How to invest in a Contra Fund?

How to invest in a Contra Fund?

A trend usually is the overall long term direction of the share market in Mumbai or an asset’s prices, long term direction in the market. Technical analysts identify these trends by trend lines or price action that highlight when the price is making higher swing highs and higher lows for an uptrend or lower swing lows and lower swing highs in the case of a downtrend. Most investors and traders refer to the trend as a friend and decide to trade in the current direction of the market trend, while contrarians seek to identify reversals in the market or trade against the existing current trend. Indices generally keep on moving in one direction or another, until something causes their direction to reverse.

Mutual fund managers implement various investing techniques to attain the investment objective of the type of mutual fund scheme. Contra mutual funds as the name suggests, take a contrary position in shares listed on the stock market in Mumbai, BKC with respect to the current trends seen in the BSE or NSE market. Markets frequently over value and undervalue listed stocks. A contra fund manager seeks to capitalize on these distortions in stock price equilibriums. The core belief is that any price distortion of an asset may normalize over the long term once the existing market forces subside. In contra funds, the fund managers place their bets on those shares that aren’t performing well and are considered undervalued rather than focusing on those equities that seem to be doing well at a moment in time. Contra funds work on the notion that the asset class in which the contra fund invests will recover at some point in time over the long term.

A contra fund invests a minimum of 65 percent in equity and equity related instruments. The mutual fund manager in a contra mutual selects and invests in shares that are undervalued wrt to the current trend. Such an investment strategy deployed by these funds may seem comparable to that of value mutual funds, however they are not the same. This contrarian style of investing sometimes may benefit investors when trends reverse, however the risks of this style are greater, and this style offers mutual fund investors in India an opportunity to earn alternate returns in mis-priced securities listed on the stock exchange.

When a contra fund invests in certain shares there is the risk that companies may take a long time to come out of the doward trend initiated by the negative news in their business. Hence there is always a probability that the underlying shares in a contra mutual fund may keep on underperforming for an extended period of time, thus pushing the fund manager to liquidate those shares listed on the stock market in Mumbai at a loss.

If you are thinking of investing for the short term in a contra mutual fund with an investment horizon of lesser than five years, then in such a scenario you should never consider investing in these contra funds since these funds employ techniques of selecting shares against the existing trend in the stock market and some value strategies, which may not or never yield good returns over a short duration of under five years. Most mutual fund investors who invest in contra funds are aggressive investors who are willing to tolerate higher levels of risk and use this contra fund as a sort of hedging technique to their overall mutual fund portfolio.

You should always seek advice from a well-established investment advisor or consult with your mutual fund distributor to understand the risk before investing in contra funds. Remember that since contra mutual funds invest heavily in undervalued shares counter to the existing trend, they effectively come with additional risk and hence they are suitable for aggressive investors only, who are not seeking immediate returns. Contra mutual funds are a type of equity mutual fund and are taxed just like any other equity fund.

The information, analysis and opinions expressed herein are for educational purposes only and are not intended to provide specific advice or recommendations for types of mutual fund schemes. This material is not an offer, solicitation or recommendation to purchase any financial products or services or contra mutual funds. Always remember that all investments, including contra mutual fund investments carry some level of risk, including the potential loss of principal invested.