FUND FULCRUM - MAY 2008

Fund Fulcrum

(May 2008)

The average assets under management (AAUM) of the 34 member mutual fund industry rose by 7.33% to Rs. 567601.98 crores in the month of April 2008 as per the data released by AMFI. Compared to March, April has been great for the mutual fund industry, as 28 AMCs out of 34 posted positive growth in their AAUM. Reliance Mutual Fund has again topped the chart with an AAUM of Rs. 96,386.40 crores, just short of the golden 1 trillion mark. Reliance Mutual Fund acquired the lion’s share by managing 17% assets of the entire mutual fund industry. Reliance Mutual Fund is continuously stretching the gap with it peers, since the fund is unbeatably ruling the mutual fund industry for a little more than a year. Three months after its launch in January 2008, Reliance Natural Resources Fund has emerged as India's largest equity fund with assets under management of Rs 5,589 crores. The fund overtook ICICI Prudential Infrastructure Fund which topped the charts in March with an AUM of Rs 5,390 crores. ICICI Prudential Mutual Fund and UTI Mutual Fund with AAUMs of Rs.55,708.52 crores and Rs. 52,549.40 crores continue to occupy the second and third positions respectively.The market has gone up by around 10 per cent this month, whereas the increase in the asset base has been less than that - this means that the gain is not significant, as it shows that investors are not really back. The debt funds seem to have come back in a big way in April after a big lull in the past two months.

UTI Mutual Fund has won the Lipper Fund Awards Gulf 2008 for best group over the past three years ending Dec. 31, 2007. In addition, two schemes of the fund house, UTI Banking Sector Fund-Dividend (in the equity-oriented category) and UTI Mahila Unit Scheme (in the mixed assets category), have won Lipper Fund Awards Gulf 2008.

Piquant Parade

Birla Sun Life AMC set a precedence by becoming the first Asset Management Company in India to be awarded the coveted ISO 9001:2000 certification.

Life Insurance firm Aviva India is planning to foray into mutual funds while Edelweiss Capital has received the approval from SEBI, to start its asset management business. Edelweiss plans to launch more than 8-9 products in the mutual fund domain within one year.

In a move that would enable Muslims in India to participate in the stock market, four asset management companies - Reliance Mutual Fund , UTI Asset Management, Way2Wealth and the newly-approved Edelweiss Mutual Fund - are planning to launch Shariah-compliant mutual funds in the coming months.

UTI Mutual Fund has begun managing pension funds totalling Rs 500 crore - comprising contributions from staff in government undertakings - from the end of March, and is now hoping for an approval to manage the investments of the Employee Provident Fund Organisation, National Investment Fund (made up of proceeds from disinvestment) and Postal Life Insurance.

UTI Mutual Fund opens a new UTI Financial Centre at Sambalpur.

Reliance Capital Asset Management plans to offer life insurance cover to investors opting for SIP route in 11 of its funds. Upon the pre-mature death of an investor opting for SIP of 3-15 years, the firm will pay the balance unpaid SIP installments subject to a maximum of Rs 1 million. The scheme will be effective May 12, 2008.

JP Morgan Asset Management India is offering Optimiser Systematic Transfer Plan that allows investors to invest a lump sum amount in JPMorgan India Liquid Fund or JPMorgan India Liquid Plus Fund and through STP, a prefixed amount, as indicated by the investor, will be transferred periodically (daily, weekly, monthly or quarterly) from this fund to any of the existing equity schemes managed by JPMorgan Mutual Fund.

ICICI Prudential AMC has taken a pioneering step towards transparency and investors’ right to information. For the first time in the history of the Indian Mutual Fund Industry, the fact sheet will provide details of obligators, underlying asset class, rating etc on a consolidated basis across the entire fixed income portfolio which will play a key role in aiding investors gain complete insight of their investment and evaluate the credit quality of their portfolio.

Fidelity Fund Management and Birla Sun Life Asset Management Company have entered into agreements for the distribution of their products with Federal Bank and and The Jammu & Kashmir Bank respectively.

The Birla group is planning to expand the network of its mutual fund branches to 150 this fiscal from 78 at present.

