Did you invest in the best equity funds?

Congratulations on choosing Equity Mutual Funds for creating wealth rather than investing directly in the stock market. It's surely a wise decision.

But, are you riding on the horses or on the laggards? Have you ever tired to check that?

When the markets are on a roll, all Equity Funds give positive returns. Don't be happy with just that.

In last one year, ended 30.11.06, out of the 120 fully diversified funds and 20 midcap funds, the best returns generated are up to 71 per cent and the least being a measly four per cent. The average return being that of the 65th positioned equity fund at 40 per cent, when the 140 equity funds are arranged in descending order based on their returns over the last one year.

And now, the acid test...

A year back, did your financial advisor advise you to invest in mutual funds that have outperformed the rest of the funds or underperformed?

• The best 35 funds (1st quartile i.e. 1st 25 per cent funds) have generated 50-70 per cent returns.
• The next 35 funds (2nd quartile i.e. 2nd 25 per cent funds) have generated 40-50 per cent returns.
• The next 35 funds (3rd quartile i.e. 3rd 25 per cent funds) have generated 30-40 per cent returns.
• And the last 35 funds (4th quartile i.e. last 25 per cent funds) have generated 4-30 per cent returns.

Check where your funds feature in the above 4 categories!

Now let's analyze some funds in each category:

* Best Performers - 1st quartile: 50-70 per cent returns

If your advisor had recommended these funds to you, be sure that you've got the best advice available in India. The advisor is a genuine expert and truly gives ethical advice keeping your best interest in the forefront. Check if your advisor had advised you to invest in the following funds during Oct-Dec 2005 (Last 1 year returns mentioned):

...if you had even 2-3 of these (Table 1), you are getting the best advice.

 * Above Average Performers - 2nd quartile: 40-50 per cent returns

You should still be happy if you've invested a year back in the following funds; as to predict the 'Future Winners' who would perform in top quartile is an extremely difficult task.

Check if your advisor had advised you to invest in the following funds during Oct-Dec 2-05 (Last 1 year returns mentioned):

... feel good if your advisor had advised these (Table 2) funds to you.

Now starts the problem...

* Below Average Performers - 3rd quartile: 30-40 per cent returns

Even if you have got a 30-40 per cent return over last one year in your equity funds, there's no reason to feel happy. The market itself has gone up by 40 per cent. So, for the amount of risk taken in equities, and the opportunity lost by not investing in the right fund, its you who has lost at the end of the day, not your advisor. Right? Check if your advisor had advised you to invest in the below mentioned funds during Oct-Dec 2005.

Table 3:

Ask your advisor, on what basis had he recommended you to invest in the these (Table 3) funds. He won't have a justified answer. You've got to change your financial advisor if most of your Equity Funds have given a 30 - 40% return on investments done one year back.

* Worst Performers - 4th quartile: 4-30 per cent returns

Believe me, your advisor has taken you for a ride by advising you the funds (Table 4) which most probably have earned him maximum commission or has helped him fulfill his distribution targets. If not, at least one thing is sure; he doesn't have any knowledge of mutual funds. Check if your advisor had advised you to invest in the below mentioned funds during Oct - Dec 2005.

Table 4:

Now what do you do? Get Angry? No, GET SMART!

First, you should change your financial advisor. Second, ask yourself that on what basis you had chosen to invest in those funds.
 
If the answer is Past Performance, believe me, you will rarely find a winner year after year. WINNERS ROTATE.

If it was for Convenience (the advisor being conveniently located) then you have paid a heavy price for choosing convenience over quality advice.

If Rebate was the reason, please calculate your total gain (Return + Rebate), is it equivalent to a return of 40-50% (2nd quartile performance) or 50-70 per cent (best quartile performance)?

Some Midcap Fund NFOs which recently hit the market, and have disappointed / may disappoint investors due to large corpus size are:

• Franklin Smaller Companies Fund: Corpus Rs. 1427 crore (Rs 14.27 billion). Last 6 months return at 10 per cent - one of the lowest in its category. 
• DSP Small & Midcap Fund: Corpus Rs. 1517 crore (Rs 15.17 billion).
• Reliance Long Term Equity: NFO closed on 11 Dec '06. Expectedly has collected over Rs. 2000 crore. (Rs 20 billion). 

Amortisation:

There are over 50 Equity Funds, including funds of Sundaram, Tata, SBI, Birla, Reliance, ABN AMRO, ING, Principal, JM, Kotak, Birla, StanChart, UTI, Pru ICICI, HDFC & HSBC which have a fixed amortisation cost to be deducted from some schemes every year.

And the corpuses of these 50 Equity Funds have already gone down and the funds are taking a bad hit due to fixed amortisation cost which is deducted every year. Does your advisor know about these 50 equity funds?

For example, JM Emerging Leaders NFO collected Rs 208 crore (Rs 2.08 billion). Amortisation cost was around one per cent. The corpus has come down to just Rs 56 crore (Rs 560 million) now. So this year 2 crore (Rs 20 million) will be deducted from Rs 56 crore corpus i.e. almost 4 per cent (over and above your entry load & fund management charges).

One more advice: Do not get carried away by PMS - Portfolio Management Services started by stock brokers, institutions and fund houses.

Conclusion:

By investing in right funds - FUTURE WINNERS - and exiting at the right time, you generate the most superior returns. 

To find a genuine advisor is very difficult in India. There have been several media reports about how financial advisors and banks acting as wealth managers and investment advisors have been fooling the retail investors and HNIs too!

Come on wake up!

The author is, director, BrainPoint Investment Centre. He may be reached at jaydeep@brainpointinv.com

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