Mutual Fund | Portfolio Yoga

Quantum Dynamic Bond Fund – NFO Review

Quantum Mutual Fund which is known for being the one and only fund house which started off and still continues to remain Direct Only has now come up with a new fund – Quantum Dynamic Bond Fund.

While most investors prefer the safety and comfort of Fixed Deposits, for investors who are in the highest tax bracket, Debt funds make more sense due to the way its taxed (Long Term, Indexed).

Debt mutual funds come in various categories – Arbitrage / Floating Rate Funds / Fixed Maturity Funds / Gilt Funds / Income Funds / Monthly Income Plans / Short Term Plans / Ultra Short Term Liquidity Plans among others. Now that’s quite a handful for any investor who wants to venture into debt funds.

Before we dive into the debt funds, specifically QDBF, lets see what a fixed deposit provides. A fixed deposit in a bank provides for a guaranteed interest of X% for the amount that is invested. Now, if you invest into a FD today at say 8.5% and a year down the lane, interest rate moves up or down by say 2%, the rate you get does not change one bit. While you shall be happy to have locked in at 8.5% if interest rate falls, if they rise, you may cringe about being locked in at a lower rate. Either way, you have a clear idea about what your end result will be.

Most Debt funds on the other hand are not instruments where they guarantee to provide you with X% returns or even Y% appreciation of capital over Z years.

The biggest risk of any mutual fund is the fact that the view of the fund manager can go horribly wrong. If he expects interest rates to go up, he may like to be invested in bonds with average maturity being as close as possible. On the other hand, if the fund manager believes that the interest rates will soften as we go by, he will try to lock in into bonds that offer him a high rate of interest for the longest possible time.

But like the stock markets, things can go wrong pretty easily. The best example of this was provided by Bond King, Bill Gross when he misjudged the timing and impact of the Federal Reserve’s plan to scale back its asset purchases in 2013, spurring the Pimco Total Return Fund’s biggest decline in almost two decades (Bloomberg)

Hence when one invests into a bond fund, one is betting on the prowess of the fund manager to get his view right and hence be able to provide returns better than what one can do on our own.

Dynamic Bond funds in India has been there for quite some time though most of the funds are pretty new. Only SBI Dynamic Bond Fund has a 5 year track record and hence if you were to try and compare the long term performance of other funds, you may not have much of a history to look into.

At the current juncture, the stock markets having rallied quite strongly is at a stage where it does not make sense to invest more than 50% of one’s funds as our Asset Allocator for May detailed. While this allocation shall change as markets move either higher or lower, unless we see a total crash in equities or companies showcase spectacular growth, its unlikely to cross 75% allocation to equities in the next 1 – 2 years.

Quantum Long Term Equity fund which is their biggest Equity fund has not been among the best funds due to the fact that unlike other funds, this fund did not dive into the Mid Caps and large caps haven’t quite generated the returns that Mid and Small cap stocks generated. To compound the mistake if one were to say, they also went into Cash (30% of portfolio) way too soon.

But now with the markets down 10% from the peaks, the fund has been one of the better performing funds compared to many other funds which have lost substantially. The only fund to better this fund has been the PPFAS fund which also had been a under-performer when the markets were rallying. In fact, my own Top 10 funds to invest does not feature both of them (List)

I believe Quantum Dynamic Bond fund too will be run pretty conservatively and hence while it may not be the top performing fund by returns, if you were to measure them in terms of being safer and less volatile, I believe that they may suit a investor who is prepared for the long haul and is not chasing short term performances.

Our Recommendation is a Buy with capital allocation of 10% of Portfolio if you are prepared to stay put with it for at the very least 5 years (as usual, more the better ).

SEBI Riskometer

Mint today reported that SEBI has ordered Mutual Funds to classify their schemes in five categories in terms of their risk levels – the risk being of Principal loss. (Link). Currently Mutual Funds follow a Color coding model based on 3 parameters – nature of scheme, investment objective and level of risk, denoted by 3 different colours.

The new scheme while on the face of it seems to have evoked humor among twitter friends, I believe that while the intention of SEBI is good, like in many cases, this is only the first step with a lot more ground to cover if it really wants to see higher participation in mutual funds by the investing public.

While Mutual funds do not carry as much of a risk as direct investment in equities, there is still a risk of capital loss on the short to medium term and that risk has meant that investors prefer to invest their savings in other asset classes like Gold and Land other than the good old fixed deposit.

Also, when we look at returns from Mutual funds, we tend to ignore the fact that the funds we are seeing are the survivors (Survivor Bias). For some one who invested in say CRB Mutual Funds, the investment was as good as lost and it was only after 20 years they saw closure and the return of a part of their capital that was invested.

