The Hindu Business Line : Index funds

Index funds, barring a few, continue to trail their respective benchmarks over one-, three- and five-year periods. Sixteen of the 18 index funds trailed their respective benchmarks over a one-year period. The disparity between the best in the category and the worst is quite substantial. The top-performing fund was HDFC Sensex Plus Plan, which has generated a return of 39 per cent, while LIC Index Plan-Nifty clocked a return of 22 per cent and finished at the bottom of the table.

The performance of index funds is measured by the tracking error vis-a-vis its benchmark, with the better performing fund expected to have the least deviation. The tracking error in simple terms is the difference between the returns of the index fund and that of the target index. Tracking error can be attributed to a fund’s cash levels, change in composite weight of stocks compared to the benchmark and the expenses ratio.

Long-term record: HDFC Sensex Plus Plan is the only fund that beat over three- and five-year periods. ICICI Pru Index Fund- Nifty Plan is another fund that consistently outpaced its benchmark .

Both the schemes take bets on select sectors, and enhance weights of the stocks in the portfolio, which does not replicate their respective benchmarks. For instance, HDFC Sensex Plus Plan has a lower weight to stocks such as Reliance Industries, Larsen and Toubro, Tata Steel and TCS but accords greater weights to Infosys Technologies, ICICI Bank and SBI than its benchmark.

Both LIC Index Fund-Nifty Plan and LIC Index Fund Sensex Advantage trailed their respective benchmarks over three- and five-year periods by a margin of five and four per cent respectively. However the performance of the LIC Sensex Advantage has improved over a one-year period and it has bettered its benchmark by one percentage point. This despite its strategy of moving to cash to the tune of 27 per cent during November 2008 –March 2009.

It is a moot point, however, whether an investor would want a huge variation in the returns of an index fund and its corresponding index, as the purpose is to mechanically give exactly the same returns as the index. If that is not the case, investors may as well invest in a diversified fund.

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