FUND FULCRUM (contd.)

April 2012

Lacklustre equity markets, coupled with low distributor support and abundance of high-yield debt instruments, are prompting investors to redeem their money from mutual funds. Folios of retail investors in debt funds have gone up by 5.71 lakh in the previous fiscal. The industry saw Rs 8,770 crore dip in retail AUM from equity funds. Retail mutual fund investors have exited equity funds in hordes. They have rushed to debt funds for safer returns. The latest data released by AMFI shows that as many as 15.76 lakh retail equity folios were closed in FY 2012. Overall, there were 3.92 crore equity folios in March 2011; the number is now 3.76 crore folios in March 2012, a decline of 16.40 lakh folios. Close to 96% of the drop in folios was due to exit of retail investors. Equity funds saw total erosion of Rs 15,160 crore in AUM in FY12 and the retail segment accounted for 58% or Rs 8,770 crore. Overall, there were 7.82 lakh folio closures in FY 2012 from all fund categories. The industry had 4.72 crore folios in March 2011. This figure has dropped to 4.64 crore folios as on March 2012, a decline of 7.82 lakh folios. Industry experts are citing redemption from SIPs as the main reason for drop in equity folios. Retail investors seem to have taken a liking for debt funds. Retail debt folios have gone up to 45 lakh in March 2012 from 39.29 lakh folios last year, a spike of 5.71 lakh folios. Total debt folios went up to more than 50 lakh from 43 lakh in 2011, registering an increase of 7.14 lakh folios. 80% of this spurt was due to retail investors.

Piquant Parade

Leading private sector lender Axis Bank inked an agreement with Schroder Singapore Holdings, a wholly owned subsidiary of global AMC major Schroders, to sell 25% share of Axis Asset Management Company, the bank's mutual fund arm. The transaction is subject to regulatory approval and is expected to materialize during 2012. It provides Axis AMC access to Schroders’ global distribution network and to advise overseas funds invested in Indian Securities.

Small and mid-sized mutual fund houses have raised questions at the functioning of their industry body - Association of Mutual Funds in India (AMFI). Though the smaller players have been unhappy with AMFI for quite some time, the latest trigger for their angst is the industry body’s plan to stop payment of upfront commissions to distributors selling equity products. Though there have been improvements, they continue to feel neglected as their concerns are not heard. The bigger peers always tend to control decisions at the AMFI board. AMFI is a Section 25 company, run by a board of directors, comprising 15 members, elected from the largest to the smallest fund houses, giving proportional representation to all. Two years back AMFI had less than 10 members on its board. Following suggestions from small fund houses, the number of members was increased, thereby giving participation to the smaller players, too. AMFI, the apex body of all the registered AMCs, was incorporated in August 1995, as a non-profit organisation. As of now, all the 44 AMCs registered with the Securities and Exchange Board of India, are its members.

Some of the leading Mumbai-based IFAs have come together to form a pan-India, not-for-profit body called the Foundation of Independent Financial Advisors (FIFA). Besides educating IFAs, the entity will take up the views of distributors with policymakers and regulators to facilitate the development of balanced regulations governing distribution of financial products and investment advice. FIFA will help its members understand the implications of new regulations and help them to adapt to the new rules. FIFA has also made suggestions to both SEBI and AMFI in connection with recent distributor regulations. The foundation will aim to enrol IFAs across the country. The entity will encourage regional associations and local bodies of IFAs to become members of FIFA. The foundation has submitted a detailed response to SEBI on the concept paper issued by the market regulator.

Regulatory Rigmarole

AMFI is lobbying with the finance ministry to secure an exclusive mandate to implement the Rajiv Gandhi Equity Scheme (RGES), a tax-efficient investment plan for retail investors that was introduced in the Union Budget. A permission to allow the domestic mutual funds to handle the proposed equity scheme will help the industry replace its existing tax-saver product - equity-linked savings scheme - which will lose its tax-saver status under DTC regime. Making direct stock investments is fraught with risk for first-time investors. Mutual funds will be a better vehicle for them to take exposure to stock markets. RGES, which is aimed at increasing retail participation in stock markets, offers an income tax deduction of 50% for investments up to 50,000 by new retail investors whose annual income is below 10 lakh. The government is considering reduction in the lock-in period in RGES from three years to one. The demand for RGES comes at a time when the mutual fund industry is passing through its roughest patches. If RGES is routed through funds, it will give a new reason to approach smaller investors. This scheme has the potential to draw large investments. About 15 lakh youngsters are added to the 1-10 lakh bracket every year.