HDFC will soon enable its customers to buy and sell mutual funds through mobile phones using applications from ngpay, a mobile commerce network company.

Regulatory Rigmarole

Portfolio Managers will not be permitted to float a scheme or pool the resources of the clients (akin to mutual fund activity). A time frame of 6-months from the date of notification has been given to convert their operations managed on pooled basis to individual basis.

In order to standardize the calculation of net assets under management (NAUM) and average assets under management (AAUM), SEBI in consultation with AMFI has taken several steps by way of introducing revised format of monthly cumulative report (MCR). The SEBI circular states that in future MCR will have to be presented to the regulator in the revised format by the third of each month. SEBI has also prescribed a methodology that calls for including AUM as on the last calendar year in the NAUM. Additionally, AAUM of the mutual fund shall be the aggregate of the daily AUM of the mutual fund over calendar days in the relevant month irrespective of date of allotment/maturity of the schemes.

SEBI has simplified the offer document and key information memorandum (KIM) to be filed by mutual funds to make them reader friendly. The measures are aimed at reducing the bulkiness of the offer document (OD). A committee set up by AMFI had recommended that the existing OD may be split into two parts — statement of additional information (SAI), a one-time filing common for all schemes and SID (Scheme Information Document), which is scheme specific. All mutual fund scheme ODs filed with SEBI on or after June 1, 2008 will have to be prepared in the new format.

Albeit the market currently seems to be in an adjustment phase after the Sensex reached a pinnacle in the beginning of 2008, about 4.5 lakh Systematic Investment Plans have been added to the mutual funds’ bag in 2008 till now. The total number of SIPs reached an exceedingly impressive 2.9 million (a yoy rate of 42%). Unlike the falls that we saw in May 2004 and May 2006 when the investors chose to go away from the funds or not come in at all, mutual funds have experienced more retail participation in May 2008. This is expected to widen with the expanding reach across the country with more number of players stepping in the mutual fund industry.

It is vacation time again…time for a brief bout of relaxation…a slow down in the pace of blogging…In the ensuing three months, the monthly mutual fund round-up, FUND FULCRUM alone will appear on the last Monday of each month. From September, the weekly blogs will blossom again…

NFO NEST - May 2008

NFO Nest

Waxing and waning of NFOs…

For the first day in nearly a year, Indians did not have a new equity fund to invest in on April 9, 2008 marking a pause in the flurry of fund launches in a booming mutual fund market. Asset management firms offered 60 new equity funds last year, the highest number in any year. The momentum has somewhat been thwarted by the weak stock market, with only 19 new stock funds having been introduced so far in 2008, according to data from global fund tracker Lipper.

The following funds find their place in the NFO nest in May, 2008.

Sundaram BNP Paribas Select Thematic Funds Entertainment Opportunities Fund

Opens: 24 April, 2008 Closes: 20 May, 2008

The Thematic Fund aims at achieving long term capital appreciation by investing primarily in the equity and equity related instruments of companies that focus on opportunities in the entertainment business in India and overseas markets. The investment universe may also include players in spaces such as broadcasting, content providers, electronic news, print media, multiplexes, web-based services, leisure services, distribution, IT & telecom services, gaming, retailing, luxury products & services and sports businesses as well as other new segments that may emerge on the listed space. Beneficiaries and providers of equipment/services/turnkey solutions to such players may also be part of the portfolio. The scheme will invest 65% to 100% in equity and equity linked instruments of predominantly Indian companies relevant to the theme and 0% to 35% in equity and equity-related instruments outside the theme. Further 0% to 15% could be invested in fixed income securities including money market instruments. The portfolio manager will adopt an active management style to optimize returns. The performance of the scheme will be measured against S&P CNX Media and Entertainment Index.

Sahara Power and Natural Resources Fund Opens:28 April,2008 Closes:27 May,2008

Sahara Power and Natural Resources Fund aims at generating long term capital appreciation through investment in equity and equity related securities of companies engaged in the business of generation, transmission, distribution of Power or in those companies that are engaged directly or indirectly in any activity associated in the power sector or principally engaged in discovery, development, production, processing or distribution of natural resources.The scheme will invest 65% to 100% in equity and equity linked instruments and 0% to 35% in debt and money market instruments.

