Mutual Fund | Portfolio Yoga

The Rush to become a Mutual Fund

The big news today is that Groww is acquiring the Mutual Fund business of India Bulls. A few days back, NJ India got SEBI in-principle approval for their Mutual Fund License. Another 7 applications are queued up at SEBI.

There was a time in the past when everyone wanted to become a Stock Broker. I think I myself was influenced by those times because despite not understanding the business, I aspired to become one.

In 1996, the BSE Membership Card made an all time high of 4.11 Crore when a defaulters Membership card was auctioned off. This is a record that will stand in time. Today, you can become a member of the BSE by depositing a comparatively lower amount and one that is actually refundable.

While the Indian Mutual fund revolution started nearly 30 years back with the entry of private sectors to a sector that till then was the exclusive domain of UTI, the number of funds have stayed more or less stagnant for a long time.

This won’t be the case any longer though with SEBI revising rules that allow for the ability to start a Mutual Fund and one that has attracted a lot of new participants. My guess is that by the end of this decade, we should be having more than 100 Mutual Fund houses.

Starting a Portfolio Management Service (also called PMS) today calls for a minimum financial commitment of 6 Crores at the start. The business becomes worthwhile once you cross the magic 100 Crore in Assets.

Mutual Funds on the other hand require (based on the kind of application they are submitting) anything between 60 to 110 Crores. I would guess that with no profit sharing option unlike PMS, the breakeven will be way above 1000 Crores in Assets.

Players who are small and unable to get to that kind of assets will either have to be subsidized for a long time by their investors or will sell out to stronger players like what has happened with IndiaBulls.

The key to getting to breakeven territory is two fold – performance and distribution strength. Remember that even today 80% of the mutual fund flows come through distributors and while performance can help, as we have seen in the case of Quantum (when it was one of the best performers), without distribution, it’s hard to scale.

So, why the rush you may ask.

Being a broker in the past meant being part of an exclusive club. Even today, there are just a few thousand brokers for a country of a Billion+. Getting to become a PMS means an even exclusive club that has just around 250+ members. Mutual Fund is the cream in that sense – you are right at the top of the food chain.

What helps also is the fact that the interest in equity is slowly growing and the percentage of savings that go into equity today is very low. So, there is huge growth opportunity that is available for those who are able to capture the trends

The biggest advantage for Mutual Funds is that they allow their investors to compound their money for a longer period of time without having to pay taxes for the gains that are booked inside the fund. Given that generating Alpha is so tough, this really adds value when you are looking at a very long term time horizon.

From the Investors point of view, more may be better when it comes to Fees. Right now, Fees have dropped not because Mutual funds were generous but because it came ordained from the Regulator. More competition would hopefully lead to an even lower fee structure than what we see today.

NFO Review: Mirae Asset NYSE FANG

International funds have been around for long. Value Research says that the oldest fund in existence is Principal Global Opportunities Fund which was launched in 2004. As on date there are 46 funds that come under the category of “International Funds”.

For a really long time, International funds did not command any interest. Even today, the total assets under management is just around 21K Crores of which the top 3 funds (two of which belong to Motilal Oswal) have cornered 40% of the total assets.

Only in the last couple of years have International funds started to gain some traction. For instance, currently Motilal Oswal’s Nasdaq 100 ETF has a AUM of 3,203 Crores. Thes same fund in March of 2018 had an AUM of just 72 Crores.

Performance drives Assets under Management. This is a universal truth. Very few investors or advisors will stick to a fund that is underperforming its peers. There are exceptions always like the HDFC funds in India but this is mostly true for most funds.

Look at the performance over the last 4 years between Nasdaq 100 (^IXIC) and Nifty 50 (^NSEI). Nasdaq 100 being denominated in USD while Nifty 50 is in INR.

For most part, Nasdaq has been outperforming Nifty and this margin has increased big time once the Stay at Home policies kicked in response to the Corona crisis. Tesla for instance shot up 743% in 2020 alone. Why would a car company’s stock shoot up during a crisis when you barely got out of the home? One – there was a fundamental change. The EPS went from Negative to Positive and Secondly the future earnings go rerated. Trailing Price to Earnings ratio shot up above the 1000 mark. The share got split in 2020 making it cheaper for the YOLO community to invest as well.