Mutual fund distributors plan to approach SEBI for clarifying KYC rule, which requires in-person verification (IPV), which came into effect from January 1, 2012. Distributors, especially those who wish to enroll outstation or NRI clients, are facing hurdles in IPV. SEBI has allowed depository participants to verify their clients through a web camera. The AMFI committee on operations & compliance had discussed whether distributors could be allowed to use web cameras for verifying NRI clients. However, the committee did not arrive at a decision.

SEBI has directed intermediaries to upload KYC (know your client) details of existing clients to a centralised database maintained by KYC registration agencies (KRA). The timeline for uploading the KYC data would remove duplication in the process of collecting KYC details. All registered intermediaries — KYC registration agencies (KRAs), brokers through stock exchanges, depository participants (DPs) through depositories, mutual funds (MFs), portfolio managers (PMs), venture capital funds (VCFs), collective investment schemes (CIS), association of mutual funds in India (AMFI) have been directed to upload data according to the timeline and send original documents to KRAs latest by March 31, 2013.

Several fund houses have introduced exit loads on fixed income mutual fund schemes in April 2012. Fund houses such as SBI, Canara Robeco, Taurus, JP Morgan, Principal have introduced or increased exit loads on early exits by investors. The debt mutual fund schemes have been doing well for some time now. According to Value Research, an online tracking entity, short-term debt funds delivered 2.27% and income funds delivered 2.01% returns in the last three months. The exit load would discourage very short-term investments in these schemes as it brings down the net gain to investors. In case of large sums moving out of the fund in a very short period of time, fund manager has to sell liquid investments such as bank CDs, as privately placed bonds in most cases do not have an efficient secondary market. Frequent churning of portfolio pushes expenses of the schemes upwards. This in turn brings down the performance of the scheme. Exit loads introduced are in the range of 0.15% to 0.5% and are for redemptions before completing 15 days to 180 days depending on the scheme. An income fund may charge exit load for redemptions up to 180 days from the date of allotment of units, whereas a short-term bond fund, may charge exit load for redemption up to 90 days from the date of allotment.

Small mutual fund distributors and agents who rely on their certificates for doing business, will now have to shell out more than double the amount in order to keep the certificate, as the National Institute of Securities Market (NISM), and the Securities Exchange Board of India (SEBI) are making life tough for them. It costs, at the most, Rs 3,600 for adhering to the new mutual fund requirement norms stipulated by NISM at a time when the business is dwindling.

Back in August 2009, SEBI made a drastic regulatory change to the mutual fund business in India by banning entry load on fund investments. Now, two years later, the mutual fund industry has started speaking out clearly about the business impact of the change. Without the extra revenue from entry loads, distributors as well as many funds companies are finding business difficult. However, that does not mean that there is a case for simply restoring entry load in the same shape as it existed till July 2009. It must be remembered that at that time there was a valid context for SEBI’s action. Churning of investors’ fund holdings in order to earn commissions out of the entry load was a widespread abusive practice among some distributors, as was the NFO-and-dump cycle of investments. The heady days of 2004-2007 were basically one long party of endless NFOs and repeated churning of investments. Now that the dust has truly settled on those days, the entry load ban is not the only reason for the current listless state of the industry. The epicentre of any business is not the provider’s financial well-being but what is delivered to the customer. It is logical that the solution must come from the creation of a business model that explicitly links the economic interests of the distributor with the interest of the investors. For example, the interest of the investor lies in being recommended a good fund, starting a SIP in it and then sticking to it and the distributor’s interest is in a more substantial trail commission. In this regard, SEBI’s abolition of entry load missed a trick. The goal should have been the abolition of upfront commissions because of the churning-type abuses. What it did instead was to ban entry loads since commissions were paid out of the entry loads. However, the commissions are still paid but out of the AMC’s pocket. Basically, the pie has gotten smaller but its structure remains the same. From here on, the way forward would probably have to start with making the pie bigger. This could well be necessary for growth and expansion into new markets. Whether this is paid for by higher expenses or by higher exit loads is the question. However, it would make sense for all changes to be directly linked to the desired outcomes instead of hoping for the outcomes to be a sideeffect. For example, if expansion to smaller cities and first-time investors is a goal, then the AMC and the distributors must be able to derive a meaningful economic payback for delivering these outcomes. The fund industry’s starting viewpoint—that the entry load ban may have been counter-productive—is correct. But the solution does not lie in turning the clock back.

