. If the entire corpus is invested in equity funds, Agarwal suggests spreading it across debt funds, hybrid funds and gold mutual funds or gold ETFs. Different asset classes often react differently to economic events: during periods of market volatility, debt funds may offer relative stability, while gold has historically acted as a hedge against economic uncertainty.
By choosing mutual funds within each asset class after setting the allocation, investors can build a portfolio better positioned to withstand market risks while working toward their financial goals, Agarwal concludes.
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