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BW Businessworld

One For The Long Road

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What makes Sandesh Kirkire, CEO of Kotak Mutual Fund, angry? It’s the unvarying complaint that mutual funds have failed to live up to the expectations of retail investors.

With a majority of equity mutual funds having outperformed broader indices over a five-year period, Kirkire has a formidable set of positive numbers on his side. A few funds have even managed to pip popular asset classes like bonds, bank fixed deposits, and even gold. More than 50 funds have given compounded annual returns higher than five-year average inflation of 7 per cent. “Fund managers always try to bring in alpha over key benchmarks. In fact, they are rated on the level of alpha they add to a fund. If you run an AUM-level analysis, mutual funds would have created much more alpha over comparative benchmarks. Equity over a longer term outperforms most asset classes,” insists Kirkire (alpha is a measure of performance on a risk-adjusted basis).

Several equity mutual funds have performed well at a time when key benchmark indices — the 30-share Sensex and 50-share Nifty — have gained just 2.2 per cent and 2.8 per cent, respectively. And this, when the past five years have been a difficult period for booking stockmarket gains.

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But not all types of funds have done well. It is the well-structured portfolios — held over a longer time frame and with low stock churn — that have generated returns consistently. Apart from judicious portfolio composition, a lot depends on the skill and mettle of the fund managers. The story of one fund manager, belonging to a bank-promoted fund house, deciding to buy ‘calls’ two days before the 2009 parliamentary election results has already become a legend of sorts among fund-watchers. The fund manager had the gumption to bet against market wisdom, which foretold the emergence of a splintered Third Front.

At the same time, some big names in the industry have been humbled. An astute fund manager, managing several funds for a large foreign fund house, could not align his funds with the rapidly changing markets because of a large number of mid-cap stocks in his portfolio. He took about 17 trading sessions to rebalance his 95-stock portfolio, thereby missing the entire market rally of mid-2009.

Yet another fund manager, dubbed the “son of the bull run”, failed in 2008 and 2009 as he did not know how to make money when markets fell. He quit the industry.

Two global crises, a long stretch of recession and de-growth, job losses, geo-political risks, and a devastating earthquake followed by a nuclear mishap — the past five years have been a learning experience for most fund managers.

To make money over a longer term, investors only have to pick the right fund”
Reliance Mutual Fund
Where It Counts
Despite lacklustre markets, several equity funds have managed to outperform broader markets by a significant measure. According to Value Research data, 160 of the 240-odd equity funds have outperformed broader markets over a five-year period.

In terms of average category returns compounded annually, multi-cap funds, large- and mid-cap funds, and large-cap equity funds yielded 4.7 per cent, 4.2 per cent and 2.6 per cent, respectively. The net asset values of these funds have grown 50-200 per cent during the same five-year period.

Ten equity funds — mostly sectoral — have beaten gold. Gold prices gained 12.7 per cent compounded annually over a five-year period, while these 10 gave 12-26 per cent returns.

Higher short-term yields, over the past two years, made bonds and other short-term funds quite popular among retail investors. But over 60 equity funds have generated more returns than short-term fixed income investments — marked against the Crisil Composite Bond Fund Index, which gained 6.7 per cent since February 2008.
Equity funds’ performance is even more impressive over a 10-year time frame. Around 44 of the 55 equity funds present in this period have beaten broader markets. The Sensex gained over 19 per cent, and the Crisil Composite Bond Fund Index 5.7 per cent, since 2003. Gold prices have risen 16.2 per cent over a 10-year period while average FD rates have been 8-8.5 per cent since 2003.


“Equity funds have demonstrated excellent performance over a longer time horizon. Investing in equities is like planting a tree; the fruit will come over a period of time,” says Sundeep Sikka, CEO of Reliance Mutual Fund. “To make money over a longer term, investors only have to pick the right fund; one that has a consistent track record and a large retail investor base. Funds with assets in excess of Rs 1,000 crore are worth a good look.”

