Mutual funds are among the more popular options when it comes to investments. While talking about investing in mutual funds, a common question pops up: Does the size of the mutual fund matter? Investors usually wonder whether investing in a larger mutual fund has any substantial advantages as compared to investing in smaller funds.
While considering the options for mutual funds, this is the least understood parameter. Having an insight into the size of the fund and what role it plays in the investment is a vital factor. Keep reading to explore this question and understand the basics about fund size in mutual fund investing.
What is a Mutual Fund?
Before we understand the size of the fund, it is essential to know what a mutual fund is.
A mutual fund is a type of investment vehicle that pools money from multiple investors to buy a portfolio of stocks, bonds, or other assets.
Mutual funds are managed by professional fund managers who make investment decisions on behalf of the investors. When you invest in any mutual fund, you are simply buying a share of that particular fund. As the prices of stocks fluctuate, the performance of your portfolio also goes up or down.
Fund Size or AUM
A fund size typically refers to the total amount of assets under management by that fund. The AUM includes all the money that is invested by individual investors. From a couple of million dollars to a billion dollars, fund size may drastically vary.
All the underlying assets are managed by fund managers who make decisions on behalf of the investors. AUM is beneficial as it lets investors know about the fund house and its consistency. It also reflects how the fund performed recently as compared to its competitors. One may also gauge the measure of returns earned by the fund.
Should you consider the AUM before investing in mutual funds?
The answer to this question varies for different options. It entirely depends on whether you are investing in equity funds, debt funds, small-cap funds or large-cap funds. Let’s have a closer look:
Equity Funds
If you are thinking of investing in equity funds, the focus should be on how well the fund performed and generated returns. Also note how it capitulates the investment mandates. AUM may not be the most important factor to consider while investing in equity funds. Investors can figure out the consistency of a mutual fund by observing how it performed through market fluctuations. If the returns generated were positive, the mutual fund is a good option. Therefore, the fund size does not matter in this case.
Debt Funds
AUM matters when it comes to debt funds. If a debt mutual fund has a vast fund size or has more assets under management, it is then a better option for investors to achieve fixed fund expenses. The larger the fund size, the lower is the expense ratio for each individual. A low expense ratio means that it will be reflected in the fund’s returns. Negotiation with debt issuers becomes manageable if the fund size or AUM is larger.
Small-cap and mid-cap funds
Small-cap companies have a tendency to invest in companies that have potential for high growth. Buying and selling the shares of funds of companies that are still growing is quite demanding. It also has a direct impact on liquidity. When it comes to small-cap funds, they restrict cash inflow after a certain level.
If the AUM rises beyond a specific mark for mutual funds, this situation arises. The only reason for this restriction is that a larger find size indicates that the fund is a major shareholder in the company. When the market starts fluctuating, this restriction poses challenges in share trading. However, mid-cap companies comparatively have a growing fund size and more liquidity.
Large Cap Funds
Investors usually have a common notion that the larger the fund size, the better the funds are. This theory is not yet fully proven and neither is there firm evidence for this. You may compare the several large-cap funds that vary in size to observe that the fund size does not correlate to the returns generated by the mutual funds in any way. Large-cap funds can accommodate a high AUM easily.
Advantages of investing in a Larger Mutual Fund
Here are some advantages of investing in a mutual fund of a greater size:
Diversification
A larger mutual fund can potentially offer greater diversification compared to a smaller one. With more assets under management, the fund manager can diversify the investments across a broader range of securities, which may reduce the risk of the fund.
Lower expenses
Mutual funds with a vast size may be able to use, to their benefit, economies of scale to negotiate lower fees and expenses, which may translate into lower costs for investors.
Higher liquidity
Larger funds tend to be more liquid than smaller ones. This means that investors can buy and sell shares a little more easily, without significantly impacting the price of the fund.
Concluding Words
Investors should consider all relevant factors before investing in mutual funds rather than solely relying on the AUM. Tracking assets under management may give you an idea of the popularity of the funds which may alter your decision slightly. Mutual funds grow and it affects their performance as well. Remember that it is also possible for a mutual fund to grow so massive that it becomes unwieldy. Make informed decisions and do not invest in mutual funds simply on the basis of fund size alone.