Investors today are spoilt for choice. A plethora of investment vehicles and opportunities are out there to suit every kind of investor and meet his/her financial goals. Consequently, discerning people are not impressed by cookie-cutter solutions. What sophisticated investors with a higher net worth demand is customised solutions that will meet specific risk/return requirements.
It could be the reason why commitments to portfolio management services (PMS) have seen a surge over the past two years. PMS is provided by professional money managers to knowledgeable investors and can be tailored to meet specific investment objectives. PMS providers invest directly in securities through focussed portfolios. Unlike mutual funds, here the investors' assets are not pooled into one large fund. Instead, each account is kept separate and operated according to client mandate. However, depending on the mandate, the securities picked for investment could be similar. As these are individual portfolios, one's returns do not necessarily get impacted by the cash flow from other investors.
Over the past decade, PMS has evolved to become one of the top investment tools in the Indian capital markets. According to a February 2018 bulletin by the Securities and Exchange Board of India (SEBI), the country's capital markets regulator, total assets under management (AUM) of the PMS industry witnessed an annual growth of 22 per cent to `14,49,328 crore from `11,89,243 crore in the year-ago period. In February this year, the AUM under discretionary portfolios was 79 per cent of the total AUM, followed by advisory PMS at 15 per cent and non-discretionary PMS at 6 per cent.
Under discretionary services, an investment manager takes all decisions although these must be in sync with the client's goals. In non-discretionary PMS, clients, mostly high-net-worth institutional entities, are actively involved in the decision-making process. Advisory services are those where managers only advise their clients but do not decide on investments or carry out transactions.
Portfolio Management: Pros and Cons
PMS is all about investment management and funds administration to create wealth for clients. In general, portfolio management services offer a more flexible investment regime than mutual funds and can potentially generate better risk-adjusted returns. This is primarily due to the relatively smaller size of the portfolios which allows fund managers to be more agile and create a more concentrated portfolio by focussing on a few stocks about which they have in-depth knowledge. This kind of high-conviction investment often gets better results. Each PMS portfolio holds around 15-25 stocks, but there could be some portfolios that may contain only five stocks or so. If the stock selection is made skilfully, the concentrated position in a few stocks can deliver a strong performance, especially in a bull market.
Chintan Modi, Executive Vice President of Mumbai-based financial services firm India Infoline, favours this approach. "Alpha (a measure of performance) comes because the portfolio size is small and the portfolios are not excessively diversified. However, the key factor behind higher returns is the ability to create concentrated positions in high-conviction stocks." On the flipside, a less-diversified portfolio can have a higher element of risk.
Rakshit Ranjan, Fund Manager of Coffee Can PMS at Mumbai-headquartered Ambit Capital, does not think concentration always translates to higher risk. "Patience can bring down the risk in any investment. It is not wise to paint all concentrated portfolios with the same brush. A long-term holding period can be helpful in mitigating portfolio risk. And it applies to PMS investments as well." Moreover, Index put options protect the portfolio from downside risk as buyers get the right to sell at a predetermined price. By creating positions in an index put option, PMS managers can hedge the portfolio from downside risk.
PMS fund managers are also in a better position to capitalise on market opportunities due to relatively higher flexibility regarding stock selection. Additionally, the small size lowers the impact cost on entry and exit (a specific PMS scheme has 20-25 investors, each putting in `75 lakh-1 crore on an average, which makes the AUM significantly lower than an MF scheme).
Another advantage of this investment tool is transparency as investors can easily monitor portfolio activity. Stocks are bought and sold in individual investors' names and held in their demat accounts, which means they will be aware of all activities in real time. Also, PMS providers cater to fewer clients and investors can directly interact with fund managers if the need arises. SEBI has also prescribed a stringent performance disclosure format.Look Before You Leap
As discussed before, portfolio management services are best suited for an informed investor who understands the equity market and is willing to play a more involved role. That could be an onerous task for many, but there are other pitfalls as well. According to SEBI guidelines, only those registered with the capital markets regulator for providing PMS can offer the said services. SEBI has also fixed the minimum threshold at `25 lakh (some fund managers may insist on a higher amount), thus precluding the average retail investors from this investment vehicle. Portfolio management services are offered by banks, brokerages, asset management companies and independent investment managers. But with the benefit of choices comes the responsibility of effective decision-making.
According to Ranjan of Coffee Can PMS, "Ideally, PMS should be very philosophy-oriented. While evaluating a PMS provider, an investor should understand the fund's philosophy and make an informed decision. Investors should ideally do in-depth due diligence."
Clients should also determine the kind of exposure they want when it comes to small and mid-cap stocks. Not all PMS portfolios are small and mid-cap oriented, but a majority of them have investments in these segments primarily because the PMS structure allows fund managers to capitalise on these opportunities. Additionally, small and mid-cap investing is difficult to execute on a large scale, in the way mutual funds operate. As an investor, you should pay close attention to portfolio uncertainty when you opt for small and mid-cap stocks.
One should be extremely careful when choosing a fund manager. "Choose a good fund house and a fund manager with a good track record for at least three-four years. Evaluate the size of the PMS, management and fund manager style. Invest money through a fund manager who has the ability to outperform," says Modi of India Infoline.
Fees And Taxes
As of now, there are no standard fees and these are usually negotiated between the investor and the portfolio manager. While the fee structure may vary, most portfolio managers ask for a combination of fixed management fee and profit-sharing after a pre-determined threshold is reached. The fixed management fee is 2-2.5 per cent of the scheme's AUM. Incomes from these investments can either be taxed under Profit from Gains of Business and Profession or treated as income from capital gains.
Finally, investors should be cautious about portfolio allocation and opt for investments that are capable of meeting their financial goals while staying true to their risk/return objectives.
The writer is a Mumbai-based freelance journalist
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