(Photo: iStockphoto)
(Photo: iStockphoto)

Selective rally makes the job of an active fund manager complex

  • Only two out of about 190 actively managed funds beat Nifty 50 returns by at least 1% last year
  • AUM of index funds and ETFs has risen 61% year-on-year to 1.14 trillion by end-February 

Past performance is not an indicator of future outcomes," is a typical disclaimer you would find in mutual fund sales literature. Many Indian funds might be tempted to insert an addendum that says performance in the immediate past is best ignored.

That’s because they have fallen woefully short in terms of beating market returns in the past one year. A Mint study of Value Research data shows that only two out of about 190 actively managed funds beat Nifty 50 returns by at least 1%, to compensate for the higher fees compared to index funds. So acute is the problem that financial planners are increasingly suggesting clients consider index funds. Indeed, the assets under management (AUM) of index funds and exchange-traded funds (ETFs) has risen 61% year-on-year to 1.14 trillion in end-February 2019. Overall equity AUM increased only by 14% during the same period.

As a result, fund managers would rather have us look at their five-year performance. Indian funds fare far better when returns are compared over a longer five-year time horizon. When benchmarked against the Nifty 50 index, as much as 96% of assets invested in actively managed funds outperformed the index. The study excludes sectoral funds, thematic funds and funds that invest in international stocks or indices.

Outperforming the indices is one of the most important indicators of a good actively managed mutual fund. Active funds found it hard to beat the Nifty 500 index, too, in the past one year. This broad-based index saw returns of just about 2.5% last year, lower than the 7.9% return in Nifty 50. However, even here, only 32% of AUM of active funds delivered returns that were 1% higher than Nifty 500 returns.

Last year’s sluggishness dragged down the performance over a three-year period as well. Nearly 53% of investors’ money in active funds did poorly compared to both benchmarks.

Of course, it’s not hard to see why funds have been unable to match the market. Headline indices have been showing a bull market, but the broader market has underperformed. “Last year has been fairly tough. The market breadth has been considerably narrow, with only a handful of stocks doing well. While the index levels do not portray the bear market, the wider market has been poor," said a chief investment officer of a fund house.

In the five-year period, though, the broader index with 500 stocks has delivered better returns, indicating that a wider set of stocks participated in the rally. In the past year, only a handful of stocks did well, making it tough for fund managers.

Funds that have followed a benchmark-hugging strategy did well this past year. A benchmark-hugging strategy is where funds hold a larger share of companies that feature in the index.

“If economic growth returns to 8%, a wider breadth of companies would do well. At 6% growth, about 100-250 companies fare well. At 7% growth, we see 300 companies doing soundly, and at 8-9% you can expect over 500-800 companies doing exceedingly well. If we get into that kind of a scenario, may be in 2020, the broader market should do well," said Chandresh Kumar Nigam, managing director and chief executive officer of Axis Mutual Fund.

Needless to say, future fund performance will be influenced by how well profits grow and hinges on economic growth. Unless economy returns to the 8% levels, growth could get tricky in the coming quarters. That would mean active funds may find the going harder just to keep up with the bellwether indices.

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