In order to decide which Mutual Funds suits your financial objective, there are a few key metrics that can help with the decision making process.
Investors need to carefully analyze the following metrics and understand each of them before investing their money. On tickertape, we have taken into consideration the 6 main metrics that are fundamental to analyze your portfolio.
1. Expense Ratio - In simple terms, the expense ratio can be defined as the annual fee charged by a given mutual fund scheme to manage the money invested on your behalf. This is similar to a maintenance fee charged by a house owner to their tenants. Under the Expense ratio, charges are typically broken down from fund managers' fee to expenditures incurred to run the fund administration. A lower ratio usually indicates higher profitability and a higher ratio means lower profits for an individual investor.
2. Beta - Beta refers to the measure of volatility or the systematic risk taken by an investor in a given portfolio compared to the market as a whole. By definition, the market has a beta of 1.0. Individual security and portfolio values are measured according to how they deviate from the market.
3. Sharpe Ratio - The Sharpe ratio is ideally used to gauge the performance of an investment after adjusting its risk. It comes down to maximizing your returns and reducing volatility. For example, if the annual return for a portfolio is 10% and had less or zero volatility, it is said to have an infinite (undefined) Sharpe ratio. This ratio is named after the famous American Economist, William Sharpe. The formula for this ratio is given below, Since it is practically impossible to have zero volatility, it is significant for the expected returns to increase helping with the increasing risk factor.
4. Alpha - Alpha indicates the performance of a portfolio after the risk is adjusted on it. . It takes the volatility (price risk) of a security or fund portfolio and compares its risk-adjusted performance to a benchmark index. An Alpha of 1.0 indicates that the fund has outperformed its benchmark index by 1% and an Alpha of -0.1 indicates vice versa.
For retail investors, it is usually suggested to invest in funds with higher Alpha rates.
5. Tracking Error - Tracking error helps measure the performance of an investment. Besides that, it also helps in comparing the said investment along with a particular benchmark or an index over a period of time. In simple words,
tracking error can be defined as the returns gained from an investment portfolio minus the returns given by the compared benchmark. There are two ways in which an investor can calculate this ratio.
- The cumulative returns of the benchmark are deducted from the investment portfolio’s returns
- The portfolio returns are deducted from the benchmark first. Subsequently, the standard deviation of the outcome is calculated using this tracking error formula
6. SD Annualized -