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Sensex's rise from 20K to 40K: 5 lessons for equity mutual fund investors


The Sensex has scaled the 40,000 mark but mutual fund investors are not particularly enthused. There is good reason for their lack of cheer: most equity funds are at significantly lower levels compared to their previous peaks. In fact, the current rally is happening only in large-caps and the mid- and small-cap fund returns (category average) have actually fallen 3% and 8% respectively over the past year.

What has made matters worse is the concentrated nature of this rally. Even among large-caps the rally has been restricted to a few stocks— Reliance, HDFC Bank, TCS, among others. Not surprisingly, most actively managed large-cap funds, which cannot focus on just a few stocks, have not been able to match the performance of the Sensex. “The current Sensex and Nifty rally is because of 7-8 companies and since mutual funds have to maintain diversified portfolios, they can’t be invested in just these companies,” says Amol Joshi, Founder, PlanRupee Investment Services.

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Source: BSE; Compiled by ETIG Database; Note: AUM of the outperforming schemes as at the start of the given period.

Takeaway: Equity markets are known for long period of mediocre returns and short periods of fabulous returns

Equity Funds CAGR
Sensex CAGR Simple Avg AUM Weighted Avg
5k-10k 11.57% 22.86% 23.49%
10k-20k 45.72% 42.10% 43.55%
20k-40k 6.22% 7.54% 7.54%

Souce: Value Research

Takeaway 1: Equity funds outperformance have come down in the last doubling of Sensex
Takeaway 2: Due to fall in equity funds outperformance, it makes sense to consider index funds for large cap schemes

Outperforming Sensex
No of Schemes Starting AUM
5k-10k 79% 91%
10k-20k 41% 39%
20k-40k 67% 70%

Souce: Value Research

Takeaway: With 30% of AUM not meeting even the mediocre 6.22% returns, investors are upset

The category average return of large-cap schemes over the past year has been 8.53%, compared to the Sensex return of 12.64% and only two actively managed large-cap schemes have managed to beat the Sensex over the past year. “If this trend of a concentrated rally continues, mutual funds will continue to underperform in the short term,” says Joshi. Some experts suggest that this trend is likely to continue for some time.

To investors’ disappointment, it’s not just the short-term performance of mutual funds that’s been unsatisfactory. Mutual fund investors’ returns have been paltry over the long term too. It took the Sensex 11 years and six months to go from 20,000 to 40,000. During this period, the index generated an annualised return of just 6.22% and equity mutual funds delivered an average return of 7.54%. Debt products such as the PPF have given better returns, and without the anxiety associated with equity investments. The silver lining is that 70% of the equity assets under management (AUM) grew more than the average 6.22% (see chart). But investors who put up the remaining 30% of the mutual funds’ AUM are unlikely to pardon their fund managers who failed to produce even a mediocre annualised return of 6.22%.

Consistent outperformers
These equity funds outperformed the Sensex during all three phases.

Scheme Name 5k-10k 10k-20k 20k-40k
SBI Magnum Equity ESG Fund 13% 58% 8%
SBI Large & Midcap Fund 13% 51% 9%
Tata Ethical Fund 23% 49% 7%
SBI Magnum Global Fund 23% 48% 9%
Aditya Birla SL Equity Fund 28% 53% 8%
Tata Large Cap Fund 28% 46% 8%
Reliance Growth Fund 38% 53% 9%
Sensex 12% 46% 6%

Consistent underperformers
These schemes underperformed the Sensex during all three phases.

Scheme Name 5k-10k 10k-20k 20k-40k
LIC MF Tax Plan 6.49% 33.78% 5.22%
LIC MF Multi Cap Fund 7.89% 42.06% 2.96%
Principal Nifty 100 Equal Weight Fund 11.01% 43.07% 4.73%
Franklin India Technology Fund 11.02% 8.11% 11.76%
LIC MF Large Cap Fund 11.16% 35.51% 5.48%
Sensex 11.57% 45.72% 6.22%

Source: ACE MF

Takeaway: Just like few schemes generate better returns, there are few that generate below average returns

Note: Some of these old schemes were renamed/refocussed as part of Sebi’s new categorisation rules.

Chart toppers that sank to the bottom
Past performance does not guarantee future returns.

CAGR AUM
Scheme Name 10k-20k 20k-40k 30-11-2007 31-05-2019
Reliance Power & Infra Fund 84.62% 2.47% 4,937 1,488
Tata Infrastructure Fund 66.88% 2.64% 2,559 572
UTI Infrastructure Fund 63.74% 1.36% 1,727 1,400
JM Value Fund 66.50% -1.08% 1,026 133
SBI Magnum COMMA Fund 56.32% 2.60% 631 270


Underperformers that rose to the top

Today’s poor performers may lead the charts in the future.

