Why shouldn't you have too many mutual funds in your portfolio? (2024)

FAQs

Why shouldn't you have too many mutual funds in your portfolio? ›

But while diversification is important, it doesn't mean that you keep adding new funds to your portfolio. Investing in too many funds, and justifying it as diversification, is redundant. Beyond a point, there are no additional (diversification) benefits available if you increase the number of funds in the portfolio.

So, it's really about the ideal equilibrium in a portfolio that gives you decently good returns. Most often, investors are likely to fail in getting their desired returns simply because they may hold too many assets in the same class. This is true for mutual funds. Too many isn't good, but nor is too little.

It's all about moderation

If you make a point to load your portfolio with stocks across a range of market sectors, you'll have more protection when one sector takes a beating. But while it's definitely a good idea to own a few dozen stocks, you don't want to load up on too many.

While there is no precise answer for the number of funds one should hold in a portfolio, 8 funds (+/-2) across asset classes may be considered optimal depending on the financial objectives and goals of the investor. Further, higher allocation of portfolio to the right fund is of crucial importance.

High-Risk Mutual Funds

Certain mutual funds can be significantly volatile; this can entail huge returns but there is also the possibility of severe losses during incidents like a market crash.

Investing in too many funds, and justifying it as diversification, is redundant. Beyond a point, there are no additional (diversification) benefits available if you increase the number of funds in the portfolio.

Assess The Need for Mid/Small-Cap Funds

Only those who are willing to take extra risk for extra returns should invest in them, that too for no more than 30% of your portfolio. If you don't want to take extra risk, you can exit the mid/small-cap funds in your portfolio.

Unless you are very well versed with the markets and have expert knowledge about mutual funds, a good rule of thumb would be to own: Large Cap Mutual Funds: Up to 2. Maybe 3 at best. Beyond that, it doesn't make sense as there will be a great overlap in the shares owned by your mutual funds.

If you are a moderate-risk investor, it's best to start with a 60-30-10 or 70-20-10 allocation. Those of you who have a 60-40 allocation can also add a touch of gold to their portfolios for better diversification. If you are conservative, then 50-40-10 or 50-30-20 is a good way to start off on your investment journey.

Your portfolio allocation will depend on your goals and risk appetite. Equity is the best for long-term goals and high-risk takers. For short-term goals, debt is the best. Investing 20% in equity and the rest in other assets would be ideal for risk-averse investors.

Who should not invest in mutual funds? ›

Lack of Control. Because mutual funds do all the picking and investing work, they may be inappropriate for investors who want to have complete control over their portfolios and be able to rebalance their holdings on a regular basis.

One of the prominent reasons for mutual fund loss is a need for more knowledge about the investment options and market. Individuals who invest in mutual funds without proper research often end up in a situation where they have to face a loss of money.

Some investors choose to work with multiple brokerages to mitigate risk and protect their assets. Spreading your assets across different brokerage accounts can help protect you against potential fraud or unauthorized access, Roller says. If one broker has a breach, then you can still trade with another investment firm.

How many funds are enough? One thing you should always remember is that a lot of funds in your portfolio doesn't mean you have a diversified portfolio. A portfolio with 15 funds that have overlapping is not diversified. You should have no more than 4 funds in your portfolio.

While the three-fund portfolio is great because it's simple to learn and easy to manage, it isn't without its disadvantages, as we discuss on our personal finance for physicians primer.