FUND FULCRUM

April 2012

 

Hit by a downtrend for the third consecutive quarter, the mutual fund industry saw its total asset base shrink by about 5%, or Rs 36,000 crore, during the fiscal year 2011-12. Reaching its lowest level in more than two years, the average asset under management (AUM) of the entire Indian mutual fund industry dipped to Rs 6,64,824 crore at the close of the fiscal, ended March 31, 2012. The decline of 5% in the last fiscal followed a decline of 11% in the previous fiscal (2010-11), when the total average AUM had dipped to near Rs 7 lakh crore. The AUM of equity funds increased 13.5% during the first quarter of 2012, slightly better than the advance made by the Sensex but still lower than the gains recorded by the Nifty. The fall in the average AUM is attributed to redemption (exits) made by corporates due to advance tax payments in March 2012, which amounted to Rs 50,000-60,000 crore, according to ratings agency Crisil. The assets managed by equity funds shrunk 7.9% in 2011-12 to Rs 1,93,529 crore, according to SEBI data. This is lower than the decline posted by the benchmark indices for the period.

As per the data compiled by the industry body, the Association of Mutual Funds in India (AMFI), HDFC Mutual Fund retained its pole position as the country's biggest mutual fund with an average AUM of Rs 89,879 crore, followed by Reliance MF (Rs 78,112 crore), ICICI Prudential MF (Rs 68,718 crore), Birla Sunlife MF (Rs 61,143 crore) and UTI MF(Rs 58,922 crore). While HDFC MF is the country's biggest mutual fund, Reliance Capital Asset Management Co (RCAM) is the the largest and most profitable AMC in India, with total AUM of Rs 1,40,000 crore after taking into account MFs, government-sponsored public funds, managed accounts and hedge funds. Among the top-five fund houses, HDFC MF, Birla Sunlife MF and UTI MF managed to improve their average AUMs in the last quarter, while that of Reliance MF and ICICI Pru MF declined.

Surprisingly, five out of the seven AMCs, which recorded the largest positive AUM growth, were mid-sized fund houses. At a time when 22 AMCs registered a combined dip of Rs. 62,886 crore in assets last fiscal, seven AMCs recorded a robust growth in their assets. Leading the gainers was IDFC Mutual Fund which saw its assets grow by 20% or Rs. 4,158 crore, taking its AUM to Rs. 25,450 crore in March 2012 from Rs. 21,292 crore in March 2011. The second in the list of gainers is Deutsche Mutual Fund. It added Rs. 3958 crore to its corpus, taking its AUM up to Rs. 12,145 crore. The largest fund house, HDFC was the third largest AUM gainer at Rs. 3597 crore. J P Morgan was the fourth largest gainer and received net inflows of Rs. 2959 crore. Its AUM almost doubled to Rs. 6369 crore in March 2012, up 87% from Rs. 3410 crore last year. New fund offers and inflows in liquid funds helped IDBI add Rs. 1954 crore to its corpus. Baroda Pioneer was the sixth largest player to register a growth in its assets at Rs. 1606. Its AUM went up to Rs. 4191 crore in March 2012 from Rs. 2585 crore in March 2011.The AMC to record the seventh largest growth was Taurus Mutual Fund.

Income funds saw net outflows for the fifth consecutive month and it was Rs. 7654 crore in March 2012. Other Exchange Traded Funds witnessed eight consecutive months of net outflows. Its net outflows stood at Rs. 31 crore in March 2012. The industry registered net outflows for the second consecutive fiscal, it stood at Rs.22023 crore for the fiscal ending March 2012, as against net outflow of Rs. 49406 crore for the fiscal ending March 2011. Funds mobilized from 157 newly launched schemes in March stood at Rs. 36361 crore, out of which Rs. 36254 crore came from 153 close ended income funds. The number of Fixed Maturity Plans (FMPs) launched during March was higher than other months during the fiscal as investors look to invest into this product to benefit from indexation.