Tech has been the driver for a while now. If you were to co-plot the S&P 500 where the weight of Tech shares have oscillated over time but is not a entirely technology index vs a pure technology index, you can see that despite the fall in 2000, Nasdaq has delivered 3x the returns of S&P 500.

Mirae is now coming up with a fund that aims to outmaneuver Nasdaq 100 by investing in just the best 10 stocks (mostly by way of Market Cap / Opportunity size I assume). After all, if 100 is better than 500, surely 10 is better than 100 🙂

In India, we barely have any access to top edge technology firms. Most of the better ones in India are privately held and the big daddies who are listed are more of service oriented companies where you can get a steady return vs the lumpy nature of returns promised by the leading edge tech firms.

When I started on my Momentum, I tested for position sizes from 5 to 100 and time frame from daily to yearly. The idea was to check what would be the most optimal. Optimal doesn’t have to be the Best. I finally settled upon 30 Stocks and a monthly rollover. If I wanted to target the most profitable I would have probably gone for 20 stocks and a much lower frequency of rebalance.

The key reason I went for an optimal and not the best possible portfolio structure performance wise was because I was building the portfolio for myself and I wanted this to be my one and only portfolio. I was and even today happy to sacrifice some gains for the ability to deploy the majority of my networth in this strategy.

There has always been confusion as to how much of International Stocks should be part of one’s own portfolio. While Warren Bufftett has invested outside of the United States, it’s barely anything compared to his investments in America.

Bogle dismisses international diversification. Buffett, meanwhile, says an index fund portfolio of 90 percent S&P 500 and 10 percent Treasurys is probably good enough for most investors.

But their advice is for Investors of the United States. What about for Investors in countries such as India? Does it make sense to diversify your savings to investing outside of the home country (home country bias is a bias that is seen everywhere) or does it make sense to stick to what we know best.

For any investment to make sense, it has to be a significant part of one’s portfolio. An investor with an investible surplus of say a Crore of Rupees won’t be making any difference if he invests anything lower than 10 Lakhs. But a larger allocation comes with its own risks. While it’s been a long time since the Dot com bubble, do note that Nasdaq not just fell 78% from the peak but it took the Index (where the constituents keep changing over time) nearly 16 years to move past that high watermark.

For the S&P 500, the high of 2000 was tested as early as 2006 and finally broken in 2013. Max drawdown S&P saw was to the tune of 50%. While the Indian markets too got pummeled post the Dot Com crash, the Index recovered and broke the high of 2000 as early as late 2003.

The biggest advantage of International Investing is the currency hedge it offers. If you had invested in the Sensex at the peak of 2008, today you would be thinking you are sitting pretty. After all, Sensex has moved from 20,000 odd then to 50,000 odd a few weeks back.

But if you were an investor in the same Sensex but had invested using the US Dollar, your gains would have been just around 75 (absolute not CAGR for the entire period of Jan 2008 to April 2021).

For those of us who are in the developing nations, one way to ensure that our purchasing power is kept constant is to invest in asset classes that are denominated in the US Dollar. This is one reason why Gold has emerged as a way to save for its movements are not based on the demand supply in India but demand supply worldwide and one that is denominated in Dollar.

But should that mean you should go out and invest in a 10 Stock portfolio that comprises the hot names of today? While the stocks will change over time, the risk is two fold –

One: Most of these companies have grown way too big and while that brings stability in the business, it also means that the future returns will not be as attractive as the past.

Secondly big companies can get caught in Regulatory issues concerning market domination. Facebook and Google are facing that already in the United States while Alibaba has been made to pay for the missteps of its founder Jack Ma.

Technology will rule the next century, that is guaranteed. But the Winners and Losers will not be easily identifiable in hindsight and by the time a winner has been found, it may be too late to enter even though they may still provide market+ returns.