Standard Chartered Arbitrage Plus Fund Opens: 5,May,2008 Closes:30 May,2008

Standard Chartered Arbitrage Plus Fund aims at generating income by taking advantage of opportunities in the cash and the derivative segments of the equity markets including the arbitrage opportunities available within the derivative segment, by using other derivative based strategies and by investing the balance in debt and money market instruments.

Reliance Banking Exchange Traded Fund Opens: 12,May,2008 Closes:30 May,2008

Reliance Banking Exchange-traded Fund is an open-ended, exchange listed, index linked scheme that aims at providing returns that, before expenses, closely correspond to the total returns of the securities as represented by the CNX Bank Index. However, the scheme’s performance may differ from that of the underlying index due to tracking error. The fund house shall use a passive or indexing approach to try and achieve Scheme`s investment objective. The AMC does not make any judgments about the investment merit of a particular stock or a particular industry segment nor will it attempt to apply any economic, financial or market analysis. The scheme will invest 90-100% in securities covered by the CNX bank index. It will invest up to 0-10% in money market instruments.

Mirae Asset Global Commodity Stocks Fund, Kotak Nifty Junior ETF, Mirae Asset India Sector Leader Fund, ING Latin America Equity Fund, HSBC Banking and Financial Services Fund, ICICI Prudential Banking and Financial Services Fund, SBI Magnum Sector Funds Umbrella (MSFU) - Banking and Financial Services Fund, ABN AMRO Banking and Financial Services Fund, ING US Opportunistic Equity Fund, Bharthi AXA Green Fund are expected to be launched in the coming months.

With equity markets turning bearish and the commodity cycle at its peak, mutual funds are now shifting their focus to commodities. Fund houses plan to enter this segment through commodity-oriented stocks and mutual funds abroad. Entertainment and media funds may hog the limelight, given the gargantuan growth in this sector.

GEM GAZE - INDEX FUNDS

Gem Gaze

Index Funds

Riding the market wave…

Index funds track a particular market index ( primarily the Sensex or the Nifty in India) by purchasing all the stocks of that index in same proportions as they are in present in the index.

The largest index fund in India, Benchmark Bank BeES, was launched in May, 2004. It has the highest AUM (Rs 4253.40 crore)and the lowest expense ratio (0.48%). CNX bank Nifty is the Benchmark Index. With a 49.07 per cent return, Banking BeES has been the top return generator among the index funds in the one-year period ending March 4, 2008. Despite the highs, the fund has witnessed steep falls during market corrections. Being an ETF, it is listed on the NSE. Junior BeES (midcap index fund), Liquid BeES (liquid index fund), Nifty BeES (the first index fund) are all exclusive index funds from Benchmark. Benchmark Nifty BeES has the lowest tracking error of 0.12%.

Launched in February 2002, Prudential ICICI Index Fund is an open-ended index-linked growth scheme seeking to track the returns of the S&P CNX Nifty index through investment in a basket of stocks drawn from the constituents of the Nifty. The Fund has a corpus of Rs. 38.58 crores. The expense ratio is 1.25%. It has an entry load of 1%. The one-year return is 29.2% and the tracking error is 2.47%.

Launched in September 2002, Birla Index Fund is an equity index fund that aims to generate returns that are commensurate with the performance of the Nifty. The Fund has a corpus of Rs. 35.36 crores. The expense ratio is 1.49%. The one-year return is 28.55% and the tracking error is 1.93%.

Launched in September 2004, Can Robeco Nifty Index Fund is an index fund that aims to generate income/capital appreciation by investing in companies whose securities are included in the S & P CNX Nifty. The AUM of the fund is Rs. 7.48 crores. It has an entry load of 1%. The one-year return is 25.79%.

Franklin India Index Fund has BSE Sensex Plan and NSE Nifty Plan. BSE Sensex and S&P CNX Nifty are the underlying benchmarks. The AUM of the Sensex and Nifty plans are Rs.24.5 crores and Rs. 84.7 crores respectively. The one-year return of the Sensex and Nifty plans are 25.75% and 25.58% respectively. The tracking error of the Sensex and Nifty plans are 0.88% and 0.99% respectively.