Its interesting that just yesterday we launched our own Risk-o-meter by way of analysing how much of one’s savings should be devoted to Equity and how much to debt. (Link). Risk of capital loss exists all the time though it differs from time to time.

A fund that is low risk is very much likely to have a very small allocation to equities while one with exposure to markets will need to be categorised as high risk. All the in-between in a way have no meaning since even balanced funds can take quite a hit when markets tumble as they did in 2008.

Our Asset Allocation model on the other hand is dynamic with monthly resets which ensure that when the markets are at what we consider as the peak, the exposure to markets is lowest and vice-versa. A static model on the other hand and is bound to fail since it looks at risk as one-dimensional (Equities = Risk, Bonds = Safe).

Having said that, if we are unable to educate the investors about the basic concepts of markets and money, no amount of color coding or charts will make him change his mind as to what asset class he prefers investing into.

Cost of laziness

We all know that laziness can be expensive in any area of life, be it health or finance or family but that never seems to deter us from committing one sin after the other.

The other day, I was surprised to learn that a online firm that enables investment into mutual funds had crossed a major landmark in terms of investment routed through them.

Now, the money they gain comes at the cost of the investors who have invested through that person and the total amount which is a few crores of rupees is no small sum either, especially since as long as the investors have their investment in those funds, the trailing commission will keep accruing to the agent concerned.

But since the money is not taken out directly – in terms of asking you pay separately, this is generally missed out as non consequential though if you are a real long term investor, the difference at the end of the period can be a very substantial number.

Just like most stock brokers have no clue as to what is the best stock to buy, so is the arena of fund advisory. But since when faced with the deluge of options, our mind wants the security that is generated by having some one advise us, we fall prey to advisory agents who at the end of the day may be no better than what we are.

A financial planner is supposed to work for you for a fee but since we Indians want everything free, he makes it seem as if the whole service is free while actually taking more money than what you would actually be charged if done as a service the way a stock broker charges you a commission while enabling you to buy / sell your shares.

In the years gone by, Stock Brokers used to charge an arm and a leg to let you enter the arena but with development of technology, it now costs less to make a trade worth a few crores than a Coffee at a nearby cafe.

The same technology can be used by Individuals sitting at home to invest directly into mutual funds and hence saving the money that would go to the distributor. Remember the adage, “a rupee saved is a rupee earned”. Hence our belief – Go DIRECT

We, at Portfolio Yoga are hoping to shake up things a bit by enabling you to make the right choice without having to spend a Rupee.

“Good things come to those who wait” and we hope to provide in the coming days and months, tools and information that can that make you a better investor – both in the arena of Mutual Funds as well in selecting the right portfolio if you are a believer in Direct Investments.

A couple of links on what you are losing out by not choosing the Direct way of Investment

Invest Mutual

CapitalMind

Following is a chart I had tweeted on the difference in percentage terms between the HDFC Top 200 Direct Scheme and the Regular.

As you can see, the longer you continue in a regular scheme, the larger is the loss that you accrue. So, why wait?

“A life spent making mistakes is not only more honorable but more useful than a life spent doing nothing.” – George Bernard Shaw

Timing Mutual Fund Investments

In today’s edition of DNA, Ritesh Jain, CIO of TATA Asset Management Ltd makes a case for investing in Mutual funds since returns from Real Estate going forward are going to be impacted owing to both a excess of supply and changes in government rules with regard to black money (Link). In a way, we agree with his view that forward returns from Real Estate may not be as interesting as it had been in the years gone by (specifically between 2005 – 2010).

But that does mean that investing in Mutual funds at any point of time is the best way forward. While we strongly believe that for most investors who cannot afford time and investment to analyze the markets on their own, the best path is by way of Mutual funds, there still lies the fact that even Mutual funds have big risks.

To buttress my case, lets look at one of the top Equity funds of Tata Mutual Funds – Tata Pure Equity Fund – Growth.

The scheme has been a steady compounder with CAGR returns sinec inception coming in at 20.19%. But that return has not come without some significant volatility. The fund has twice in the last 15 years seen a draw-down that exceeded 50%.

To give you a better picture, assume you invested into the fund in early March 2000 based on the exuberant markets you had heard about and how rather than risk in direct equity, Mutual funds were a better tool. Well, the next time you saw the fund NAV return back to your purchase price was in December 2003.

While I may have chosen the most extreme example, my point is that while Mutual funds are good investments, even there timing matters a lot. Invest in a wrong time (such as the early 2000 or late 2007), and no fund manager can provide you the cushion you so desperately wish.

