The vocabulary for describing risk and judging risk-adjusted performance, plus the real-world mechanics of credit events.
Systematic vs Unsystematic Risk
Systematic (or market) risk affects the entire market simultaneously - interest rate moves, macroeconomic shocks, political events - and cannot be reduced through diversification, because it affects virtually every security to some degree.
Unsystematic (or specific) risk is tied to an individual company or sector - a product failure, a management scandal, a sector-specific regulatory change - and can be substantially reduced by holding a diversified portfolio, which is precisely the core value proposition of a mutual fund.
Measuring Risk: Standard Deviation, Beta, and Beyond
Standard Deviation measures total volatility - how much a fund's returns swing around their average, capturing both systematic and unsystematic risk together.
Beta measures sensitivity specifically to market movements: a Beta of 1 means the fund tends to move in line with the market; above 1 means more volatile than the market; below 1 means less volatile.
Other risk measures, used especially for debt funds, include Modified Duration (sensitivity of a bond portfolio's price to interest rate changes), Weighted Average Maturity (the average time to maturity across the portfolio's holdings), and Credit Rating (a measure of the issuer's ability to repay, assigned by rating agencies).
Risk-Adjusted Return Measures
Sharpe Ratio = (Portfolio Return - Risk-free Rate) / Standard Deviation, measuring the extra return earned per unit of total risk taken.
Treynor Ratio = (Portfolio Return - Risk-free Rate) / Beta, measuring the extra return earned per unit of market risk taken - the key difference from Sharpe is that Treynor only considers systematic risk, which matters more for a well-diversified portfolio.
Alpha = Portfolio Return - [Risk-free Rate + Beta x (Market Return - Risk-free Rate)], showing whether a fund manager added value beyond what the fund's market exposure alone would explain - a positive Alpha means genuine outperformance on a risk-adjusted basis.
Gating and Segregated Portfolios
In a genuine credit-risk event (for example, a bond issuer defaulting or facing a severe rating downgrade), SEBI permits gating, where the AMC can temporarily restrict redemptions for up to 10 working days within any 90-day period - this restriction does not apply to redemption requests below Rs 2 lakh, so small investors are not locked out.
Segregated portfolios ("side-pocketing") ring-fence the affected security into a separate portfolio so the scheme's healthy, liquid assets remain available to other investors instead of being dragged down by one troubled holding.
What Drives Returns, by Asset Class
Returns in equity schemes are driven by a mix of fundamental analysis (evaluating a company's financials and prospects) and technical analysis (studying price/volume patterns), and by the fund's broader style choice - growth investing versus value investing, and top-down versus bottom-up portfolio construction.
Debt scheme returns are driven mainly by interest-rate movements and credit-spread changes, managed through duration positioning. Gold and real estate scheme returns are driven by their own distinct macro and demand-supply factors, largely uncorrelated with equity and debt markets.
Numbers to remember
Sharpe = (Rp-Rf)/SD, Treynor = (Rp-Rf)/Beta
Gating: max 10 working days in any 90-day period
Gating exemption: no restriction below Rs 2 lakh redemption
Memory hook
Sharpe looks at total wobble (SD). Treynor looks only at market wobble (Beta).
Independent study aid by Ramaniya, based on the syllabus of the National Institute of Securities Markets (NISM) - not an official NISM publication.