Principal Index Fund is an open-ended index fund launched in June,1999 to invest principally in securities that comprise S&P CNX Nifty . Its AUM is Rs.19.22 crores. It has an entry load of 2.25% and an exit load of 1%. It has an expense ratio of 0.75%. The one-year return is 25.10% and the tracking error is 1.62%.

Launched in February 2000, UTI Index Equity Fund has S&P CNX Nifty as the benchmark index. The AUM is 95.47 crores. The entry load is 2.25%. Its one-year return is 24.84% and tracking error is 0.4%.

Tata Index Fund, launched in February 2003, has an AUM of Rs.9 crores. The entry load is 1% and expense ratio is 1.5%. The one-year return is 24.46% and tracking error is 2.04%.

LIC Index Fund, launched in November 2002, is an open ended index linked equity scheme seeking to provide capital growth by investing in index stocks. The AUM of the Sensex and Nifty plans are Rs 35.1 crores and 45.1 crores respectively.The entry load is 2.25% and the expense ratio is 2.37%. The one-year return of the Sensex and Nifty Plans are 21.36 and 22.76% respectively. Tracking error is the highest at 7- 12%.They have a high tracking error because they do not follow their investment pattern. As per their offer document, they are supposed to invest 90-100% in index stocks and they can keep about 5-10% cash to meet redemption pressures. But the average cash levels of each of these funds stand anywhere between 7-12%.

Launched in January 2004, ING Vysya Nifty Plus Fund is an open-ended equity scheme, which invests only in companies that are part of the S&P CNX Nifty Index. The ING Vysya Nifty Plus Fund allows investors to ride the wave of the index going up, by investing at least 70% in S&P CNX Nifty Index itself the remaining (upto 30%) is invested in Nifty stocks. The AUM of the fund is Rs. 10.9 crores. The entry load is 2.25% and exit load is 2.5%. It has the highest expense ratio of 2.5%. The fund has earned a one-year return of 22.24%.

Launched in December 2001, SBI Magnum Index Fund aims to invest in stocks comprising the S & P CNX Nifty index in the same proportion as in the index with the objective of achieving returns equivalent to the Total Returns Index of S & P CNX Nifty by minimizing the performance difference between the benchmark index and the scheme. The AUM of the fund is Rs24.28 crores. The entry load is1.25% and the expense ratio is 2.11%. Its one-year return is 22.09% and it has the second highest tracking error of 3 to 3.5%.

A lacuna?

The maturity of the Indian market certainly does not seem to be round the corner. Active funds continue to rule the roost as is evident from the paltry AUMs, high expense ratio (the average expense ratio is 0.3% in the US) and high tracking error (2% is considered optimum) of the index funds. Some of the older players — this set includes indigenous groups like JM and Sundaram as well as bank-promoted outfits like Standard Chartered MF and HSBC MF — have no index-based product in their stable. Is the Kotak Sensex ETF, currently open for subscription, any indicator of an attempt to initiate the filling of the lacuna? Only time will tell!

FUND FLAVOUR

Index Funds

“..the best way to own common stocks is through an index fund…”-Warren Buffett, Berkshire Hathaway, Inc. 1996 Shareholder Letter.

In the history of 20th century personal finance, three developments will emerge as paramount: the recognition of the growth potential of common stocks, the explosion of mutual funds, and the advent of indexing.

To understand index funds, it makes sense to look at two different kinds of investment strategies for stocks - Active and Passive investing. The active strategy involves a lot of effort in doing research to pick good stocks and may involve significant costs when shares are bought and sold regularly. The passive strategy, also known as indexing, is much less complicated and involves tracking or mimicking the performance of an index like say the Sensex or the Nifty and building a portfolio with the same stocks in the same proportion as the index. The holdings of the fund mirror the stocks that make up the particular index. Investors in index funds are considered passive investors. They do not involve any research or active investment management - what they invest in is decided by the chosen index.

