Checking MF report card
As fund houses have shuffled their schemes, it is time for investors to find out how the schemes have fared

Around seven months back, in November, this column had advised equity mutual fund investors to get out of schemes that had not been doing well. The logic was that the market was booming and so MF schemes should deliver superior returns when the party is on.

Well, it is once again time to review one’s equity MF schemes and shift out of under-performing ones. Never worry about the management fee involved in churning one’s portfolio. Exit and entry loads would hit the capital, but in the anxiety to save 2 per cent money, one may end up losing more money if corrective steps are not taken.

A review of schemes has become necessary for various reasons. First, a restructuring of mid-cap and small-cap mutual fund schemes have happened because of a new, well-defined explanation of what can be called a mid-cap or small-cap stock—based on their market capitalisation—by the market regulator, the Securities and Exchange Board of India.

This has forced many mutual funds to sell large-cap and mid-cap stocks they were having in their small-cap schemes. Large-caps probably had helped these schemes to outperform even when the market was falling.

On the face of it, such schemes looked like small-cap schemes but in reality they were large-cap schemes. While there is nothing wrong in saving the wealth of investors, having a mid-cap stock or large-cap stock in the small-cap scheme amounts to mis-selling a mutual fund scheme. For, when small-caps do well in the market, this particular scheme may not be doing well.

Now that the restructuring is done and dusted, a mid-cap scheme now is a representative of what it should have been in the past. After the clean-up, it is time to check which scheme or fund manager has done well. After ascertaining this, an investor may decide whether or not to stay with a scheme.

The second reason is that despite the market seeing a corrective phase, the money flow into equity mutual funds has not come down much. Of course, in the last six months, some months did see a dip in fund flow, but that was largely over technical reasons like tightening of liquidity close to the financial-year ending. Net of outflows, as much as Rs 24,480 crore has flown into equity funds in the last two months, during April-May. That means retail investors are still increasing their exposure to the equity market.

If this trend persists, probably two years down the line the net asset value (NAV) of mutual fund schemes would be on the display boards of bourses, much like the ticker on stocks. When massive money flows into any asset, bubbles too will develop. So, it is all the more important for investors to review the performance of their equity schemes at regular interval.

A third reason is that since the market has corrected for over four months now, the stocks with relatively less weight in different indices have suffered higher damages than the heavyweights. This calls  for comparing the fund performance against three distinct variables: the market as a whole; the index taken as benchmark for the scheme; and peer schemes.

This will show how the fund manager has weathered the corrective phase. Has his scheme outperformed or underperformed the benchmark index? If not, never buy the argument that mutual fund investments are for the long-term and so a short-term aberration in performance should be ignored by investors. This is bunkum. No investment principle prohibits a scheme from good performance in the short-term and long-term. Rather, if a fund has been performing badly in the short-term, the chances of it performing well in the long-term is remote.

A periodic review is essential from another aspect. When regular investment is being made through systematic investment plans (SIP), it is important for the investor to ensure that he is putting his money in the right scheme. Otherwise, one would end up investing in a wrong scheme and compound the mistake month after month.

The first simple step in reviewing a scheme is to check how the benchmark index linked to the scheme has performed. Since the market is going through correction, compare the decline in the benchmark with the schemes net asset value (NAV).

To illustrate, let us take the BSE Small-Cap Index, which has a reasonable number of stocks as constituents. This means the fund manager has a good set of stocks to choose among. The index has corrected 18.10 per cent from the all-time high of 20,183 points it touched on 15 December 2017 to a low of 16,528 points on 21 June 2018. The easiest thing an investor can do is to compare the scheme’s NAV on December 15 and on June 21. If the decline in NAV is more than 18.10 per cent, the scheme should be kept on the watch list, and observe how it performs over the next two months. Give the flexibility of another 7 per cent to the fund manager. Do not dump the scheme even if it has lost 25 per cent of its NAV. Maybe, some stocks in that scheme have fallen more drastically than anticipated. Any scheme that had stocks like Manpasand Beverages is bound to take a bigger hit than the index. But that shouldn’t be cause for worry. Such accidents do happen in the small- and mid-cap space. But if the scheme has lost more than 25 per cent, that should call into question the fund manager’s ability  to steer the scheme.

Also, if a scheme is under-performing badly in a bearish market, it would require greater bullishness in market conditions to make up for the loss and give a better return than the benchmark index. An actively managed fund should give better returns than the benchmark. If the scheme is giving returns equal to the benchmark, what is the point? It is better for an investor to shift to an exchange traded fund (ETF) based on the same benchmark and save on fund management fee.

The review of schemes and their shuffling is ideally the job of a professional mutual fund advisor. But the hard fact is that in India, we don’t have a structure where advisors keep the interests of their clients as a sacred priority. They are more keen to sell a new scheme to the investor than shuffling his schemes to ensure optimum return. So, investors have to be on their own and do the math themselves.

(Rajiv Nagpal is consulting editor, Financial Chronicle)

Rajiv Nagpal