A small allocation will not move the needle and a large allocation will mean that you should be willing to bear a risk of deep drawdowns that will definitely be seen by products of this nature. If your time horizon is 20+ years and you have the ability to not panic when the chips are down, this could be an attractive investment, else it’s worth giving a pass. The Nasdaq 100 is still a much better bet if you wish to bet on technology firms.

Which is Better – DIY or Mutual Funds?

The last one year has been fantastic for literally everyone other than those who held too much Cash or were straight away bearish. Nifty went up nearly 60% in the last one year. 65% of stocks traded on the NSE did even better than that. Trend following systems had a splendid time as did Value or Growth factors. Only the quality factor trailed a bit but in the long term, they have performed much better than most other factors.

A good bull market brings a lot of hubris to those who were lucky to be part of the wave. From thinking about quitting one’s job and taking up trading / investing as full time to deciding to invest everything based on one’s own analysis, it’s easy to assume that we know better and it’s worth changing.

Bull markets like the one we saw in the last one year are kind of pretty rare. While we have been in a bull market from 2013 onwards, the first leg of the bull market is the one that really shores up the returns. The next couple of years while good are generally in no way comparable to the first.

In the last few days there has been a lot of hoopla around Index funds raising their expense ratios. This is because the expense ratio went up from 0.10% to 0.20%. I am if you are a regular reader of this blog and belong to the old school, the school that cost me 2.5% for purchasing a piddly stock, 0.20% to me is still way cheap given how impossibly tough it is for Individuals to actually replicate the same directly in the markets.

The other day I was talking to a prospective client and he mentioned that his weakness was his own behavior. While he felt that this was a negative and it indeed is, I felt that the positive was his ability to understand his own point of weakness. Very few actually are able to analyse their own Strength and Weakness let alone work on how to eliminate the weakness.

If you were to invest say a sum of 50 Lakhs into a PMS, over time you should expect to pay the fund manager approximately 2 to 3% of fee or 1 Lakh to 1.5 Lakhs per year. A mutual fund bought through a distributor would cost you similarly. A DIY on the other hand can be multiple times cheaper than this. Even after the fee hike, an Index fund will still cost you just around 10K per year which is more or less in line with most advisory fees.

If the returns are the same, it’s easy to wonder as to why people are willing to pay such a high fee when the same products are available at a fraction of the cost. Unlike a MF where your return is the same as others for the period you have invested or Unlike a PMS where your return will be in the same ball-park of returns generated by the fund manager across all clients, with DIY, there is no knowledge of whether even the advisor was able to reap the returns he showcases as having achieved.

I keep seeing stock advisors berating mutual fund returns vs their own returns and recommend that investors are better off with them vs Mutual Funds. The markets being as it is has helped sell that idea a lot. To me though, this is a very wrong advice for the single reason that the greatest reason for our inability to even garner a fund’s return is our behavioral gap and if that is the case with funds where our decision making is actually limited, how much of the gap shall one see in case of stock based portfolio’s is anyone’s guess.

Another frequent question I am asked by new clients is whether they should buy the stocks that are part of the portfolio but have moved up a lot since their induction into the portfolio. The question in itself is not wrong but betrays how we think when we are buying stocks. No one is immune to it, even I after seemingly having experienced and knowing my weakness still wonder many a time as to whether the stock which has now qualified to be part of the portfolio deserves to be part of the portfolio given how much it has already run up in recent times.

A mutual fund or a PMS doesn’t give much thought to such considerations even though the risk from the stock is the same at both places. In other words, for the fee you have paid, you are not just getting a list of stocks to execute but the ability to execute without your own behavior impeding future returns.

So, what is the key difference vs DIY, especially with respect to stocks?

In 2009, DSP Blackrock Smallcap Fund had fallen 75% from its peak. In other words, if the peak equity value was Rs.100, it was now just 25. If one’s portfolio had performed that way, it’s unlikely the investor would have ever recovered his money let alone come roaring back and this particular fund did. By the end of 2017 this fund was the best performing equity fund.

In March 2019, exactly 10 years from the bottom, the NAV was 54 (which itself was 28% lower from the peak it touched in early 2018 of 73) and the 10 year CAGR return came to 28.30%. Not bad for a fund I assume most advisors and investors would have written off in 2008/09.