CAGR AUM
Scheme Name 10k-20k 20k-40k 30-11-2007 31-05-2019
SBI Consumption Opportunities Fund 5.72% 18.41% 8 707
UTI Transportation and Logistics Fund 3.23% 14.96% 53 1,408
Franklin India Technology Fund 8.11% 11.76% 135 246
UTI Healthcare Fund 1.44% 11.69% 58 402
SBI Healthcare Opportunities Fund -1.30% 11.12% 35 935

Source: Value Research

Takeaway: Historical performances rarely repeats in future

The key question is what are the learnings for a common investor from this experience? To get a historical perspective, we also studied the previous two periods when the Sensex doubled— from 5,000 to 10,000 and from 10,000 to 20,000—and drew the following lessons for equity fund investors:

Lesson 1: Don’t avoid equities due to historical low returns
Though 6.22% Sensex return and 7.54% average mutual fund return over a decade are disappointing, investors should not avoid equities. Stock markets, across the globe, don’t move at a uniform speed and are known for such long periods of low, even no returns. To illustrate, the Sensex generated zero return between 1992 and 2003. The market, however, generated fabulous returns between 2003 and 2008, mostly because of the high earnings growth during this period. Disillusioned investors who stopped their equity investments in 2003 missed these gains.

Funds that lost money while Sensex doubled
Investors have steadily exited most of these schemes.

CAGR AUM-Start AUM-End
Scheme Name 20k-40k 30-11-2007 31-05-2019
Quant Infrastructure Fund -3.16% 17 2
DSP World Gold Fund -1.28% 1,475 215
JM Value Fund -1.08% 1,026 133
HSBC Infrastructure Equity Fund -1.02% 975 109
Reliance Quant Fund -0.74% 5 27

Source: Value Research

Takeaway: Investing in some scheme and hoping for return in long term is a bad strategy. Holding a scheme for the long-term won’t always yield good returns.

The stock market is a slave to corporate earnings and this is getting re-emphasised now. Since low earnings growth is holding back the market now, experts believe that the market will start performing once earnings growth picks up. “After a high earnings growth period of 2003-08 and an earnings de-growth in 2008-09, we are in a low earnings growth period. Once the expected economic revival happens, we may see 10%-12% earnings growth in the next 10 years,” says Raghvendra Nath, MD, Ladderup Wealth Management.

Though the equity market is still capable of generating reasonable returns in the long term, investors should not ignore the short-term hiccups. “Due to political stability, foreign portfolio investors are investing now through index funds and this has increased the valuation of the Sensex and the Nifty. The current liquidity issue for NBFCs is another worry for the market because they may persist for the next 6-12 months,” says Ankur Kapur, Advisory Head, Banyn Capital.

Lesson 2: Never chase high historical returns

Past performance of a scheme does not guarantee similar future performance. This is a common refrain in the mutual fund industry. Yet, investors tend to chase historical returns and prefer investing in schemes that have generated better returns in the past. This strategy rarely works. To illustrate, schemes that underperformed during the period when the Sensex rose to 20,000 from 10,000 generated an average return of 8.58% during the period it doubled to 40,000. Schemes that outperformed during the 10,000 to 20,000 period generated only 6.74% during the 20,000 to 40,000 period.

Similarly, most of the underperformers during the 20,000 to 40,000 period were the star performers during the 10,000 to 20,000 period (see chart). Most schemes in this list are from the power and infra space. Infra schemes collected a lot of money in 2007 and all of them are in the dumps now— a classic case of investors chasing historical returns and getting burnt in the process. Similarly, some of the laggards of the 10,000 to 20,000 period did well during 20,000 to 40,000 period (see table).

So, should investors follow the contra strategy and invest in schemes that did badly in the past? “One can’t just invest in schemes that did badly. Instead, investors need to see why they underperformed,” says Nath. It is better to avoid an underperforming scheme, if the underperformance is due the fund manager or due to a fund house’s processes. However, if a scheme’s underperformance is because a sector or theme, one can take call depending on the changed prospects of those sectors. For instance, the 10,000 to 20,000 period was mostly led by power and infrastructure; consumption, pharma and technologies were the key underperformers. These underperformers turned outperformers during the 20,000 to 40,000 period. So, investors need to bet on sector or themes that are expected to do well and not the ones that did well.

