The Hindu Business Line : Fund Talk

I am 36 and thinking of investing in mutual funds. My time horizon for these investments is above 10 years. I wanted to start small and build a portfolio with 3 to 4 core funds. I am thinking of the following allocation: Large Cap - 35-40 per cent, Mid Cap – 30-35 per cent, Small Cap – 20-25 per cent, Sector Funds - 10 per cent. I evaluated funds based on certain criteria. Topping the list were entry and exit loads, expense ratio, portfolio turnover ratio, manager’s tenure and credentials with the company, portfolio overlap, comparing the mutual fund to its benchmark index and peers for 1, 3, 5-year periods and inception period.

I have short-listed Sundaram BNP Paribas Select Focus, Reliance Vision, Birla Sun Life Equity fund and Magnum Contra (large-cap funds), Birla Midcap, Sundaram Select Midcap, Reliance Growth, Magnum Global (mid-cap category) and Magnum Midcap, Sundaram BNP Paribas SMILE, Sundaram BNP Paribas Select Small Cap, DSPML Small and Mid Cap and Franklin India Smaller companies (small-cap). Have I taken the correct route? Let me know if there are other good funds to look at. Also, should one go for open-ended or close-ended with an NFO? The reason being the entry loads for open-ended are mostly 2.25 per cent, but for a close-ended NFO they say they will charge up to a maximum of 6 per cent of the initial resources and this would be amortised over 3 years.

V. Bala

Your allocation pattern appears fine, but only if you have an aggressive risk appetite. We would recommend a higher allocation to large-cap funds; say at least 50 per cent, for those with a moderate risk profile. Several funds you have short-listed also make for good choices, although here again, the funds are suitable for more aggressive investors.

Do note, however, that with the exception of Sundaram S.M.I.L.E, all other funds in the small-cap category that you have short-listed are close-end funds and are no longer open for subscription. You might have to play the small-cap theme largely through existing mid-cap funds.

While you have a good short-list of funds, we do have some points to make about your criteria for selection. Expense ratios and loads do matter in market such as the US, where majority of the funds struggle to beat the benchmark. In the Indian context, where most funds do manage to beat the benchmark indices a majority of the time, we believe that factors such as entry/exit loads and expense ratios of funds should not be the primary criterion for choosing a fund. After all, a fund’s return is calculated based on net asset values, which already adjusts for a fund’s expense.

Also, considering the extent of out-performance that domestic mutual funds managed to generate so far, the load appears to be a small price to pay. You would be hard placed to generate that return on your own, unless you make investing your full time profession.

We believe that a fund’s track record vis-À-vis its benchmark over a three-five-year period, consistency in performance during this period, ability to compensate for risks assumed and its performance relative to the benchmark during corrective phases need to be given the most priority when it comes to selecting funds.

Fund managers do matter and it is important to track changes in fund management. But even here fund houses are beginning to introduce processes that would minimise the influence of a fund manager change on performance. Other criteria, such as portfolio churn and portfolio overlap, are relevant while reviewing your overall fund portfolio and might help re-balance your portfolio in accordance with your objective. You are on the right track here.

We have always been in favour of open-end funds, as it gives you the choice to exit a fund at any time, should there be a material change in its performance. The track record of earlier close-end funds has not been very impressive; this might change in the future. However, as mentioned earlier, the incidence of load should certainly not be a factor when choosing between open end and close-end funds.

If you intend to stay invested for a three-year period with the fund anyway (which you should, after all the effort you have made to short-list a good set of funds), the load should barely make an impact on your overall returns.

SHANTHI VENKATARAMAN

(Queries may be e-mailed to mf@thehindu.co.in, or sent by post to Business Line, 859- 860, Anna Salai, Chennai 600002)

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