While one of the key differences in returns between DIY or even a PMS and a Mutual Fund is the way profits are taxed, the biggest advantage of a Mutual Fund is that you are essentially passing off not just selection of securities but the execution to someone else.

Last March as the fear of Corona spread and the market panicked, my portfolio got crushed. Between the starting of the month to the deepest point of drawdown, I lost 32% of the value of my portfolio. From being in profit, I was suddenly starting at a loss of 22% of the total invested capital. Since I had started investing from May 2017, this meant that I was negative after continuously investing for nearly 3 years.

In hindsight what saved me I think was the reading of books which suggested that this too shall pass. If I was younger, I wonder if I could have kept my calm and carried out what the system suggested for when fear strikes the mind, the best systems are overridden.

One of the simplest ways to trade the market is using a simple trend following system. Buy Nifty when it’s above its 200 day EMA and sell when its below generates returns that are slightly lower than Nifty (no leverage) but with nearly half the maximum drawdown. Yet, very few can really practice this simple strategy for trend following asks you to buy after the index has gone up quite a bit from the lows while asking one to sell after it has fallen quite a bit from the highs. Both are tough from the behavioral point of view.

It’s for this reason that most investors try to time the market by trying to buy when it’s low and sell when it’s high. Given that other than in hindsight we never know when the final highs and lows are made, this generally results in massive underperformance.

Being a Technical Analyst for a very long time, I have always ridiculed the phrase “you cannot time the market”. While I agreed that you cannot time the market to perfection, I have always felt that timing the market does add value. But if you were to think about it from the behavior point of view, trying to time the market for most investors fall flat because their behavior obstructs them from doing the right things.

If you haven’t’ experienced a real bear market (March 2020 wasn’t one of them), I strongly believe that the majority of your exposure to markets should be via Mutual Funds (Large Cap Index Funds preferably) with a small minority (say max at 30%) devoted to do it yourself models if you are interested. No one gets a free ride in markets and we all pay the tuition fees to the market. Having a smaller segment of your portfolio in DIY ensures that the tuition fee is bearable and doesn’t create havoc with your long term goals.

Franklin, Archegos and the power of Narrative

Franklin Templeton has made more news in the last one year or so than the rest of the Mutual Fund industry combined. Then again, I cannot remember the last time such a high profile asset management company decided to shut down and lock out investors in one of the premier funds.

Even before they shut down the funds, I felt they broke the trust of the investors in the way they handled their exposure to Vodafone. (Breaking Trust – The Franklin Experience). In a way, I recognized the problem but decided not to act as I stuck with my investments in Franklin both on the debt side and equity. (our family’s first and a major investment for those days was with Kothari Pioneer Prima Plus Fund).

While the locking out decision was painful, it did not impact me for I have always believed in diversification when it comes to debt and the percentage of funds stuck with Franklin was something I could live with. For now, the decision hasn’t been proven to be wrong though we shall have a real answer once the fund has been closed.

The selection criteria for investing in mutual funds for me basically falls into two buckets. Invest based on past performance or invest based on philosophy. Regardless of the narratives that are sold around by advisors, most just depend on the past returns marrying then with the philosophy when it suits and divorcing them when it doesn’t.

For most fund houses, Philosophies don’t change based on market trends. This maybe a weakness when it comes to the fund house for very few investors want to stick when the returns are sub-par even if the reason for being sub-par is because of the divergence we see in terms of the market vs the philosophy, but as investors I think one should see that the fund house has a strong conviction from which it will not budge much.

The following statement is of Quantum Mutual Fund with respect to their philosophy

That is by following the tenets of Value Investing as a concept for the Quantum Long Term Equity Value Fund since its inception in 2006. Value Investing is defined as “An investment strategy where stocks are selected that trade for less than their intrinsic values. Value investors actively seek stocks they believe the market has undervalued

This from Mirae

The investment process at Mirae has strict investment guidelines ensuring that we contain portfolio risk within the specified levels. We are of belief that the company fundamentals are the primary factors of stock performance.

