At Axis Mutual Fund, a growing portfolio of problems

Manish Balani, a Jaipur-based executive, invested in an Axis Mutual Fund scheme for the first time in 2017. While Balani is happy that his pick—Axis Flexicap Fund—has performed strongly over the years, he is reluctant to put more money into it today. “I’m not sure how much of an impact this frontrunning issue will have, but I’m not investing fresh money in Axis AMC,” he told Mint.

Balani’s attitude mirrors that of much of India’s investor and advisor community, who are all waiting for the results of a Sebi investigation into allegations of frontrunning by some former employees of Axis MF.

Frontrunning at funds is akin to insider trading in listed companies. Here, the fund manager, trader or dealer is aware of large buy or sell orders by an institution and uses that information for personal gains. The fund is affected since the price can run up before it can execute a buy order, which, in turn, affects investors by impacting the net asset value.

While a Sebi probe into the alleged frontrunning at Axis MF is ongoing, on 9 May, the AMC issued a note stating that it had appointed external investigators to look into the allegations of wrongdoing. It added that two senior executives—Viresh Joshi, the fund house’s chief trader and fund manager, and Deepak Agarwal, an equity research analyst and a fund manager—had been suspended.

On 18 May, Axis MF fired Joshi. Two days later, Agarwal was also booted out, like Joshi, for ethics and code-of-conduct violations. While the fund house’s note said that its investigation had begun in February, the suspensions and terminations took place only in May, soon after some Chinese whispers brought the matter into the public eye.

Aside from the frontrunning scandal, another huge worry before the fund house today is the shift in investor focus from growth to value stocks, which has led to a deterioration in the fund house’s performance over the past few months. Axis MF has followed the growth style of investing over the last few years, buying into fast-growing companies, even if they are sometimes expensively valued. That approach paid off handsomely for a few years. Now, however, with market sentiment shifting towards cheaper stocks in the hope they will rise, Axis MF’s funds have suffered an erosion in value. The timing of this shift, in the midst of the frontrunning probe, could not be worse.

‘There is no Lamborghini’

What really lies beneath the frontrunning allegations at Axis MF is a bit of a mystery due to the AMC’s limited disclosures. Mint has pieced together this narrative of what transpired at Axis MF based on court filings in the ₹54 crore wrongful termination suit filed by Joshi, and on the basis of conversations with regulatory officials and the fund house.

On 19 January, a broker wrote an email to Joshi accusing him of frontrunning some stocks. If Joshi was supposed to buy these stocks at ₹100 per share he ended up buying them at ₹105, the email alleged. “This email was marked to a dozen other individuals. Interestingly, the email IDs of all the other individuals were incorrect; only Joshi’s was the right email address,” said a person with direct knowledge of the matter.

The email was detected when Axis audited all its fund managers during a routine examination—in February 2022, all the employees at Axis MF were asked to hand over their personal and work email ids, office computer data, office mobile phones, work-from-home laptops, desktop data, personal landline data and phones to the independent external investigators, AZB, and Alvarez and Marsal.

This email, when examined, raised suspicion due to the details of transactions it had flagged, and led the AMC to launch a probe into possible violations of securities law.

Meanwhile, a Chinese whisper surfaced that an AMC was running a frontrunning investigation into its fund manager, who was painting the streets of Mumbai red in a Lamborghini. The market was quick to connect the dots, and speculated that it was Joshi who was driving around in a Lamborghini.

“There is no Lamborghini. Limited numbers of this luxury car are sold in India and it is easy enough to track who owns them,” said Chirag Shah, counsel, Mansukhlal Hiralal and Co, the law firm representing Joshi. Italian super-luxury carmaker Automobili Lamborghini, part of the Volkswagen Group, has sold all of 400 Lamborghinis in India so far.

While Axis MF does not believe Joshi owned this luxury car, it does suspect that he owns disproportionate assets, mostly in real estate, according to court filings and Joshi’s termination notice, which were reviewed by Mint. However, he has just two cars (Innova and Verna) and one scooter (Honda Activa), as per documents reviewed by Mint.

“His evasiveness in explaining the real estate assets was one of the major grounds for his suspension and subsequent sacking,” said the person cited above. Joshi, in written replies to the AMC, said that since he is barred from trading in stocks and options, he had built a real estate investment portfolio over the years.

Regulator Sebi has sought details of the assets and income tax returns of both Joshi and Agarwal for the last 10 years. “Agarwal is alleged to have shared some stock-specific information as advice with some third parties,” said a person with direct knowledge of the matter.

Blame game

The story has more twists. Joshi asserts that the investigation into frontrunning at the fund house begun on the basis of his own alerts. From June 2021, Joshi, as per the court filings, observed irregular spikes in trades in some of the scrips that he was supposed to execute on behalf of Axis. He claims to have flagged these to CEO Chandresh Nigam, and Jinesh Gopani, head of equity at Axis Mutual Fund, particularly the period between November 2021 and January 2022. Joshi said these spikes affected the analysis and decisions made by him.

“These unusual spikes would push the price up and down when large institutional buyers like defendant company (Axis) placed their orders in turn affecting their portfolio,” Joshi said in the wrongful termination suit filed by him in the Bombay High Court.