Over 160 of the 240-odd equity funds have outperformed benchmarks over a five-year period; 70 have bettered other asset classes
The other insight is that investment through systematic investment plans (SIPs) has yielded better returns than lumpsum purchases. Buying units through an SIP (pre-determined periodic purchases of units over a period), every month in the past five years, has fetched returns that are 6-12 per cent higher than that of lumpsum investments.

SIPs tend to do well as their (fund) pool is deployed at most market levels, thereby averaging out stock purchases at all price points. “SIPs have always been a good investment option for retail investors. SIP fund pools would have done better as they would have accumulated more units when markets were trending lower,” says Raghvendra Nath, managing director of Ladderup Wealth Management, adding that those equity funds that can include quality mid-cap stocks in times of positive markets will continue to outperform key indices over a longer term.

However, despite the strong performance, equity funds are finding it difficult to attract fresh retail investments. Even though the mutual fund industry gained over 8 per cent in asset base (to an all-time high of Rs 8.26 lakh crore), equity funds saw outflows of Rs 2,500 crore in January.

“It’s mostly due to profit-booking,” says Renjith R.G., national head of distribution at Geojit BNP Paribas Financial Services. “Investors are redeeming from funds that have reached break-even point or posted good returns. This trend may continue till the time there’s clarity as to where the market is headed. We’re advising investors to invest in diversified equity funds.”

Going Beyond 80C
There are more tax-saving options than the usual ones under Section 80C. Here are a few lesser-known avenues

Rajiv Gandhi Equity Savings Scheme

The recently started RGESS is designed exclusively for first-time retail individual investors in the securities market whose gross total income is less than or equal to Rs 10 lakh. One can invest up to Rs 50,000 a year, but the tax benefit (under Section 80CCG) is one-time, on 50 per cent of the invested amount, and based on your tax slab. Also note that there is a lock-in period of 3 years. One needs a demat account to invest in this scheme. 

New Pension Scheme
NPS is for government employees as well as for those working in the private sector. It is done more effectively in agreement with your employer. Up to 10 per cent of an employee’s basic salary put in NPS is tax deductible under Section 80CCD(2).

Capital Gains Bonds
These instruments help investors avoid tax on long-term capital gains from real estate assets and unlisted stocks and bonds. These are also known as 54EC bonds, and have an annual coupon rate of 6 per cent. National Highways Authority of India and Rural Electrification Corporation offer such bonds. The exemption is on an amount of up to Rs 50 lakh in one fiscal. So, you can invest Rs 1 crore over two fiscals if you are able to sell your house between October and March. However, if you sell the bonds before three years, you lose the tax benefit, and have to pay up the next year.

Charity Or Donations
Amounts donated by cash or cheque in the year to approved charitable institutions and funds are tax deductible under Section 80G. The limit is usually 50 per cent (Prime Minister’s Drought Relief Fund, for instance) or 100 per cent (National Defence Fund). Do remember to furnish the receipt for the donation.

Interest On Education Loan
You may have forgotten about this as the EMI is quietly paid from your salary account. Under Section 80E, interest paid on an education loan qualifies for tax deduction for a period of eight years starting from the year that you started paying off the loan.

The Strategy
So, should investors continue investing in equity funds or evacuate the gains made?

“Mutual funds are a good long-term investment option for retail investors. Considering the edge that equity mutual funds have in terms of ‘no-tax yield’ in the longer run, there can seldom be an asset class that can match them,” says Hiren Dhakan, fund manager at Bonanza Portfolio. His says that if an investor has only an equity portfolio, 60 per cent should be in mid-cap funds and the rest in large-cap funds.

There’s a wisecrack: “A steady job and a mutual fund are still the best defence against social security.” Now, most of the experts BW spoke to had that level of conviction for mutual funds, but some like Kirkire and Sikka — who have been around for more than two decades — are willing to put their money where their mouth is.


(This story was published in Businessworld Issue Dated 11-03-2013)