Understand the five steps to select investment funds – 04/29/2023 – From Grain to Grain

According to data from Anbima, there are more than 29,000 investment funds in Brazil, divided into 31 categories. With this volume, it is not surprising that investors find it difficult to select the best ones to invest in. For this, I describe five steps or criteria that should be considered to help with the selection.

To make these criteria easier to remember, I call them the “5 Ps” of funds, given the first letter of each factor.

The 5 Ps are: Perspective, Product, Performance, People and Process.

The first step is guidance on what you should evaluate. That is, if the perspective for investing in a certain strategy, for example stocks, is not favorable, there is no reason to waste time in classifying these products. The next two steps are quantitative criteria.

These three initial steps are ideal for filtering the number of funds. Thus, there are fewer products left for the more laborious evaluation that involves the last two factors and is subjective.

So let’s go to a brief description of these steps.

Perspective
When I mention perspective, I am not just referring to the scenario, but also the possibility for you to invest.

For example, if you are a conservative investor, you may not want to invest in risky products. Therefore, there is no reason to waste time in classifying these products.

Anbima subdivides funds into 31 subcategories according to class, risk and strategy (see all in the link).

Thus, the first step in the investment decision is to select the strategies that fit your profile and whose scenario or outlook is favorable.

In this way, you restrict the strategies and you can compare products within the same category.

Product
Many investors confuse mutual funds with a unique asset class. It is common to hear an investor say that his portfolio is divided into fixed income and funds. In fact, funds are just a vehicle that, if well selected, brings many benefits. Therefore, it is possible that the investor who said he had a diversification between funds and fixed income actually has the same investment.

Considering the same category, you can compare taking into account, more appropriately, the assets that can be invested, the relative risk between the funds and their characteristics.

For example, it makes no sense to compare the management fee of an equity fund with that of a sovereign fixed income fund. The latter must have a management fee of less than 0.5%. While the former will have a management fee close to 2%.

When selecting a product within the same category, consideration should be given to initial investment characteristics, value for secondary transactions, redemption period, management fee, performance fee, return objective, fund equity and time of existence.

Your objective at this point is to pinpoint which characteristics fall within your investment interest. Then there is the performance analysis.

Performance
After selecting the strategy you want to invest in and the products that have the right characteristics, you will compare the past performance of the products to filter out those that have the best consistency.

Reducing the number of funds to evaluate through the performance filter will be important, as the next two steps are qualitative.

As the qualitative steps require more work, reducing the number of backgrounds will save time working on the next steps.

To assess performance, it is not enough to choose the fund that has appreciated the most in the recent past.

In addition to risk, consistency and hit rate must be taken into account. To understand more about risk and the other two indicators, see the articles I wrote earlier.

People
When you invest in a certain strategy, for example, shares of companies that pay dividends, and you invest through funds, you are, in fact, hiring a whole team to manage your resources.

So what do you think would be reasonable to do before hiring a team?

You must evaluate the curriculum of the entire team that is part of the management, including analysts and economists.

The curriculum of these individuals, in general, can be found on the manager’s website in the document called the Reference Form. Rate the experience and compare between products in the same category. You will want to select the best team to manage your resources.

Process
In order to repeat the chances of good past performance, in addition to a great team, you will want to understand the decision process that led to the successes and the correction of errors when they occurred.

This is the last step, as in order to understand the investment process, you may need to contact the fund’s commercial team or an investment advisor.

Try to see if the decisions are collegial, if the decision was not just a matter of luck, how the fund’s risk is controlled and how the strategies are implemented.

This step will take experience. Don’t be discouraged if it seems difficult at first. The more you do it, the more you will acquire knowledge and experience to interpret the information.

The biggest source of frustration with the investment fund vehicle is the lack of an adequate set of criteria for selection.

The 5 “Ps” are an excellent criterion for the process of classifying and choosing investment funds. By following these steps, I am certain that you will select the best funds and invest more safely.

Michael Viriato is an investment advisor and founding partner of Investor House.

Talk directly to me via email.

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Book: The Journey to Financial Independence

summary

Introduction
Understand how you will achieve your financial independence
Living on an income is the last step on the journey to financial independence
These are the biggest questions about the journey to independence

Part 1 Construction of the plan
Chapter 1 The first step in building the blueprint for financial independence
Chapter 2 How do you define the rate of return in your plan for independence?
Chapter 3 Find out what equity you need to achieve your financial independence
Chapter 4 On your journey to independence, don’t overlook the importance of this factor
Chapter 5 Understand the two ways I applied to increase my saving capacity
Chapter 6 If You Double This Factor, Your Equity Can Multiply Much More
Chapter 7 Connecting the dots to build your plan

Part 2 Assembling the portfolio to lead you to financial independence
Chapter 8 Before making any investment, define these two factors
Chapter 9 For your investments to beat the CDI, you need to make two choices; understand
Fixed Income
Chapter 10 You should not build an income portfolio if you want to reach equity to live on income
Chapter 11 Avoid these two common fixed income investor mistakes
Chapter 12 In fixed income, does it pay to invest in private credit in relation to public credit?
Chapter 13 Discover how to win the private fixed income premium, but with low risk
Chapter 14 This is the simplest way to plan your financial independence with fixed income
Chapter 15 With our interest rates, find out if it pays to invest in dollars
Variable income
Chapter 16 Taking a risk can accelerate your journey to financial independence
Chapter 17 What is multimarket funds and how did they come about?
Chapter 18 Understand how to select hedge funds
Chapter 19 Is Real Estate an Appropriate Investment for Achieving Financial Independence?
Chapter 20 Real estate funds are better investments than real estate, but most prefer the worst; understand
Chapter 21 These real estate funds are more like fixed income funds
Chapter 22 When selecting Real Estate Funds, be careful with this indicator
Chapter 23 Discover the five indicators that you cannot disregard in paper real estate funds
…
Chapter 26 Don’t Invest in Stocks If You Think This Way
Chapter 27 Stock Investing Is For The Long Term, But Not For Every Term
…
Chapter 33
Chapter 34 When Should I Trade a Risky Investment That Is Not Performing?
Investment funds and Private Pension
Chapter 35 Find out when it pays to invest in investment funds
Chapter 36 Understand the five steps to select investment funds
…
Chapter 37 Multimarket funds disappoint in the semester; what to do?
Deciding your investment portfolio
Chapter 38 This application lost CDI in the last 12 months. So why invest?