What is Mutual Fund Ranking?
Mutual funds can help you achieve your financial goals. You can invest in multiple asset classes to earn inflation-beating returns through diversification.
However, with 44 Asset Management Companies (AMCs) offering more than 2,500 mutual fund schemes in India, choosing a suitable scheme can become an arduous task for you. What you can do is look at the mutual fund ranking and several other factors to determine whether you should invest in it or not.
What is mutual fund ranking?
Mutual fund ranking refers to the rating given to a mutual fund by India Limited’s Credit Rating Information Services (CRISIL). Just like a borrower’s creditworthiness is gauged through their CIBIL score, the value of a mutual fund can be ascertained through its CRISIL rating. It reflects how a particular mutual fund can perform in the upcoming time.
Let’s learn more about CRISIL, how it rates mutual funds, and what it means for the investors.
What is CRISIL?
The CRISIL is an internationally-renowned credit rating agency. It provides research and ratings on financial tools, such as loans, mutual funds, stocks and securities, bonds, and deposit certificates. The principal objective of the CRISIL is to ensure that financial markets are functioning in a better manner.
The analysis, insights, and ratings provided by the CRISIL are helpful for investors, depositors, and financiers by enabling them to mitigate risks and make better financial decisions.
How does CRISIL rates mutual funds?
CRISIL assigns rankings or star ratings to mutual funds on a scale of one to five. Here, CRISIL Fund Rank 1 indicates that the fund performs exceedingly well and is given to the top ten percentile of funds in any peer group. Similarly, CRISIL Fund Rank 2 denotes that the fund performs well in its category and is given to the next 20 percentile of funds after Rank 1 funds.
The CRISIL provides these ratings to mutual funds based on some set parameters, which include:
Superior Return Score (SRS)
The SRS of a mutual fund indicates its risks and returns compared to other funds in the same category. In other words, it denotes a comparison between similar mutual funds. For example, a mid-cap mutual fund should be compared only with additional mid-cap funds and not large-cap funds.
Mean return and volatility
The mean return of a mutual fund refers to the average of its daily returns based on its Net Asset Value (NAV) whereas, volatility is the standard deviation of the mean return. CRISIL considers the mean return and volatility only for ranking equity and short-term debt funds.
The active return of a mutual fund is the percentage gain or loss in its value compared to its benchmark. Because different funds have different risk-return profiles, it’s better to use the active return parameter for rating mutual funds instead of mean returns.
Portfolio concentration analysis
The portfolio concentration analysis measures the risks arising due to the over-diversification of funds. For example, if you diversify your portfolio across too many funds, you may end up having a high percentage of similar funds, which may defeat your purpose.
CRISIL also considers the quality of the underlying assets for ranking mutual fund schemes. It determines the chances of default by the issuer of the debt mutual funds to ensure a timely repayment.
Exposure to sensitivity
This parameter measures the reaction of a fund when it is exposed to market fluctuations. CRISIL considers an Industry Risk Score (IRS) for debt mutual funds to evaluate its industry concentration and exposure to sensitive sectors.
Liquidity analysis (LA)
The liquidity analysis measures the ease with which an AMC can liquidate a portfolio. The LA score is calculated for equity mutual funds based on the number of days taken to liquidate the portfolio. A lower LA score suggests that the fund the highly liquid and vice-versa.
The tracking error of a mutual fund indicates the variations in its performance with respect to its tracking index. The lower the tracking error, the better it is for a fund.
What do CRISIL ratings signify to the investors?
CRISIL has a reputation for providing unbiased and accurate ratings to mutual funds. Many investors look at the CRISIL rating of a fund before deciding to invest in it. It is a highly reliable source to determine the effectiveness of a mutual fund, which is why many AMCs also use it as their marketing tool.
However, the CRISIL rating of a mutual fund should not be the lone parameter behind your investment decision. It would be best to look at other assessment metrics, including past performance, liquidity, and Sharpe Ratio, among others. If this entire process seems complicated to you, you can seek the help of a financial advisor.