However, Axis MF, in an email response to Mint, has categorically denied any such alerts were sent by Joshi to others in the organization, calling such assertions patently false. “Any depiction of Mr Joshi, including in his suit filed before the Bombay High Court and in your queries, as a whistleblower is wholly baseless. In relation to Mr Joshi, we have more than adequate findings concerning breaches of our policies, including non-cooperation with our internal investigation (during his suspension). We also have strong reasons to believe that there have been serious and persistent breaches of securities laws by him,” the response said.

Systemic checks

There are systemic checks to prevent frontrunning. Fund managers are not allowed to invest in stocks or futures and options. As an industry practice, the dealer only executes trades as instructed by the fund manager through empanelled brokers. The brokers are third parties and fund houses have limited control over their actions. If fund managers realize that the share price of a stock is beyond the margin of error, they tell the dealer to cancel the trade, said a fund manager, declining to be named.

Then, there are layers of compliance checks from the regulator—phone calls and activity during market hours are recorded—and there is a strict code of conduct.

If frontrunning does take place, the fund houses have limited data to detect which stocks it happened in or how. Axis is using the services of Deloitte Haskins and Sells to pin this down. This is where the regulator’s superior surveillance powers come into play. It asks exchanges for an analysis of raw trading data of securities for a particular period. In the case of Axis, it is from 2019 to May 2022.

Sebi has algorithms to detect abnormal trading patterns. However, the algos used by Sebi have had to play catch-up with evolving methods of fraud. Frontrunners at one time used their own names or those of their families. This later changed to using the accounts of brothers-in-law, since they are excluded from the definition of related persons. Fraudsters are now using ‘accounts for hire’ to hoodwink the system.

“As a test, once I reached out to a fixer of sorts and asked him whether he can arrange a number of accounts to trade on my behalf. The man assured me he can easily arrange 300 KYC-compliant clean accounts within two days, where I could trade without fear of detection,” said a senior Sebi official, declining to be named. The accounts for hire system allows large-scale frontrunning to take place using shell companies. “The algos have been adapted to catch this,” the official said.

Performance pressure

Investors in Axis Mutual Fund have enjoyed almost a decade of benchmark beating returns and they have rewarded the fund house with huge inflows. With nearly ₹30,000 crore worth of assets, Axis Long Term Equity fund is India’s largest tax saver mutual fund. In the 10 years, from 2010 to 2020, the fund outperformed its category average in eight years—an incredible success ratio. Anyone putting money in the scheme at the start of the last decade would have had a CAGR of 17.31%, far in excess of the 10.16% given by the BSE 500.

But something changed in this story in 2021. The fund delivered a return of 24.54%, nearly eight percentage points lower than its category average of 31.92%. Many investors dismissed the failure as a fluke. However, in 2022, as of 17 June, a performance gap of almost eight percentage points has been repeated. The fund is down 21.84% this year, against 13.42% for its category. Coming at a time when the AMC is dealing with allegations of frontrunning by its employees, the underperformance is particularly grating. Nor is Axis Long Term Equity a standout. Other key schemes such as Axis Bluechip and Axis Focused 25 have also seen drops in performance.

Axis MF’s growth investing approach paid off handsomely in 2018-20 when the market rewarded this strategy. Axis Bluechip, another top equity scheme, was up 20.16% from 1 January 2017 to 1 January 2021 compared to 15.39% for the BSE 100. However, a surge in inflation and commodity prices in 2021 scripted a reversal of fortunes for funds in India and around the world, as value investing came back with a bang.

The team at Axis MF continues to stick to its growth approach. “We have had tough periods in 2013 and again in 2016. This is a part and parcel of investing. Our beta is actually lower than the market and whenever there is a swift change in market direction (a J curve), we underperform. However, you have to look at the intrinsic value of the companies we hold, rather than mechanical measures like price-to- earnings and price-to-book. These may perform over the long run. Our average holding period for such stocks is 7-8 years,” said head of equity Gopani.

Calls for transparency

India’s community of mutual fund distributors and financial advisors are inclined to wait rather than issue a sell call on the fund house. “On the frontrunning issue, more information is awaited from the Sebi investigation. For now, we will give them the benefit of the doubt. We normally wait to see at least three years of underperformance before we switch out of a scheme,” said Ravi Saraogi, co-founder, Samasthiti Advisors, a Sebi registered investment advisor (RIA).

However, some investors are beginning to chafe at the communication gap. “Other AMCs also have periods of underperformance but they take the trouble to explain it. The frontrunning related note was also perfunctory and that’s not reassuring,” said Shiladitya Banerjee, a Kolkata-based professional at an audit firm. If the alleged case of frontrunning is limited to Joshi, then Axis MF can move on and assure its investors that it is a case of one bad apple. Investors sitting on the sidelines want three key questions answered. One: are there other instances of so-called frontrunning that are yet to be uncovered? Two: was the senior management lax in keeping a check on the fund managers? Three: is the fund house investigating these anomalies with rigour?

The ball is in Axis MF’s court.