Equity funds saw net outflow for the third consecutive month to the tune of Rs. 196 crore in March 2012. The redemption was lower in March 2012 compared to February 2012, during which a whopping Rs. 2,680 crore went out of the industry. The gross redemption in equity schemes stood at Rs. 4,533 crore in March 2012 while sales from existing schemes stood at Rs. 4,337 crore, resulting in net outflow of Rs. 196 crore. The highest redemption was seen in liquid funds at Rs. 76,537 crore followed by Rs. 7,654 crore from income funds. Sales from new schemes stood at Rs. 36,361 crore. The total net outflow in March 2012 stood at Rs. 83,765 crore compared to Rs. 1,271 crore net inflow in February 2012.

The Indian mutual fund industry continues to find it tough to attract money from investors in the smaller cities and towns. Despite consistent efforts to spread awareness about mutual funds as a financial product for investment, the industry has little to rejoice, as close to three-fourths of its assets still come from the country’s five major cities. Mumbai, Delhi, Bangalore, Chennai and Kolkata collectively contributed a little over 73% of the assets under management (AUM) of fund houses during the December quarter. Interestingly, compared to the September quarter, this was a decline of around 150 basis points. The next 10 cities, including Ahmedabad, Pune, Hyderabad, Baroda and Jaipur, reported a marginal rise of 23 basis points, contributing 13.2% of AUM. Contribution from the next 75 cities, too, declined during the period, a clear blow for the fund houses struggling to increase penetration. Based on the overall folio number as on March 31, 2012, the penetration of mutual fund products, at less than four per cent, continues to be poor. AMFI’s media campaign to promote mutual fund products as a savings alternative under the tag line ‘Saving ka naya tareeka’ and the 10,606 investor awareness programmes conducted by 36 AMCs across 405 cities in FY12 have yet to bear fruit.

Piquant Parade

Fidelity International has agreed to sell its domestic fund management business to L&T Finance. The deal provides for continuity of the existing management at Fidelity. All existing personnel will be become part of the merged entity excluding the equity fund managers. The equity fund managers at Fidelity will manage the funds as long as they are needed through the transition. Fidelity launched its first domestic fund in India in 2004 and currently has Rs 8,880 crore assets in its 25 funds. These include 5 hybrid funds, 7 equity funds and 13 debt funds. Nearly 70% of the firm's asset is in equity while rest in liquid and fixed income funds. This is diametrically opposite to the asset complexion of the Indian fund industry. Bulk of its equity asset is in four funds -- Fidelity Equity, Fidelity India Growth, Fidelity International Opportunities and Fidelity Tax Advantage, rated 4-star by Value Research signifying above average risk-adjusted performance in their respective categories. The combined entity will have total assets of nearly Rs 13,500 crore almost equally into equity and fixed income. The deal will immediately boost L&T's assets to Rs 13,500 crore, making it the thirteenth biggest fund and the tenth largest on the basis of equity.

Bharti AXA Mutual Fund will become BOI AXA Mutual Fund, with effect from May 23, 2012. Bank of India will acquire 51% stake in the joint venture - 25% stake from Bharti Ventures Ltd. and 26% from AXA Investment Managers Asia Holdings Pvt. Ltd. Now, Bank of India (BOI) will become the Co-sponsor along with the current sponsor - AXA Investment Managers. As a result of this transaction, Bharti Ventures Ltd., the current co-sponsor of Bharti AXA Mutual Fund will exit from the joint venture. The name of the schemes will be pre-fixed with BOI AXA in place of Bharti AXA. Investors of Bharti AXA Mutual Fund have been given an option of exit from the funds without paying any exit load between April 23, 2012 and May 23, 2012.

The AMFI MF Utility committee has recently put a proposal to make the platform free for distributors and investors. The committee has suggested that there should be no transaction cost for distributors or investors. The committee has proposed that the operational costs should be borne by the AMCs depending on their folios, AUM and the number of transactions. This means that smaller AMCs will have to shell out less money compared to their bigger counterparts who record higher transactions. MF Utility, which will be registered as a company, will require an upfront development cost, which could run into crores. Initially, the platform will allow investors and distributors to invest across schemes of all AMCs. In the second phase, it is proposed to allow switches from one AMC to another. The platform will connect with all five R&Ts.