Moving with markets...getting rid of risk

When the index reaches dizzy heights, many investors often wonder as to why the NAVs of all the funds in their portfolio does not go up in the same manner. It is all about the portfolio composition of the scheme i.e. the quality of the portfolio as well as the level of exposure to different market segments that influences the level of fall and rise in the NAV. Since actively managed funds have varying degree of exposure outside index, the impact of its movement on the NAVs differs from fund to fund. No wonder, some funds that react slowly during the initial phase of the recovery in the market, often outperform others as the rally spreads to all the segments of the market. The moot question, therefore, is whether it is possible for investors to ensure that their portfolios move in line with the market. Index funds are, at times, projected as an answer to this need of certain section of investors.

An Index Fund is, thus, a mutual fund that seeks to replicate the returns generated by an Index. It is a passive style of managing portfolios as the fund manager invests the funds in the stocks comprising the index in similar ratio. This reduces the risk associated with that of the general market conditions. Index Funds provide a perfect investment avenue for investors looking to invest into equity but still not willing to take higher risks. In this case, the investor diversifies his risk due to other components prevailing in the market. An index fund is considered to be fully diversified as the component of unsystematic risk is minimised. The only risk that is left is the Market Risk, which cannot be diversified.

The modalities…

Index funds invest in a basket of predefined stocks of an index (like the BSE Sensex or S&P CNX Nifty) in an allocation that resembles that of the benchmark index and it is content at giving index-linked returns.

The divergence…

Active funds diverge from index funds on two important counts - volatility due to stock and sector risks and expenses due to constant churning.

The origin…

Index funds were first started in the US in the 1970s when the research that established the efficient markets concept began to trickle down to the finance industry.There are about a thousand index funds in the US like the Vanguard 500, which tracks the S&P 500 index. They made their debut in India in 2001 when Benchmark Mutual Fund made no bones about the fact that it was going to launch only index funds. Seven years ago, it had a tough time convincing distributors and investors of the opportunity in passively managed schemes. Today, Banking Index Benchmark Exchange Traded Scheme is the single largest equity-dedicated scheme being managed by any asset management company in India. Nearly two dozen funds have entered this space in the past seven years.

Steadily getting stronger…

Over the last three years, the gap of out-performance by actively managed funds over the indices is reducing. It does not mean that fund managers have run out of ideas, but there are some structural changes like better corporate disclosures and the increasing number of informed and professional investors in the market. Due to this, the ability to add value becomes less, which is why indexing is a much more sustainable strategy over the longer term. As is true elsewhere in the world, the more the markets mature and become efficient, the more difficult it becomes to outperform the index.

Not-So-Passive Returns

The major advantage of investing in an index fund is that one knows exactly the shares the fund would invest in. Besides, for an individual investor, it is practically impossible to create a portfolio that matches an index fund portfolio. Added to these is the relatively low cost of management as trading and research costs etc. is minimized. And above all, even small investors can afford them, as the minimum subscription amount is low. Index funds can give you wide exposure-at low costs.

The downside of investing in an index fund is that one forfeits the possibilities of earning above average returns that a good quality diversified fund may be able to provide over the longer term.

The capitalization of the index is not well spread across sectors in the Indian stock markets due to the inherent defect in the construction of the index itself. The basic principle here is: the more the number of stocks comprising an index the better is the diversification and price discovery.

Since index fund schemes mechanically track an index, instead of choosing shares that may or may not outperform it, they simply buy all the shares in a given index. Thus, the performance of an index scheme will always mirror that of the index, faring neither worse nor better than, on an average, the stockmarket. That's why they are equated with robots, with the fund-managers being described as black-box managers since they merely program a computer to buy shares in proportion to an index as it changes.

Robert Stambaug, a Wharton finance professor, says that while it is theoretically impossible for the average active fund to outperform the average index fund, discerning investors would look out for those fund managers who make the most of market imperfections. Some active funds can historically outperform the index, but if they do, the other active [fund] managers would have to under perform, because the average [return] would have to come out to be no better than the index [funds' average]. So a market where prices are essentially wrong would give the opportunity to the best active managers. But even in that kind of market, the average active manager cannot beat the index!