On September 27, 2007, the BSE Sensex had hit the 17000 level (on closing basis) for the first time. The index has been lingering thereabout even 5 years later in 2012 without any real movement. Grievous fall of the market for the reasons now known even to the most reluctant investor took the index to 8000 levels in March 2009. However dramatic recovery happened thereafter, rekindled the aspiration of wealth creation among investors but unfortunately it didn't last long as the range bound markets frustrated them over and over again. It was quite a crucial phase for mutual funds as they got no real support from the market which tested the fund management abilities of fund managers. Some funds have made their fortunes while others have lost their charisma. The total folios held by retail investors under all equity oriented schemes put together, in March 2012 were 9.4% lesser than the number of folios held by them in March 2009. Clearly the investors' interest is drying but their behaviour has remained more complex than one would imagine. In this article we have analysed how investors have responded to the performance of mutual funds and also have tried to answer the most commonly encountered question of how to deal with an underperforming mutual fund.
Change in AUM is calculated over 5 years (i.e. from March 2007- March 2012; except in case of IDFC Premier Equity fund where the change in AUM is calculated from November 2007- March 2012 for the reason of unavailability of data)
NAV Data as on June 29, 2012 (Source: ACE MF, personalFN Research)
The funds that have become popular with the investors in last 5 years are either the top performers of the recent times or the steady performers across the market cycles. The sector and thematic funds have dominatedthe list of top performing funds over the last 5 years. Ironically, the bottom performers too are the sector and thematic funds. SBI Magnum FMCG fund has generated extraordinary returns to become the highest return generator. Though with Rs 71.4 crore under management, SBI FMCG is still a small fund; its AUM has grown at an exponential rate in last 5 years. The growth in AUM of HDFC top 200 suggests that the funds outperforming the benchmark index and the category average consistently (and across the market cycles) have been preferred by the investors. At present, HDFC Top 200 is the largest equity oriented fund in India. Reliance Banking is another example of how a sector fund can captivate investors with its eye-popping performance.
The memories of losses made in the bear market of 2008 are still not wiped off from the investors' mind. Due to stagnated markets and the deteriorating economic fundamentals; people have rather preferred to stay out of market than being invested for the long term. Those investing in sector funds are either astute investors who understand the economic cycles and business cycles well or they are the greedy investors following the heard to generate extraordinary returns in quick time. We believe that sector and thematic funds should be avoided as they invest in a concentrated portfolio of stocks belonging to a particular sector or a theme. These funds often exhibit extreme performances. When they outperform the broader markets; they outperform by a huge margin. But they fall like a pack of cards when the underlying sector is grappled with problems. Holding non performing sector funds would be a futile exercise as they may or may not return to their glory days. On the contrary you tend to lose the thriving opportunities present in other sectors and end up blocking yourcapital. Hence if at all, going against our belief, you invest in a sector fund you must be nimble enough to time your entry and exit.
In case of diversified funds too, giving undue weightage to the recent performance may be equally harmful and going by the star ratings may be hazardous if the rating is not the outcome of in depth and thorough analysis of mutual funds. There are several other parameters other than merely returns to gauge the performance of the fund. The prudent approach to determine how your fund is doing is to examine its performance against its benchmark and also the category peers. If it is outperforming the benchmark but the underperforming the category average then it may be an alarming bell for you. But, if it fails even to match the returns generated by its benchmark over relatively longer duration then it must be replaced with a close alternative.
We also believe that investors should follow their financial plans meticulously and invest in scheme that not only suit their risk profile but also have return generating potential needed to satisfy their goals. The portfolio rebalancing of mutual funds should not therefore be carried in isolation. However, it is undisputable that a consistently underperforming fund needs your attention but you need not respond by simply staying out of market. This may close doors for you to benefit from opportunities that may arise in the market.
PersonalFN is a Mumbai based Financial Planning and Mutual Fund Research Firm