Kya Mutual Funds Sachme “Sahi he”

While AMFIs star studded cast for its ad campaigns have storified the Mutual fund sahi he story, the data on returns over the last 10 years paint a different picture.

Much before COVID 19 could put a dent on your portfolios, it’s very likely that Mutual Funds have been doing so for the last few years. Statistics show that roughly 82% of the Large-cap Mfs have underperformed the benchmark in the last 5 years. An average of 60% of actively managed MFs has underperformed the benchmark in the last 10 years.

A major reason for underperformance; The polarisation in Corporate India  – In the last 10 years, there has been a massive polarisation when it comes to corporate profits. As of today, just 20 Indian firms now generate 80% of the total corporate profits. Nowhere in the world has there been such systematic destruction of SMEs that has taken place in India over the last 10 years.

This obviously gets reflected in the stock prices too. Only a handful of firms have been driving the rally in the markets. As of today, without RIL the market would have been at 10,200. Exclude 15 more stocks, the Nifty would be at 9500. This is the kind of polarisation that is painting a false figure about the overall market. Since most actively managed mutual funds have a mandate to have 80 – 100 stocks in their portfolio vis a vis the market where only a handful of stocks have fired, they have consistently been underperforming the Index.

• Nominal GDP growth –  Stock returns usually mirror GDP growth rates in the longer term. The nominal GDP growth rate of the country is sub 11% – which means that the average corporate profit growth has to be about the same. In this case, how can mutual funds, whose underlying consist of these companies, outperform the benchmark?. Sure some outliers do exist but the majority of the actively managed funds have not performed.

• Lack of periodic rebalancing – “Buy and sit” strategy is a thing of the past. If the last few months have taught us anything, it is that markets are very dynamic and the status quo can change in a matter of days. Numerous studies have shown that periodic rebalancing of MF portfolios in a systematic way can produce sustainable alpha.

For example, an avid watcher of financial markets will have the foresight to invest in Gilt funds a few years ago as a decline in interest rates was a global phenomenon and had started in India too. They have delivered 18% CAGR over the last few years.

Allocations like these can completely change your portfolio performance. Robo Advisor is the future – This has been a massive trend in the United States and we expect it to play out in India too. Intelligent Machine Learning led algorithms to pick, remove, and rebalance portfolios consistently to generate more alpha for the consumers. Several papers show that Algorithms have a definite edge over humans in a lot of aspects when it comes to stock selection.

What to expect?

India historically has been a bottom-up stock picking nation – where individual stocks and concentrated portfolios have vastly outperformed the index and Mutual funds. If you do not wish to give time for the necessary research required, its best to either Invest your money through a financial advisor or a Robo Advisor(several startups in this regard have sprung up in India).

MF underperformance is most likely here to stay in the near term. A concentrated portfolio or a PMS model would be a better way to play out the Indian market.