Do you own underperforming mutual funds?

Why do you give your money to a mutual fund (MF) manager? Because you expect him to do a better job than you can. Because a fund manager’s full-time job is to manage your money and hopefully give you positive returns. And for that he charges you a fee. So he should do a better job than the market average, shouldn’t he? That is not always the case and the capital markets regulator, the Securities and Exchange Board of India (Sebi), says it is watching. At the recently held Confederation of Indian Industry’s (CII) Mutual Fund Summit in Mumbai, Sebi chairman U.K. Sinha remarked that while about 75% of the MF industry’s assets under management (AUM) have outperformed benchmark indices, there are about nine fund houses where 50-100% of schemes have underperformed their respective benchmark indices. Sinha didn’t name these fund houses, so we sourced data from Value Research, a MF tracking firm, to identify these fund houses and then we took the exercise further and looked at five- and seven-year performance histories.

Watch Video

Sebi chairman U.K. Sinha recently highlighted the problem of mutual funds that persistently did worse than their benchmark indices. Mint’s Kayezad E. Adajania looks at how you can avoid such schemes.

Loading video

Though it’s not Sebi’s job to assess performance, people close to Sebi claim that it’s concerned. “If a fund house underperforms for a year or two, that can be overseen. But if the underperformance is a long-term problem, it is a governance issue”, said a person close to Sebi on condition of anonymity. Sebi’s audit on MF operations and compliance has increased to yearly, as opposed to once in two years earlier. In fact, Sebi had emailed all the fund houses in December 2011 asking them to furnish performance data of all their schemes across different time periods such as past three fiscals as well as one-, three- and five-year time periods. Sinha’s comment at the CII meet is largely seen as a result of this exercise.

Are benchmarks important? “Yes,” says N. Sethuram Iyer, chief executive officer, Daiwa Asset Management (India) Ltd. “If a fund manager can’t even meet returns given out by his scheme’s benchmark index, it’s not done.” Benchmark index returns also find their way in many fund managers’ compensation packages. For instance, Axis Asset Management Co. Ltd compensates fund managers through a fixed component as well as a variable component that includes a minimum threshold by which every equity fund manager is meant to beat his scheme’s benchmark index by. “We take benchmark performances seriously,” says Rajiv Anand, chief executive officer, Axis AMC.

Some fund houses partially blame the present state of equity markets behind their underperformance. “We focus on long-term performances and try to ensure we beat the benchmark indices over a longer timeframe,” says a chief executive of a fund house who did not want to be named.

HDFC Asset Management Co. Ltd is the only fund house whose entire set of equity-oriented schemes have outperformed benchmark indices across all the three time periods. However, in the past one- and three-year brackets, few others such as Canara Robeco Asset Management Co. Ltd and Quantum Asset Management Co. Ltd have done well too.

Two names are unmistakable in the underperformer list; one of which is JM Financial. For a time period of a little over two years that Sandip Sabharwal headed the fund management team, his fund outperformed its peers by a huge margin. But ever since equity markets fell in 2008—Sabharwal eventually left the firm in early 2009—JM’s equity schemes haven’t really recovered. Its chief executive officer, Bhanu Katoch, says that it should be kept in mind that different strategies work in different phases of the market. “Aggressive portfolio strategies do well in bullish markets and defensive in bearish markets. If you do a similar analyses for the calendar year 2006 and 2007 then you will find a completely different result than what you get for now. If market does well in 2013-14, then similar portfolios may outperform the markets. Investors must also look at the overall quality of the portfolio to form an opinion,” he adds.

Another such name is LIC Nomura with its wide basket of nine equity-oriented schemes. While eight of these nine schemes underperformed in the past three-year period, all its schemes underperformed over the past five- and seven-year periods. Living an innocuous existence for years, it got a boost in 2009 when Japan’s Nomura group acquired a 35% stake in LIC Mutual Fund. Apart from recently getting a new chief, Nilesh Sathe, they also brought in an equity fund manager from Japan, Eiichi Oka (a Nomura depute), to look after its equity funds. “After the entry of Nomura, our equity schemes have started to show improvement in performance. As on 31 May, six equity schemes out of 11 have outperformed the relevant benchmarks over the last six months and one year,” says Sathe. How soon—and if at all—their performances improve in the long run, remains to be seen. In the meantime, Sebi hopefully will keep a watch.

kayezad.a@livemint.com

Also See | The real picture (PDF)

PDF by Sandeep Bhatnagar/Mint