The difference is stark. Miare is more of a growth oriented fund house while Quantum seems to believe in Value. Both are worthwhile philosophies but when comparing funds, there is no point in comparing the returns of Mirae with that of Quantum. But who has the time for all that research and hence Value funds generally tend to lose out to growth oriented funds.

Interestingly I couldn’t find any such statement by Franklin. But when you have funds that try to cater to everyone, it’s not possible to have such a mission statement in the first place. On their US site, they showcase the breadth of their investment capabilities (Value, Deep Value, Core Value, Blend, GARP, Growth, Convertibles, Sector, Shariah, Smart Beta, Thematic) just on the equity front not to mention Debt and Alternatives to boot.

Franklin talks about Risk Management being one of its most important pillars when it comes to investing client funds but today we know that it ain’t true. But then should one even be surprised. It’s only when shit hits the fan does one realize that something wasn’t right all along.

Nifty Alpha 50 is a Momentum Index that tries to replicate the academic version of Momentum Investing. It’s top two weighted stocks are Tanla Platforms and Adani Green Energy which combined have a weight of nearly 13% in the Index. I have ignored both stocks when it comes to my Momentum Portfolio because of the intrinsic risk I feel exists in both these stocks. If I were to under-perform because of the omission, the question is – am I a good fund or a bad fund.

Most investors tend to barely look at the portfolios of the funds they hold and this means that funds can claim one thing while doing exactly the opposite. A value fund holding growth stocks for example would be an example of such inconsistency and one that makes it tough to analyze the fund in relation to its competition.

It’s for this reason and the fact that finally its returns that the investor is focussed on that we see advisors choosing the best fund of the season. Currently if your advisor is advising fund houses like Axis and PPFAS, you know which data point is driving his decision making.

A couple of days back after Bill Hwang basically blew through his fortune, the Chief Risk and Compliance Officer of Credit Suisse was forced out after the bank took an enormous loss. Here is an interesting thing – Morgan Stanley took an even bigger risk with but I am pretty sure their Chief Risk and Compliance Officer will get a hefty bonus this year.

The risk for all the major players were the same and yet when the final numbers were counted, Goldman and Morgan came out smelling good while Nomura and Credit Suisse sucked. But what if they too had been able to get out (dumping the stocks to their clients before shit hit the fan as Morgan did), would there be any controversy or even news? I doubt so.

What is interesting for me about the entire Franklin episode is the way narratives have been built as if they were the only bad guys around. That kind of statement can be only made if every asset manager is subject to a forensic audit and the results published. But as the case of Archegos shows, it’s not the risk that you take that can bring you down as much as not getting out in time.

This is not to say there is nothing wrong with the way Franklin has gone about its business, it has a lot of wrongs that need to be answered, but if you are getting swayed by the public frenzy of opinion makers, it’s important to step back and reanalyze.

NFO Review- UTI Momentum Index Fund

I don’t like writing reviews for New Fund Offers. Everyone claims to be doing something unique while all they are doing is the same old thing but offered in a new way. Once in a way, a fund comes that is truly different and worth looking deeper.

For those of us who are Momentum affindos, it’s been a long wait for a fund that will replicate a decent momentum strategy. In May 2018, SBI had filed with SEBI a red herring prospectus for launching of an ETF on Nifty Alpha 50 Index. Unfortunately it never saw the light of the day.

Nearly two years later, UTI has now decided that it will try and break into the market with the first Index fund based on Momentum. The difference though is that this is a fund that will be based upon the Nifty 200 Momentum 30 Index which has a comparatively lower amount of real time data versus Nifty Alpha 50.

Since 2005, Nifty 200 Momentum 30 seems to have a slightly higher edge compared to Nifty Alpha 50 and even if we were to assume some of it due to curve fitting, Nifty Alpha 50 has shown a decent performance.

Much of the literature on Momentum emphasizes on rebalancing at regular intervals. Most Do it yourself models for example use a Weekly rebalance (We use a Monthly rebalance) while international funds for most part use a quarterly rebalance.

Rebalance is a simple way to remove stocks which aren’t performing while adding stocks that are showing a better performance. In many ways, this is similar to Index changes we see where stocks are changed based on Market Capitalization changes.