There is no end to woes for the mutual industry, which has been struggling due to low retail participation, redemption in equity funds, regulatory pressure and distribution processes. The industry has a new problem. Three CEOs have put in their papers within a span of one week and these include the CEOs of Baroda Pioneer, Daiwa and Mirae Asset. The industry is not surprised and believes the recent CEO exits are a part of the 'restructuring' facing the business. Fund houses like HSBC, IDBI, JP Morgan, L&T, SBI and UTI have seen the entry and exits of CEOs in the past one year.

To be continued…

NFO NEST
April 2012

NFOs (equity) at its nadir

Leaving aside the regular stream of fixed maturity plans (FMPs) (close-ended debt funds) in the mutual funds’ NFO space, there has been a dearth of NFOs of equity and non-FMP debt funds in recent months. An FCRB analysis, however, reveals no let up in the steady flow of draft offer documents being filed by various mutual funds with SEBI, which propose the launch of non-FMP funds. Draft offer documents for FMPs still outnumbered the former. Some of the proposed non-FMP funds from the draft offer documents even offer attractive features and scope for investors. In the past one year (March 2011 to February 2012), as per Capitaline NAV India mutual fund database, 34 NFOs took place for funds which were not FMPs. Of these, 13 were non-FMP bond funds, four were liquid funds, five gold fund-of-funds (FoFs), three equity funds, two gold exchange-traded funds (ETFs), two gilt funds, two tax-planning equity funds, two global FoFs, and one equity index ETF.

In the same one-year period, as per the SEBI website, 213 draft offer documents were filed with SEBI, out of which, 92 were not for FMPs. However, of these 92 proposed NFOs, only 18 hit the mutual fund NFO market. The remaining 74 have not come out with the NFOs either due to non-receipt of clearances from SEBI or due to their own delays. These 74 funds, whose draft offer documents were filed with SEBI but did not hit the NFO market, included the usual range of funds from regular bond funds to domestic equity funds. But, they also included some novel or uncommon NFO proposals such as Smallcap Benchmark ETF (filed in May last year before Goldman Sachs India MF acquired Benchmark MF), BNP Paribas Russia Fund, Axis Focussed 25 Fund, DSP Blackrock Emerging Europe Fund, Baroda Pioneer Global Equity-Gold and Mining Fund, HSBC China Consumer Opportunities Fund, DSP Blackrock Global Allocation Fund, IIFL Dividend Opportunities ETF, Quantum Multi Asset Fund and FT India Feeder-Templeton Asian Growth Fund.

In the 2011, ten new equity fund offers have been launched. This is the lowest for any 12-month period since 2004. With 29 NFOs in 2004, the number of NFOs has been 43, 39, 48 and 41 in 2005, 2006, 2007 and 2008 respectively. It fell drastically to 17 in 2009 and 23 in 2010 before reaching an all time low of 10 in 2011. The fund raised from NFOs rose from Rs 4384 crore in 1994 to around Rs 20000 crore to Rs 40000 crore in the next four years – Rs 25,225 crore, 36,741 crore, 29,284 crore, and 21,071 crore in 2005, 2006, 2007 and 2008 respectively. It dropped to Rs 4411 crore and Rs 4659 crore in 2009 and 2010 respectively and further still to Rs 612 crore in 2011.

The presence of just one fund in the April 2012 NFONEST bears testimony to the fact that the number of non-FMP NFOs continues to dwindle in 2012 as well.

ICICI Prudential Multiple Yield Fund – Series 2 Plan F
Opens: April 10, 2012
Closes: April 24, 2012

ICICI Prudential Multiple Yield Fund – Series 2 Plan F is a closed-end fund with a tenure of 1100 days that seeks to generate returns by investing in a portfolio of fixed income securities/debt instruments. The secondary objective of the fund is to generate long term capital appreciation by investing a portion of the fund's assets in equity and equity related instruments. The fund manager is Chaitanya Pande. The benchmark is CRISIL MIP Blended Index.

Union KBC Gold Fund, Canara Robeco Gold Savings Fund, Taurus Credit Opportunities Fund and Taurus Twin Advantage Fund are expected to be launched in the coming months.

GEMGAZE
April 2012

A global equity fund invests in stock markets around the globe. These funds have a portion of their investments invested in North America. Europe, and Asia. Some of these funds own hundreds of securities so that you can participate within the growth prospects of numerous firms through diversifying the risk linked with investing in distinct organizations worldwide. A great global equity fund will probably be a foundation for a well-diversified mutual fund portfolio for pretty much any investor.

