Step1- Ensure you compare the fund’s returns with an appropriate yardstick: the right peers and benchmarks

For instance, your fund generates a 14% return annually. You feel good about your investment choices. But then your school friend tells you that his fund is up 17% per year. Did you pick the wrong fund? All this research was of no good? Not necessarily.

Ask him what kind of a fund does he have? It’s possible you have a large cap and he has a small cap fund. The benchmarks for which are entirely different. For all you know, his fund is lagging compared to its relevant peers and you are the smarter investor.

Don’t look at your fund’s returns in isolation: Make RELEVANT comparisons. Chose the right benchmarks or peer funds. Compare mid-caps with midcaps, sector based with sector based etc.

Step2-Breaking down the returns: What is total return?

Keep in mind; mutual funds companies are always trying to attract more investors. The return history they publish can be misleading. It’s best to look at it from 2 simple perspectives:

The total return: return is composed of two things – the change in the stock prices that the fund holds and the income earned by the fund (mostly share dividend of those stocks or interest income in case of debt funds). Together they make the total return.

For instance, Fund ABC generated a total return of 15% of which 12% came from stock appreciation and 3% from dividend income. Every fund comes with an option to either invest the income back in the fund or pay it out to the investor.

Mutual Funds usually report annualised returns. For instance Fund XYZ reports a 3-Yr annualised return of 11.5%. This doesn’t mean that the fund generated exactly that in any year. But if you had invested that in 2016 and held onto it over three years that’s what your per year return would have been.

The after-tax return should not be forgotten. The tax rate depends on the type of fund., equity, debt and also on your holding period. Ensure you are making the right after tax comparisons.

The key is to always look for the definition of the return mentioned on the fund’s website or the factsheet. Look for the footnotes or read the detailed factsheet published very carefully.

Step3- Focus on the consistency and history of returns: the longer the better

Don’t just get bogged down but a single year’s performance of a fund. Look for its 3, 5, 10 years return history atleast. Studies have proven that constant trading (buying and selling regularly) doesn’t work. Your investments perform well when invested in the right fund over a period of time.

Single year’s performances can be affected by various short-term factors. The key is to invest in a fund with a consistent track record. Compare it with the relative peers and benchmarks over the similar period of time. There are various online tools available for the same which has made research easy.

Step4-Find out if the manager responsible for the returns is still with the fund

You have made the relevant comparisons and chosen a fund that matches your risk and return profile. The last step is to access who is responsible for the returns generated and whether they are still working with the fund. Basically, you have to ensure that the returns were not just generated by any manager who has left the firm recently.

Moreover, focus on process. Not just people. A Star Fund manager may be an out-performer in his field but if he goes, your money goes. Try to examine if the fund has established a process for stock picking and investment decisions. Make sure the decisions aren’t entirely dependent on an individual but a team of managers.