But since Indexes are more broad based, they tend to generally under-perform Momentum strategies which are more nimble and more concentrated. Take a look at the chart below showcasing the difference in returns between Nifty 200 and Nifty 200 Momentum 30.

In recent times, there has been a talk of how much of the performance of Nifty 50 can be attributed to just 10 stocks. A tweet from the CEO of Edelweiss

A story of the NIFTY 40!

From #EdelweissInsights pic.twitter.com/hC6lw2lkHq
— Radhika Gupta (@iRadhikaGupta) August 1, 2019

Momentum funds generally try to place the bets more with the top 10 than spreading it across and hence the slight out-performance relatively speaking. Over time, this slight out-performance can add substantially to the returns thanks to the 8th wonder of the world 🙂

Is this a replacement for Do It Yourself Momentum?

The biggest advantage of investing in a strategy such as Momentum via a Mutual Fund is two fold. One, you don’t have to bother with the changes that need to be executed at regular intervals and second, the fact that Mutual Fund churn doesn’t have any tax impact. But the trade-off is lower returns.

For example, here is the comparison between the NAV of my investments and Nifty 200 Momentum 30

The difference is not because of any superiority of my strategy vs the one that will be followed by the fund but because of the Universe. As I wrote here, the key issue for those managing money based on Momentum comes down to Liquidity. This could be one reason the Index and the fund follow a 6 monthly schedule.

With just two rebalances per year, the cost of slippage and fees will be reduced tremendously and in a way enables the fund to have a low tracking error. Since mutual fund churns aren’t taxed, all gains are captured (vs doing it either directly or through a PMS / AIF).

Rolling Returns Comparison

If you are a passive Investor, you are generally sold the idea of buying Nifty 50 (and if the seller wants to show some additional diversification he shall include Nifty Next 50) ETF’s / Index funds. Thematic / Sector funds are a no go for they require Timing the Markets (Blasphemy).

When DSP came out with its Quant fund, I myself was a bit skeptical despite having been given all the data I wanted. The skepticism was also due to the slightly black box nature of the fund. No such issues are there when we are looking at UTI Momentum Fund. Not only is the selection criteria open, you can easily replicate the same yourself.

Fund Managers like to talk about Concentration vs Diversification and based on their beliefs suggesting either one of them. What they forget though is that for their clients, this is not the only fund he or she will own. If you own 4 focussed funds, is your portfolio focussed?

Having a lot of funds in itself is not bad. You will get market returns while also ensuring employment to a large number of folks. Why spend only 0.1% on an Index fund when you can get the same performance by spending 2.25% and spreading it over multiple mutual funds and PMS (if you are rich enough).

But if you are a real concentrated passive investor, nothing more than a simple Nifty 50 should do the trick for you. If you are such an investor, does it matter to invest into a fund like this is the question you should ask and based on the data I shall present below, my answer to that is Yes.

This doesn’t mean that you need to switch over 100% from Nifty 50, but over time I feel this can be a core fund that is comparatively similar in terms of risk to Nifty 50 while generating a small out-performance for the trouble.

3 Year Rolling Return Comparison

Data for Nifty 200 Momentum 30 starts from 2005 and hence we have 3 year rolling returns data since 2008. The Index beats Nifty 50 returns 86% of the time

5 Year Rolling Return Comparison

When we extend it to 5 years, the outperformance moves to 84% of the time.

7 Year Rolling Return Comparison

100% of the time in the past, the Index has delivered better returns than Nifty 50.

10 Year Rolling Return Comparison

No change here either as the Index seems to comfortably beat Nifty 50

A caveat you may keep in mind is that the Index has been constructed using historical data and has not much of any real time data. But with the number of touch points being low, as long as NSE has used survivor free database to create the Index, I have strong confidence that the probability of the returns doing way worse once it starts being tracked and invested in real time is very low.

To conclude, if you are not a DIY Momentum Investor, this fund is worth looking into. Removes the hassles of DIY though the trade off is lower returns. But on the upside, allocation can be higher thus reducing the disadvantage a bit.