Five sparkling GEMs among the global equity funds in India in 2011 have retained their preeminent status in 2012 also. Fidelity International Opportunities Fund, with very low investment in foreign equity and a lacklustre performance, has not made it to the mark. Besides, Mirae Asset Global Commodity Stock Fund, by virtue of its dismal performance, has been shown the exit door.

Principal Global Opportunities Fund Gem
Consistent resilience

With an AUM of Rs 37.49 crores, Principal Global Opportunities Fund has earned a one-year return of 3.57% as against the category average of -1.79%. Being a feeder fund, the performance of the fund depends entirely on Principal Global Investors –Emerging Market Equity. 98% of the portfolio is in equity, predominantly mid and small cap stocks. The expense ratio of the fund is 2.42% and the portfolio turnover ratio is 10%.

Templeton India Equity Income Fund Gem
Long term bet

With an AUM of Rs 1015 crores, the one-year return of the Templeton India Equity Income Fund is -7.02% as against the category average of -5.73%. Though the mandate is to invest up to 50% of its assets in foreign equity, it has peaked at 35% with majority of the investments in Asian stocks. The fund employs a value-based investment approach and looks for stocks that have an attractive dividend yield. The fund maintains a fairly compact portfolio of around 31 stocks (average over the past one year), out of which around 22 are listed in India. Barring Tata Chemicals, no Indian stock has accounted for more than 8% of the portfolio; foreign stocks have not exceeded the 5% mark. Its long-term returns put it in a good light. The expense ratio of the fund is 2.04% and the portfolio turnover ratio is 9.5%.

DWS Global Thematic Offshore Fund Gem
Skating on thin ice

With an AUM of a mere Rs 13.54 crores, the one-year return of DWS Global Thematic Offshore Fund is 4.91% as against the category average of -1.79%. The entire portfolio is invested in DWS Invest Global Thematic Fund. The expense ratio is 1.6%

Sundaram Global Advantage Fund Gem
Cost advantage

Sundaram Global Advantage Fund has an AUM of Rs 54.59 crores. The one-year return of the fund is 1.96% as against the category average return of –1.79%. The fund has invested in 11 foreign equity mutual funds, with DB Tracker Emerging Markets Asia and Fidelity South East Asia being the top two funds. The expense ratio is a mere 0.75%.

ICICI Prudential Indo Asia Equity Fund Gem
Expensive proposition

ICICI Prudential Indo Asia Equity Fund has an AUM of Rs. 183.78 crores. Its one-year return is –1.9% as against the category average return of –6.13%. 32% of the portfolio is in IOF Asian Equity Fund and 90% of the portfolio is in large cap stocks. Nearly 50% of the portfolio is in financial services stocks, with technology and energy constituting 13% and 10% respectively. The expense ratio of the fund is 2.38% and the portfolio turnover ratio is 65%.

FUND FLAVOUR
April 2012

Spreading its wings…

As the name suggests, global funds invest in global stocks and/or mutual funds (that in turn invest in global markets). So what do global funds offer Indian investors?

The biggest advantage is that you get opportunities to invest at a global level. Global mutual funds take advantage of markets throughout the world. If one market performs poorly, global mutual funds can choose to move assets, investing in markets with more potential. Not all the markets of the world move in one pack, so a downswing in a country's market can be well taken care of by gains in the others. So, it is essential to have diversification in different markets across the world. Global funds have opened a window to international asset markets for Indian investors. They have made it easier for you to diversify your portfolios (and in this way de-risk them) beyond the conventional domestic equity and debt avenues across sectors, across countries, and across geographies. By being invested in domestic markets, you already have a flavour of emerging markets. Ideally, you want to diversify by investing in other markets (like developed markets for instance) that behave differently vis-a-vis emerging markets.

…far and wide

You can look at international funds to reduce risks and enhance returns via diversification across geographies, currencies and different market conditions. Currently, 17 fund houses in India offer this choice. These funds are available across developed and emerging markets as well as under different fund management styles, viz. active and passive management.

Investors beware!

Having said that, investing in global funds has its fair share of risks.

