Should I choose small cap mutual fund with a lower P/E?

I am a banking professional. I am 30 years old. I have been investing in mutual funds for the last three years. I want to invest in a small cap fund for with more than five-year horizon. I have finalized on two good small cap funds, both highly rated. Should I choose the one with a lower P/E ratio?
-Lokesh Kumar

We ask investors to invest in small cap schemes only if they have an investment horizon of at least seven to 10 years and a very high tolerance for risk and volatility. This is extremely important in the current scenario when the outlook for the economy and market is uncertain. You can use star-rating as a starting point. Mostly, these ratings are based on the three-year performance of the scheme. Those in the first quartile gets five-star rating, whereas the four starr rating is assigned for the schemes in the second quartile. Do not base your decision only on star rating.

Everyone is speaking about cheaper valuations and lower PE in the stock market these days. However, you should keep in mind that there is a difference between the PE of a stock and mutual fund. The PE of a mutual fund is different - it is the weighted average of PE of stocks in the scheme's portfolio. Again, looking at it in isolation doesn't tell you much about the scheme. You can only find out what kind of stocks are there in the portfolio. For more, read: Should investors worry about PE ratio of mutual funds?

You should always look at a combination of factors -the reputation of the fund house and fund manager, consistency of performance of the scheme, various ratios, etc - to find out whether a scheme is suitable for your profile.


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