What are some of the risk parameters associated with Mutual Funds?
Standard Deviation: is a measure of evaluating the risk caused by the volatility. It tells how much a fund’s performance deviates over a time-frame. Higher the standard deviation, the higher the risk taken by the fund.
Risk-adjusted return: is the amount of risk taken by a fund to earn the return and is a useful parameter to compare funds within a particular category.
Sharpe Ratio: compares the return an investor is getting with the level of risk taken by fund. To calculate Sharpe ratio, you have to find the difference between the return of a fund and the risk-free return, and divide the result by the standard deviation of the fund.
Sharpe Ratio = (Fund return – Risk-free return)/Standard deviation of the fund
Sortino Ratio: helps to determine a fund’s ability to contain the downside risk during a depressing market condition. Unlike the Sharpe ratio, Sortino uses only downside deviation for calculating the volatility.
Sortino Ratio = (Portfolio Return – Risk Free Return) / Downside Deviation
Treynor Ratio: determines the excess returns earned for the risk taken by the fund. It is also called the reward-to-volatility ratio. Treynor ratio uses the ‘Beta’ of the fund (volatility of a fund compared to the systematic market risk). The idea is to evaluate the value added for the risk taken by the investor.
Treynor Ratio = (Fund return – Risk-free return)/Beta of the fund
Can I lose money investing in index funds?
Like in all mutual funds – there is always risk of losing money in the short-run. An index losing 1% daily will lead to the index fund’s value falling by 1%. However, over the long-run index funds have delivered healthy returns.
Why should you invest in index funds?
Low Cost: Since index funds are passively managed, the total expense ratio (TER) is very less as compared to the actively managed ones. While an actively managed fund may charge you anything between 1-2% as TER, an index fund would typically charge ...
What is the purpose of the Risk Assessment?
When you visit a doctor, the first thing the doctor does is take your vitals and your pulse, and ask some questions about your general health, followed by specific questions related to your ailment. In a similar way, a financial advisor is no ...
Should I pay attention to fund ratings?
Ratings from independent sources is one of the most convenient ways to compare different mutual funds. But they rely heavily on 3-5 years of past performance which is not a good indicator of future performance. In addition, independent ratings do not ...
Who manages Index Funds?
Just like actively managed mutual funds, index funds are also managed by fund managers. But fund managers have a little role to play, because constituents of index funds seldom change. Managers just buy and hold all the securities of a particular ...