Low-cost ETFs for passive investors

Fund Expense Ratio (%) Net Assets (Rs Cr)
ICICI Prudential Nifty ETF 0.05 1,186
SBI ETF Nifty 50 0.07 55,104
SBI ETF Sensex 0.07 17,630
UTI Nifty ETF 0.07 13,689
UTI Sensex ETF 0.07 4,604

Index funds challenging ETFs on cost

Fund Expense Ratio (%) Net Assets (Rs Cr)
UTI Nifty Index Fund 0.10 1,374
HDFC Index Fund Nifty 50 Plan 0.10 747
HDFC Index Fund – Sensex Plan 0.10 400
ICICI Prudential Nifty Index Fund 0.10 388
IDFC Nifty Fund 0.18 168

Source: Value Research

Takeaway: Index fund investors now also have the option of low cost funds. As index funds are smaller in size, their tracking error (difference between index and fund’s performance) will be slightly higher compared to ETFs’ tracking error.

Lesson 3: Don’t be greedy, book profit
Investors should not get greedy and assume past historical returns will be replicated in the future too. They should book profit based on expert advise. This lesson becomes more relevant when fabulous return in the past have happened over short periods. For example, the Sensex doubled from 10,000 to 20,000 in just one year and 10 months, generating annualised return of 45.72%. Waiting for such a performance to repeat can be counterproductive.

So, given the benchmark indices are close to all-time highs, should equity investors book their profit and move out now? Experts advise against it. “Investors exit when the show is good. However, there is no need to book profit now because the earnings growth and returns are below average. Time to book profit will come in 2-3 years when the Sensex earnings CAGR is expected to be 20-25%,” says Nath.

Lesson 4: Don’t invest and forget
A large number of people invest in new fund offerings (NFOs) or the schemes that are at the top of the charts at a given time and then forget about them. This is because of the false assumption that equity funds will inevitably deliver returns over the long term. There are several schemes that delivered negative returns over the past 11-plus years, when the Sensex rose to 40,000 from 20,000 (see table).

Though all schemes generated positive returns over longer periods (beyond 12 years), their performance has not been uniform. Seven of the 33 schemes beat the Sensex during all three phases under study (5,000 to 10,000, 10,000 to 20,000 and 20,000 to 40,000). There are also schemes that were beaten by Sensex in all these three phases (see table). Had funds not done away with several underperforming schemes, the list of underperformers would have been much longer. Twenty-two schemes outperformed and underperformed at various points in time.

This shows that investors should stop searching for the ultimate mutual fund scheme to invest and forget. “No one can identify a scheme that will deliver the ‘maximum’ return. All investors can do is to get their segment-wise allocation (large, mid- and small-cap) right and select schemes that match their other requirements— scheme nature, fund manager expertise, fund house philosophy, etc,” says Joshi. Even after this, there is no guarantee that all schemes will deliver, so you also need to review you portfolios regularly.

Most experts suggest an annual portfolio review but some advise quarterly reviews. “No need to make changes quarterly as one quarter is a small time frame to assess performance. But quarterly reviews help investors keep a close watch on qualitative aspects like portfolio changes, fund manager views, etc.,” says Kapur. If you do not have the expertise to select the right schemes and review your portfolio, you should take help of a professional.

Lesson 5: It’s time for index investing
At 7.54%, equity schemes delivered slightly better returns compared to the Sensex that generated 6.22% during its journey from 20,000 to 40,000. This is in sharp contrast to its huge large outperformance during the 1999 to 2006 period when Sensex moved up from 5,000 to 10,000. During this period the average mutual fund generated 22.86% return compared to the Sensex return of 11.57% (see table).

As the market matures, beating the index with larger margins will become increasingly difficult, especially for largecap schemes. “The chance of large-cap funds beating index funds is very low now. So, it makes sense invest in index funds for large-cap allocation,” says Kapur. The mid- and small-cap funds, however, still have the ability to outperform the index. “Fund continue to generate alpha in midand small-cap schemes. So, investors can have a mix of index funds for large-caps and actively managed funds for mid and small caps,” says Jitendra P.S. Solanki, a Sebi-registered investment adviser. Since index revision happens automatically and doesn’t involve fund manager risk, index investing is the only option for investors who want to invest and forget.

Should investors go for ETFs or openended index funds? It depends on investors’ convenience. For example, you can buy ETFs on an intra-day basis and there’s no need to wait for the end of the day NAV. However, you need a demat account and also a broking account to buy ETFs from the market. Besides, there will be additional expenses whenever you buy or sell ETFs. Since the market price of ETFs can vary, investors need to be careful while buying and selling ETFs. With several fund houses cutting expense ratio for open-ended index funds, the cost of their direct plans is now comparable to that of ETFs. However, index funds are smaller in size compared to ETFs and, therefore, the chance of tracking error (the difference between the index and the fund’s performance) will be slightly higher for index funds.





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