Before you invest in a passively managed fund thinking that it is an index fund and will mimic its benchmark index, step back and pause. Similarly, not all schemes with names consisting “Sensex” or “Nifty” are index funds. Read the offer document and ascertain whether the scheme meets your objective.
These are schemes that run an index scheme-type portfolio for at least 75-80% of their corpus. In other words, around 80% of its corpus will be invested in scrips of those companies that form a part of its benchmark index. This portion of the scheme is managed just like an index fund. For the rest of the portion (about 20% of the corpus), the fund manager is free to invest in stocks where he sees a potential. In other words, this part is actively managed. For example, HDFC Sensex Plus Plan invests 80-90% in companies that form a part of—and in exactly the same proportion that they lie in— the Sensex index. The rest 10-20% of the corpus is invested in companies other than Sensex’s 30 companies.
Model-based index funds
This is a relatively new category of funds and there aren’t too many choices around yet. These types of index funds invest in a basket of securities that are either created out of a popular stock market index or are a mixture of a handful of indices. Once the basket is ready, the fund will invest in it. The fund is still passively managed as it won’t tinker with the stocks, nor will the fund manager use his or her discretion to alter the weightages of stocks from what the model throws up. For instance, Motilal Oswal MOSt Shares M50 ETF (MOSt Shares M50) invests in only those stocks that form a part of the Nifty index. But it decides its weightage based on an internally developed model. This model takes into account only the Nifty stocks but comes with its own order of holdings. For instance, as on 15 February, the top stock in the Nifty index was ITC Ltd, at 8.10% of the Nifty index. However, the top stock in MOSt 50 index was Housing Development Finance Corp. Ltd. Axis Bank Ltd is the second largest scrip in MOSt 50, occupying 6.68% of the index. However, it is the 16th largest scrip of Nifty, occupying 1.66% of the Nifty index.
These are funds that run on a specific model; they’re somewhat similar to MOSt 50 type of schemes. For instance, Religare AGILE Fund (Alpha Generated from Industry Leaders Fund; AGILE) uses a quantitative or mathematical model to arrive at a list of 11 stocks that it invests in. It invests about 9% in each of these 11 stocks. Though the fund manager has no say in picking stocks, the fund house can review the model once in a while after it takes due approval from its trustees. Most quantitative funds are passively managed, but they are not the same as index funds.