Handling underperformance: when to stay and when to exit

Buying gets all the attention. Selling is where most of the damage is done — and almost all of it comes from selling for reasons that felt urgent and were not.

The useful distinction is not between good and bad funds. It is between things that changed about the fund and things that changed about the market. Only the first is a reason to act.

Bad reasons that feel like good ones

The market fell. This is the expensive one. A fall is what equity does on the way to its long-term return; it is priced into the drawdown history of every category. Selling converts a temporary mark into a permanent loss and takes you out of the recovery. If a fall makes you want to sell, the problem is your asset allocation, and the fix is at the allocation level — not this fund.

It lagged for six months. Every strategy has stretches out of favour. A value fund in a momentum year and a quality fund in a junk rally will both trail, and in both cases the fund is doing precisely what it said it would.

Something else did better. There is always something that did better. Chasing it is how portfolios end up with fourteen funds and a return well below any of them.

It lost a star, or slipped down a list. Ratings — including the one on this site — are backward-looking summaries computed over a stated window. A fund moving from four to three has usually had one weak period age into the calculation. That is information, not an instruction.

Reasons that actually justify selling

The mandate changed. This is the clearest one. If the scheme merges, is taken over, or has its category or investment objective revised, the thing you bought no longer exists. Read the notice — SEBI requires a fundamental attribute change to come with a 30-day exit window free of exit load, which is the one moment when leaving is genuinely cheap.

It has drifted from its label. A fund whose portfolio no longer matches its category — a “large cap” quietly loaded with mid caps to chase returns — has changed its risk without changing its name. Check the market-cap allocation on the fund page rather than trusting the label.

Persistent underperformance against its own peers. The word doing the work is peers: compare inside the sub-category, never across. And give it a real window — two to three years of consistently trailing both the benchmark and the category, ideally confirmed by rolling returns rather than one trailing figure, before concluding anything.

Your own situation changed. The goal arrived, the horizon shortened, the allocation needs rebalancing. Most legitimate selling is this, and it has nothing to do with the fund’s quality.

The fund manager left. Now what?

Usually: nothing, immediately.

Large AMCs run a process, a research team and an investment committee; a single departure rarely rewrites how a fund is run. Where it matters more is a concentrated, high-conviction or genuinely manager-driven mandate, where one person’s judgement was the product.

The reasonable response is to watch rather than act — give it six to twelve months and see whether the portfolio’s character changes: turnover, concentration, sector positioning, and whether it starts behaving unlike its own history. Check who took over and what they ran before. Selling on the announcement means paying tax on a suspicion.

The cost of being wrong

Switching is never free, and the bill is usually larger than the improvement being chased:

• Tax. Redeeming is a taxable event: 20% on equity gains under a year, 12.5% above the ₹1,25,000 annual exemption beyond that, slab rates on most debt.
• Exit load, if the units are young.
• The reset. New units start a new holding period, so you are back to short-term rates for a year.
• The switch itself may be the mistake. Selling a laggard to buy last year’s winner is a well-documented way to buy high and sell low on a schedule.

A useful test before acting: would I buy this fund today at this price, knowing what I now know? If yes, holding and selling are the same decision, and selling just costs tax.

A sane review habit

• Review annually, on a fixed date, not when markets move.
• Judge against the peer group and the benchmark, over multi-year windows.
• Write down why you hold each fund. Sell when that reason stops being true — which is a different and much rarer event than a bad quarter.

Then leave it alone. The screener and the fund pages are there for the annual review; checking a NAV daily has never improved an outcome and reliably worsens behaviour.

Key takeaway

Separate what changed about the fund from what changed about the market — only the first is a reason to act. Mandate changes, style drift and multi-year underperformance against the correct peer group qualify; a bad quarter, a lost star and a falling market do not. Ask whether you would buy it today: if yes, selling only costs tax.