As I wrote in an earlier post, some of the best performing funds saw big draw-downs in 2008 / 09 and in a way unless one really slept off during the period, the pain of the losses (even though they would be Notional) is too hard to ignore.

Building for Rent

Recently I was at a housewarming ceremony of a friend of mine. The said friend of mine had been holding the plot for sometime now and decided that the best way forward was to build a few houses and let it out for rent. This he said gave him the best possible return for his money compared to investing in a fixed deposit or stocks with his assets providing him a regular income which keeps raising year on year.

While in theory, that sounded perfectly fine, I wondered (as I do when people make statements with too many assumptions and without any data to back them up) as to whether that is really true.

The cost of construction came to 7 Million and the friend of mine was anticipating a rent of around 40,000 per month which comes to a rental yield of around 6.85% (pre-tax) on his investment excluding the amount that was spent on acquiring the said site. This seems like a very good number indeed, but how would this compare to investing the same amount of money in the market.

While I come across persons who are happy to invest big money onto properties at one go (after all, you cannot acquire a plot by way of Investing Systematically month on month, can you ), when it comes to the market, they find themselves scared enough to risk only a small amount, something even if invested in a very good stock can become meaningless over time.

While its true that risk in markets are high, the same is the case for any other investment save for investing in a fixed deposit. But then again, with fixed deposits not even beating inflation, its not exactly a wealth generator, especially for the younger generation who are and should take more risks in an attempt to build a better nest egg.

First off, here is the matrix of Capital growth using only Rent (which rises 5% year on year). Tax has been assumed to be 15% . While there will be other costs (Taxes, Repairs, Broker Fee, etc), all those have been excluded to make the assumptions simple. Also I have added Interest (on previous years Rent + Accured) at 6% p.a All in all, the end amount is the minimum (not the maximum) one will definitely be able to save / gain from the house.

Our final number comes to a impressive 12.20 Million at the end of 15 years. Definitely not a number to be scoffed at though if we were to apply a higher tax percentage, it can drop quite a bit. If tax percentage is 25%, the final number comes to just above the 10 Million mark.

Now, lets move to the other way of investing those funds – the stock market.

Theoretically there are two ways – One invest in a few bluechip stocks and hold on to them or to invest in a set of mutual funds and hope they either meet or beat the market indices. And then there is the third way, investing into a Exchange traded fund that tracks the Primary Index – in our case Nifty or the Sensex.

Direct investing in stocks can be pretty risky or a pretty awesome move with the final result being dependent on what we bought in the first place. Blue chip companies of the 1970 & 1980’s are not the blue chip companies of today (though a few do remain). Also, its generally scary to plough all the life savings into a few stocks and hope they shall click, and click big.

While its more simple in the world of Mutual funds, even there the risk remains that the fund you chose may actually turn out to be a bad choice. In 1996, you could have invested in funds like Kothari Templeton Prima / Prima Plus as also invested into funds like CRB Mutual Fund. Its only in hindsight that we know which fund delivered and which did not.

While its true that some mutual funds have delivered better results than the Sensex, I doubt if any one can tell the fund that shall BEAT market returns over the next 15 years. The easier option is to just invest into the ETF’s that track the Index and hope that the India growth story shall ensure that we garner a substantial return over time.

If I was looking at a investment period of 15 years (same as the Rent accumulation), what would be the returns provided by the ETF?

To get a answer, lets look at the historical CAGR returns that Sensex has generated over the last 15 years.

The average CAGR return over 15 years has been 14.52% with a maximum of 21.43% and a minimum of 7.31% (the 7.31% being the returns one would have got if one got in Dec 1993 and exited in Dec 2008.

If we were to assume, a CAGR growth of 12%, what would our investment today of 7 Million look like 15 years from now?

If 12 Million was awesome, how about 38 Million

But, there is a caveat you would say. While it cost 7 Million to build a house today, it would cost a lot more after 15 years and that is a true question indeed. Hence lets look at what would be the cost of construction assuming that construction prices keep moving higher. Assuming that construction costs move by around 6% per Annum, here is the table on what it may cost 15 years from now

A house that costs 7 Million to construct may cost 16 Million 15 years from now. But even accounting for that, the gap between the returns of the Sensex and Rental Income comes to around 28 Million, definitely not small change.

While one may argue that market returns are not smooth, one also needs to understand the various hassles that come with renting a property. And the above returns assume that one had the property for rent for the whole 15 years. What if one did not find a suitable tenant for a few years? How much of a impact it will have on final returns?