Following the latest trends is a great way to #GrowWithTheFlow. Invest in the trending stocks with UTI Nifty200 Momentum 30 Index Fund which follows the momentum. Visit: https://t.co/shauk0c5Rg #UTIMutualFund #Nifty #IndexFunds #MutualFundsSahiHai #PassiveInvesting #Finance pic.twitter.com/uFU18XW6Qc
— UTI Mutual Fund (@utimutualfund) February 12, 2021

The Biryani Eater

Mutual Funds offer more options than those offered by Darshini Hotels. While the main course could be Large Cap, Large Cap and Mid Cap, Mid Cap and Small Cap, the number of side dishes that are available under various names would put to shame a Andhra Thali

From Sector Funds to Focus Funds to Thematic Funds to what not, the choices are overwhelming resulting for most investors losing their appetite just trying to get the best they can get.

A Multi Cap Fund was on the other hand a simple Thali where the Chef decided what should be added and what should not. This made things simple enough for the customer that they flocked to him at the cost of most others. Biryani from being the main course was now shuffled to a side course.

The Hotel Regulator though was not pleased. After all, how could Biryani, a course in itself become just a side dish. While a Biryani eater could have chosen a Biryani in the first place instead of a Thali, the Regulator has decided that if you come to the hotel and aren’t able to make an appropriate choice, you should be served Biryani to the extent of 25% of your meal regardless of whether Biryani is where the Chef has expertise or not.

Those who had Biryani all these years and stuck by the lack of demand by others though are very happy for there will be a new crowd of people who will now get Biryani and this should lift the spirits of Biryani which has seen its shine go down since 2018.

My own current meal I checked has 50% of its constituents being Biryani even though the Index I track has just 10%. This makes my meal superior given that now there will be a rush of Chefs trying to learn new tricks and what better than buying the Biryani I already own.

Chef’s are paid big money to ensure that they are able to please the customer. While Biryani was a favorite of earlier years, it is not now given the poor state of Rice that is available and even that in limited quantity. The question though is, should the chef worry about his clietle or worry about his Salary.

A month or so ago, a famous Chef decided that he will close his door to all new clients since there was only so much good rice that was available. Citing “capacity constraints”, he decided that only those who had already come in would continue to get the famous Biryani he prepared. Others need to wait till the next time he opened the doors

With his bulging stock of Biryani, I am sure he shall be happy that a rising tide lifts all existing Biryani already in the market and will make his clients even more happy. Even Biryani owners who have been stuck in quicksand and had been drowning slowly but surely over the last two years are happy and why not – finally they can say to their clients. Look, didn’t I tell you – Apna Time Ayega.

The question for those who don’t have as much Biryani as the regulator has ordered is simple. Should the hotel owner care for the taste and health of his clients or should care just about his income in which case, I am sure he will force-feed instant biryani to all those already present and unwilling to exit this hotel. Buying massive quantities of Biryani today will make some people happy, but in time, you should see a massive case of Indigestion as those who wish to get out find that there are no more buyers for their Biryani’s

All characters and events in this publication are fictitious and any resemblance to real persons, living or dead, is purely coincidental.

When Funds Run Riot – The DHFL Hungama

Multiple times in the past I have tweeted that one shouldn’t try to generate Alpha through Debt. Debt is for Capital Preservation, Equity is for Growth. Yet, when one is full time involved in finance, we understate our own limits.

Warren Buffett in the past has talked about Quotation Loss and Permanent Loss. If you invested in 2018 in a small or mid cap mutual fund, you may currently be finding yourself in hot waters with the NAV being lower than what you had purchased. But give it time and you should at some point of time make up for the loss and start gaining on your investment.

But, if you were invested in a stock, the probability of recovery is slimmer for the return is dependent on the company bouncing back from troubled times. Some do, majority don’t.

Tuesday was a market holiday and yet FinTwit was fully active thanks to the deep cuts seen by many funds. While it’s one thing to see Credit Risk funds get hit when companies they bet go down the drain, what was surprising but one that we now should have got used to was the number of Ultra Short Term and Low Duration funds that got hit.