International funds are exposed to country-specific, economic and geo-political risks in the countries they invest in. Some international funds invest only in one country. Hence any political or economic problems in that country will have a negative impact on the performance of these funds. For e.g., the economic dishevel caused by a tsunami and nuclear crisis in Japan in March 2011 impacted its market severely compared to other global markets.

There is currency risk, which means that if the rupee rises in value against the dollar, your rupee return from your international fund will be lowered. Of course, the flip side is that if the rupee falls in value, international returns become more attractive in rupee terms. Underlying securities in international funds or investments in mother funds are made in foreign currency, which makes them vulnerable to the currency risk. This was seen in recent times when the dollar appreciated sharply against most emerging market currencies with the domestic rupee reaching historic lows.

Since overseas investments involve lot of money transfers with various kinds of charges and stamp duties to be paid as per the country or market specific requirements, the fund management charges for global funds are usually high. In certain cases, hidden expenses are also involved. Some global funds are feeder funds - they invest their corpus in their parent fund abroad, which, in turn, would invest in global equities. This three-tier structure adds to the expense quotient of your fund, which can eat into your yield in a big way in the long term. For instance, Black Rock World Gold Fund - the parent fund of DSP World Gold Fund - has an initial charge of 5% and annual management fee of 1.75%. This is over and above what your domestic fund charges you. Over a period of time, higher expenses can and will erode returns significantly.

Global funds are treated as non-equity funds and taxed accordingly. Thus, long-term capital gain would be taxed at 10% without indexation or at 20% with indexation. Short-term capital gain would be taxed as per your tax slab. Thus, it could be as high as 30%. But, if your fund has a mandate to invest at least 65% in Indian equities and the rest in foreign securities, it will be at par with Indian equity funds and treated accordingly for tax purposes.

If you are going for a global fund-of-fund, your fund-selection task can be easier as these funds invest their corpus in their parent global funds that have been in existence for some time. You can track the performance of the parent funds for the last three to five years (wherever possible) and benchmark the same against global indices like MSCI World Index or MSCI EMEA. Thereafter, you can take the final call on whether to invest in it or not. In the Indian context, this is a relatively new area. So, most of these funds do not have much of a track record.

Barring a few global funds in India, others have very low corpus inspite of the fact that they have been in existence for a few years now. The top mutual fund players, HDFC and Reliance, have not ventured to launch global funds.

A mixed bag

According to Value Research data, of the 28 global funds at present, only three can boast of double-digit returns over the past one year. 10 funds have earned single digit returns and 11 funds negative returns during the same period. Four funds have not completed one year since launch. The best returns offered by international funds over a three year period was by AIG World Gold Fund and DSPBR World Gold Fund with 33.83% and 28.85% respectively. The returns of the remaining eight international funds that figured among the top 10 funds ranged from –0.48% by HSBC Emerging Markets to 9.47% by Franklin Asia Equity. According to Value Research, of the 28 global funds, nearly a third has an expense ratio of nearly 2.5%, the maximum that is allowed.

Developed market equities (indices) performed better than emerging market equities in the bear phase (2008 and 2011) while emerging market equities outperformed in a bull phase. Thus, global diversification of one's portfolio through a selection of international equity mutual funds not only reduces risks in a bear phase but also enhances returns in a bull phase. These funds are professionally managed by Indian registered mutual funds that directly invest in foreign securities or overseas mutual funds (which in turn invest in foreign securities). For investors who want to protect their portfolio from market uncertainty, exposure to developed market indices via mutual funds provides an ideal hedge. Similarly, investors looking for higher returns can look at investing in emerging markets/ high-growth economies like India. Developed market funds gave higher returns or declined less in the volatile periods (2011 and 2008), while emerging market indices scored higher in the bull period (2007, 2009, 2010 and 2012 YTD).

If you are a new investor, global funds may not be for you because of the risks involved in them. You should have an India portfolio consisting of well-managed funds with established track records and investment processes. Only then must you invest in global funds. Put simply, global funds must not be considered as a stand-alone investment. Rather they must form part of a portfolio. Since global funds must be considered primarily for the purpose of diversification and asset allocation, they should not form a large chunk of your portfolio. According to a survey, the best policy for investment is to have a 70% domestic investment and a 30% international diversified funds investment. The survey reveals that this investment strategy is better than having a 100% domestic investment portfolio or a 100% international exposure in terms of risk exposure and return on the capital.