Investing in a mutual fund is a long-term decision and investors typically remain invested for years. While selecting a fund, it is important to understand factors impact performance of mutual fund and Turnover Ratio is one such factor. Also, you should check the ratio for your existing fund while doing the annual portfolio return check.
Why is Turnover Ratio Important?
Like you & me, when mutual fund manager buys and sells stocks or other financial instruments, he/she needs to pay brokerage. Most mutual funds, have tie-ups with brokerage companies (like ICICIDirect, HDFC Securities etc) for a reduced brokerage rate because they trade in huge volumes. However, the brokerage is a cost and is ultimately borne by investors. Since brokerage amount depends upon the frequency & quantity of trade, brokerage cost is higher for funds which keep on buying & selling stocks.
Industry experts use “Turnover Ratio” which represents the percentage of a fund’s holdings that changes every year. Hence if a mutual fund’s turnover ratio is 10%, it means that the fund manager has changed 10% of holding over last one year. Similarly, a turnover of 100% would mean that the entire portfolio has changed in the past one year.
Where do I find the Turnover Ratio of my fund?
Turnover Ratio of funds is reported by mutual funds on monthly basis. The ratio is measured for a 12-month time period. Hence a turnover ratio of 31% in April of 2017, would mean that from the mutual fund has replaced 31% of its original holding since May 2016(till April 2017).
Is a high or low Turnover Ratio bad?
Well, that depends on what it achieves. If a fund with low turnover generates better than market returns, then we as investors should have no problem or vice verse. However, the problem arises if a fund stops generating returns for its investors.
Our observation shows that you will find outperformers and underperformers in both high and low turnover schemes.
We would recommend that you review your mutual funds today and see the turnover percentage. If your fund has not generated good returns but has not traded much, you can feel sad & let it pass. If however, your fund has traded a lot without generating returns, you should feel even more unhappy and consider changing your fund.