Riskometer: Your guide to choosing the right mutual fund

• The riskometer is calculated based on a number of factors, including the type of assets of the mutual fund, the fund's volatility, and the credit quality.
  
• Equity funds, which invest in stocks, are generally considered to be more risky than debt funds, which invest in fixed income instruments.
  
• When choosing a mutual fund, it is important to consider your own risk tolerance and investment goals.
  

Mutual funds carry varying levels of risk. These risks can be influenced by factors such as the types of investments held within the fund, prevailing market conditions, and the chosen strategy of the fund manager.

It is crucial for investors to evaluate their risk tolerance and align it with the fund's risk level before investing. This helps ensure that the chosen mutual fund aligns with their financial goals and comfort level with potential fluctuations in returns.

Market regulator’s initiative

The mutual fund riskometer is a representation of the risk associated with a mutual fund scheme. It was introduced by the Securities and Exchange Board of India (SEBI) in 2013 to help investors make informed investment decisions. In 2021, SEBI made some changes to the riskometer to improve its accuracy and transparency. The riskometer is based on a six-level scale, from low to very high, with each level represented by a different colour.

What the riskometer signifies

The riskometer is calculated based on a number of factors, including the type of assets that the mutual fund invests in, the fund's volatility, and the fund's credit quality.

“To assess the quality of a system, an average retail investor usually has little knowledge of risks because he is not familiar with them. Therefore, in order not to take unnecessary risks with his portfolio it is wise for them to examine the risk indicator,” says Mukesh Kochar, national head, Wealth, AUM Capital, a wealth management firm and mutual fund distributor.

According to the riskometer, there are six levels of risk.

• Low
  
• Moderately Low
  
• Moderate
  
• Moderately High
  
• High
  
• Very High
  

How to use the riskometer

When choosing a mutual fund, it is important to consider your own risk tolerance and investment goals. If you are a conservative investor, you may want to choose a fund with a low or low to moderate riskometer rating. If you are a more aggressive investor, you may want to choose a fund with a moderate to high or high riskometer rating.

It is also important to remember that your risk tolerance may change over time. As you get older, you may become more conservative and want to reduce your risk exposure. Conversely, if you are young and have a long investment horizon, you may be more willing to take on risk.

When investing in a mutual fund scheme, the investment horizon is very important. “Their investment horizon and the funds chosen for investments should be aligned. Short term investments should be allocated to low risk products, while long term investments may have a moderate or high risk rating,” says Kochar.

Pankaj Kumar, Partner at Alpha Capital, a wealth management firm, agrees, “If your time horizon is short, say one or two years, you should not go with a high amount of risk, because if a market turmoil happens you may end up losing money. But if you have a very long tenure then it makes sense to look into funds with higher risk.” says Kumar.

The riskometer is a starting point

“ The riskometer is the same for almost all the equity funds. You cannot have large cap funds and small cap funds under the same category. There should be some amount of bifurcation among them,” says Kumar.

The actual risk associated with a mutual fund can vary based on various factors, including the prevailing market conditions and the investment approach of the fund manager. Hence, it is essential for investors to thoroughly review the fund's prospectus before making an investment decision.


“At this stage the riskometer is treating large cap or sector funds as equal at risk, which is not correct. So that's not the full proof, it's just a step in the right direction,” says Kochar.

Once you have narrowed down your choices, take some time to research different mutual funds. Read the prospectus and compare the fees, performance, and risk rating of different funds. A financial advisor can help you assess your risk tolerance and choose the right mutual funds for your investment goals.