What is interesting is how sharply things have deteriorated. At the end of January, DHFL was an AAA rated company. Just 4 months later, its gone to CARE D. In other words, the company has lost 13 notches – something that showcases how quick things can turn bad.

Here is the Chart of one such fund which has been affected by the Crisis – UTI Treasury Advantage Fund.

In August of 2018, just before shit hit the fan for DHFL, the scheme was managing a corpus of Rs. 11,630 Crores. By end of May 2019, this had dropped to Rs.4,554 as investors tuned to the portfolio and the risks preferred to exit the scheme than take a chance of DHFL paying off the interests and the Principals which is due in 2021.

Once shit hit the fan for DHFL and the company stopped disbursing any fresh housing loans and instead preferring to pay back its debt, its end was written for one and all to see. Bonds traded in the secondary market showed the panic as Yields shot up to 30%+.

If you were a Mutual Fund Manager with a large dosage of the company’s bonds, the problem here was that you had literally no buyers, especially given the size of investment you would have had in DHFL.

Smart Investors quitting the scheme though had to be paid back and this was paid back by selling other bonds and holdings which were good. The interesting thing is that DHFL as % of the AUM barely moved. It was 6.74% of NAV in August 2018 and 6.78% – this despite a 50%+ fall in AUM.

Yet, the NAV over the last two days have fallen by 11.20% over the last two days. This shows that either the weights have changed over the period for which we don’t have data or there have been some other funds that have gone bad either. I would imagine the former than the later.

UTI has now written down 100% of its exposure to DHFL – in other words, it doesn’t expect to be paid back. This is good accounting practise since the NAV is now more or less fair. What isn’t fair to existing investors and this is not just for UTI funds is that other than Tata AMC, no other fund house has closed the fund to new investors to allow for side pocketing.

What is Side Pocketing?

Side Pocketing is a term used to denote the practice when a mutual fund separates the bad paper from the rest of the portfolio while rest of the investment continue to remain in the fund.

You have a fund with, say, 5% of Zee promoter paper, and the NAV is 100. Zee promoter paper defaults. The fund decides to side-pocket. So your NAV will fall to 95 on the fund. You will get another fund with an NAV equivalent to the remaining 5. The second fund is the side pocket – you can’t buy or sell units, but you will get money as and when the fund recovers money.

What this does is ensure that the fund need not close the fund to eliminate risk of arbitrage seeking hot money flow while at the same time ensuing that those who were invested in the fund and suffered due to the impact of the bad paper have an ability to claw back any monies that could be available in the future. {Source: Capitalmind.in}

What now?

Mutual Funds for long attracted Corporate Investors who were able to generate a small return for funds that instead would have been idling in their current accounts. In recent years though, Retail has become a major player thanks to the huge push by way of #MutualSahiHai and the arbitrage created by the government thanks to the differential way it treats income from Debt via MF’s versus Fixed Deposits.

While we have seen big mishaps in the past, what is different this time around is the number of fund houses that have been affected. Almost every other fund house manager seemed to be on a path to maximize returns without regard to risks.

It’s easy today to lay the blame squarely at the Credit Rating Agencies, but that misses the point that you are paying a full time fund manager who is supposed to know what he is getting into. A 20% cut in an Equity Mutual Fund is something that can recover, a 10% cut in Debt funds on the other hand is literally non recoverable.

In my last post, I wrote that one should stay away from Fixed Maturity Plans – yes, the past has been beautiful, but we don’t know how the future will unfold. Now, I am coming to the clear conclusion that unless you are good at understanding companies, their financial situations, monitor mutual fund portfolio’s every month and so on, you are better off with funds that invest in short term government securities.

Long Term GSec funds carry their own set of Risks and hence not advisable to any one other than those who understand Interest Rate Cycles and are able to know when to get in and when to get out.

From my limited review of Mutual Funds, only Quantum Liquid Fund and PPFAS Liquid Fund make the cut in terms of having a portfolio with close to Zero Risk of default eating up not just your interest but also your principal as we have seen in multiple funds featured above.

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So, what is the key difference vs DIY, especially with respect to stocks?

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What is Side Pocketing?

What now?

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