While FAR ratio in Indian Cities are pretty low, its bound to go up in the future. Mumbai is already working on a plan where FAR ratio may be anywhere between 0.5 to 8. The FAR ratio for properties around Metro is being increased in cities such as Bangalore and Pune and this additional supply can and would lead to softening of rental returns as we move into the suburbs.

While there can be no Apples to Apples comparison, above analysis does seem to suggest that building a house to rent it out is not exactly the best way to create wealth for ourselves and our future generation.

Analyzing a few Mutual Funds

Mutual funds are one of the ideal vehicles to invest in the markets. But with a plethora of funds, its tough to identify what fund to go with. Should one invest in the top rated (by rating agencies such as ICRA) or should one invest in funds managed by star managers.

Among the large cap funds, HDFC Top 200 fund rules the roost. With Asset under Management of 14,285 Crores, its one of the biggest (if not the biggest) funds that you can find in India. Launched in 1996, the fund has a very impressive track record with compounded growth of 22.37% since launch. The expense ratio for the fund is 2.33% for the regular plan and 1.65% for the Direct plan.

Two funds that have a similar history (in terms of being launched around the same time) come from the Templeon stable.

First off was the Kothari Templeton Prima Fund (as it was called in those days). Launched in 1993, it has been one of the top performing funds with it having a return since launch of 21.80%. But despite such stellar returns, its Asset under Management is just around 3400 Crores. Expense ratio for the fund is 2.32% for the regular plan and 1.14% for the Direct (among the lowest you shall come across).

A year later, the fund house launched another fund – Kothari Templeton Prima Plus. The return for this fund since launch is 20.36% which while lower compared to the above two funds, is still way above many other funds with similar length of operation. For example, State Bank of India launched its SBI Global 94 fund in the same period and the return for that fund since launch has been just 16.08%

To close off, we shall analyze another fund that started off as the first Direct only plan and remains Direct only till date. It has one of the lowest expense ratio’s of 1.25% on assets. While the performance as we shall see has been better than HDFC Top 200 fund, its Assets under Management is a partly 416 Crores. The fund started off only in 2006 and hence the data history is limited compared to that of HDFC Top 200

To make it even, I shall analyze the funds starting from 1st April 2006 to make all of them comparable as well as to provide a better understanding of the risks one saw when the markets dipped in 2008.

First off, a comparison chart of the above funds.

(click on the above chart to get the full picture)

As can be seen, all the funds have beaten the benchmark (Nifty Total Return Index) by a pretty significant margin. In a way, this points out the advantage of actually investing in a fund versus investing in a ETF that tracks the benchmark index. Then again, since all these funds have investments in Mid and Small Cap firms), the logic of using Nifty as a benchmark in itself maybe faulty. But since we do not have the data (Total Return Index of CNX 500), we cannot but compare with what we have got.

While its clear that the funds have performed way better than the benchmark, what a investor should look at is how they performed when markets literally fell through in 2008 / 09. Since Mutual funds need to hold a minimum of 70% of their assets in stocks, when markets crash, they too unfailingly start falling though depending on how good the allocation of the fund manager is, some funds maybe better off than others.

For instance, right now, Quantum Long Term Equity Fund has its max level of cash (nearly 30%). In the event markets crash, this amount cash not only means a lower draw-down but also the fund manager is not compelled to sell stocks at their lows due to investor withdrawals.

While CNX Nifty touched its low in late October of 2008, we shall take the low of March 2009 (right before markets took off) to see how much the funds lost compared to the Index.

In the chart above, what you see is that when markets made their final bottom in 2009, it was performing much better than the Templeton twins. A near 70% draw-down in Prima Plus seems to suggest that while funds perform brilliantly in bull markets, thanks to moves in mid and small cap stocks, when one hits a bear market, its those very stocks that drag the performance to hell.

With markets being strongly bullish, investors are once again rushing to invest into mutual funds. A quote from a recent article in Mint shows how bullish Indians have become in the just concluded financial year compared to 2008

Mutual funds (MFs) invested a record Rs.38,627 crore in Indian stocks in the year to 31 March—more than double the previous highest in the year ended March 2008

Even investments into Portfolio Management Schemes has shot up substantially, but as the above data shows, the question that should be asked is, are investors prepared to wait it out in case things do not turn out as anticipated. After all, markets are not a one way street to riches but a way to channel earnings for a better return in the long term than one that can be achieved elsewhere.

Investing by just looking at performance can be risky if such performance was delivered by taking higher risks. One needs to understand that while there is always a give and take relationship, when the shit hits the fan, all kinds of logical thinking are quickly thrown out of the window with investors keen to get out at any rate possible regardless of the fact that cycles are common and one never knows when this will end and the next begins.

Share this:

Share this:

Share this:

Share this:

Share this:

Share this: