Mutual funds have been the best option for retail investors over the last decade.
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Top wealth creating mutual funds over the last decade

As Money Today celebrates its 10th anniversary, let's take a look at the top wealth creating funds over the last decade.

 Jinsy Mathew   

India's mutual fund industry has been around for over 20 years. Still, not even 2 per cent of the population has a mutual fund folio. Traditional investments that offer fixed returns continue to hold sway.

However, there appears a glimmer of hope if one looks at the way domestic institutional investors, or DIIs, have reacted to the recent correction in stock markets. The fact that they were net buyers when foreign institutional investors, or FIIs, sold shares marks a major shift in the way equities are being viewed in India. Till a few years ago, it was common for retail investors to buy when markets peaked. But now, mutual fund investors do not fear market corrections.
 
It was at the start of the millennium that the asset management industry leveraged the sharp rise in markets after the initial public offer, or IPO, boom of early 90s to launch a slew of schemes. The regulatory bodies also kept pace with the fast-evolving market, helping mutual funds to slowly and steadily make inroads into investors' financial plans.
 
Since then, the industry has come a long way. In the last 10 years, it has gone through a lot of big changes, many triggered by regulatory developments. In between, we saw the impact of the Lehman Brothers crisis that shook global financial markets. During this lean period, most fund houses reconstructed their business models, moving towards increased efficiency and customer satisfaction. The results of these efforts are visible in numbers.
 
Assets under management (AUM) of the industry increased from Rs 1.4 trillion in 2004 to Rs 13.16 trillion in July-September 2015. Although the numbers look impressive, Nilesh Shah, Managing Director of Kotak Mahindra Asset Management, feels it is not enough. "Even though the mutual fund industry has grown well over the years, yet, we have barely scratched the surface. We have to reach out to the potential investors, who are multiple times our existing investors.

As Money Today celebrates its 10th anniversary, let's take a look at the top wealth creating funds over the last decade. But before we do so, it will be prudent to see how the mutual fund landscape has changed over the years.
 
The Journey Thus Far

The last decade saw several changes, mainly regulatory. The steps taken aimed at making mutual funds simple, investor-friendly and a not-so-expensive product through which retail investors could take exposure to equity markets.

The Securities and Exchanges Board of India, or Sebi, the regulatory body for mutual funds, has been keeping a hawk eye on mutual fund products since the time misconduct by the CRB group came to light. The aftermath saw a sea-change in regulations.

For the first time, Sebi took note of the production end of the industry and brought in stringent disclosure norms, set higher governance standards for asset management companies, or AMCs, and pushed for transparency on the AUM front. Because of these changes, mutual funds are now one of the most transparent financial instruments available to retail investors.

However, there is no denying that each change came with its share of pains. Saravana Kumar, CIO of LIC Nomura Mutual Fund, while taking about the bumpy ride of the industry, expresses the situation well. "Well-defined rules and regulations form the bedrock of any world-class industry. However, the fast-paced changes in the financial industry have introduced new challenges for the industry and regulators. Adjusting to these developments is both an opportunity and a challenge for us (the mutual fund industry).

Some of the most sweeping changes over the last one decade are discussed below.
 
Ban on Entry Load: Till July 31, 2009, investors had to pay an entry load of 2.25 per cent while investing in a mutual fund. This amount was maintained in a separate account by AMCs and could be used to meet selling and distribution expenses. However, Sebi, through a circular, banned the charge from August 1, 2009. Even though the move was seen as investor-friendly, there was hardly any immediate impact in the market. AMCs, as can be expected, decried the order.

Since then, there has been talk about bringing back the fee in one form or the other with industry players reaching out to finance ministry officials.
 


Nod for higher expense ratio: Sebi allowed AMCs to charge an additional 30 basis points (bps) expense ratio if they are able to get more than 30 per cent AUM from areas other than the top 15 cities. This step was taken as nearly 85 per cent of the mutual fund market was accounted for by top 15 cities alone. The aim was to push the product in Tier-III cities as well.

Removal on internal limits in expense ratio: When an AMC charged up to 2.25 per cent (under the expense ratio head), it had to earmark 1.25 per cent as fund management charge and 0.5 per cent as distribution cost. Later, AMCs were given the freedom to allocate these funds the way they want to. One of the biggest beneficiaries were distributors as fund houses got the leeway to pay them a higher fee to push a particular product.
 
Provision for direct plans with lower expense ratio: In a directive to AMCs, Sebi notified that all mutual fund schemes should have two options — regular and direct. The direct plan was for investors who wished to directly approach the fund house or the AMC rather than opting for an intermediary like an agent or a distributor. The expense ratio of direct plans is lower than that of regular plans as no commission is paid to the distributor.
 
Investors to pay service charge: Earlier, mutual funds used to bear the burden of service charge. But now, this charge is passed on to investors. With this, the AMC is allowed to charge up to 12.36 per cent as service tax. In one swift move, expenses for investors have risen by 100 bps.
 
Clear distinction between advisors & distributors: When a person invests in a mutual fund, the distributor who also acts as an advisor will have to classify the transaction either as “advisory  or “execution only . The concept paper on investment adviser guidelines floated by Sebi specifies that a financial advisor is a person who advises for a fee. Such a person has to register with Sebi and will not get any commission from the mutual fund company. On the other hand, a person who provides support for processing of the transaction is classified as a distributor.
 
Product labelling & colour coding: In order to check mis-selling, a system of product labelling has been put in place. The intent is to provide investors an easy understanding of the kind of product/scheme they are investing in. Now, all the schemes come with a label and a colour code box.

The details in the label include the nature of the scheme, that is, whether it is a wealth creator or provides regular income. A one-line investment objective is also provided.
Kumar of LIC Nomura believes that colour coding and product labelling have made a big difference, though they are not sufficient. Investors need to be explained in detail the risk-reward equation too.

The aim of colour coding is to inform investors about the level of risk associated with the particular scheme.

Blue- Principal at low risk.
Yellow- principal at medium risk.
Brown-principal at high risk

Feeding exit load into the scheme: AMCs used to charge an exit load whenever an investor exited a scheme before one year. The money raised was maintained in a separate account and took care of distribution and marketing charges. But Sebi, to compensate AMCs for losses due to investor exits, has allowed the entire exit load money to be credited back to the scheme account. At the same time, an equal amount (maximum 20 basis points) is to be included in the expense ratio.

Distributor Regulation & Disclosures: Fund houses were asked to make public the annual commission paid to distributors. At the same time, distributors were expected to disclose all the commissions- upfront, trail or any other - for different competing schemes of various mutual funds.

Transaction charges introduced: The move to introduce transaction fee was seen as re-introduction of entry load. However, there was a significant difference. This time the fee was fixed. A flat charge of Rs 100 has been fixed for existing customers while Rs 150 is chargeable from first-time investors. Here, agents have the option of forgoing the fee.

Advertising Rules: Sebi simplified regulations for advertisements. The only line required to be shown in advertisements is now limited to 'Mutual fund investments are subject to market risks. Please read the offer document carefully.' According to the regulator, the ad should be “accurate, true, clear, complete, unambiguous and concise and should not contain any statement which are biased or deceptive, based on assumption/projections and testimonials.  Sebi also banned use of celebrities to promote mutual funds. Instead of showing returns in a percentage format, the ads now have to show how much an investment of Rs 1,000 has grown into, say, in three years.


FMPs barred from indicating returns: Sebi also barred fund houses from indicating probable returns on fixed maturity plans or FMPs. However, it later allowed companies to disclose the sector preference and rough allocation to the various instruments. For a shrewd advisor, this is enough to calculate the likely returns that can be generated.
Know-Your-Distributor (KYD) norms: In a move to keep out non-serious agents, Sebi also tightened distributor registration norms. Previously, it was mandatory to clear an AMFI examination and pay a registration fee.

Now, the distributor has to go through a stringent verification process that will take into account his past record in order to minimise mis-selling.
Against this backdrop, Value Research Mutual Fund Ranking takes a close look at the performance of funds under different categories over the last decade. The aim is to see if the oft-heard line — the longer your tenure of the investment, the better are the returns — is true.

For analysis, the schemes have been divided into three categories- equity funds (that invest only in shares), hybrid funds (mix of debt & equity) and debt funds (fixed income securities).

Reaching for the stars
 
The BSE Sensex and the NSE Nifty have risen 12 per cent a year over the last 10 years. All top 10 funds across categories have managed to beat their respective benchmark indices by a wide margin. The alpha generated, too, has been notable in several schemes. Alpha is the value a portfolio manager adds above the relevant index's risk-reward profile.
 
Data for the last one decade shows in clear terms that equity/balanced funds can help you accumulate large wealth. The only caveat being that one has to patiently give time to the money to grow.

Swati Kulkarni, Executive Vice President and Fund Manager, Equities, UTI AMC says, “It may difficult to beat the market in the short run but outperformance in the long term is almost a given in India for actively-managed funds.

When it comes to the debt market, a lot of action has been happening over the last five years. April 2010 was the time when the Reserve Bank of India's then Governor, Duvvuri barao, started increasing the repo rate. Between April 2010 and March 2011, the rate rose from 4.75 per cent to 6.75 per cent. That's why we have limited the debt market analysis to five years.

Industry challenges

When it comes to mutual funds, the challenges are quiet a handful and complicated. Here, we discuss the most important ones.

Lack of Awareness: Investor awareness continues to remain the top challenge for the industry. In order to address this, Sebi and other industry players have been organising a lot of investor awareness camps over the past several years. “Even though the level of awareness in metro cities has improved, thanks to the initiatives by mutual funds, Tier-II and Tier-III cities need extra push,  says Kulkarni.

Kotak's Nilesh Shah chooses to address the other side of the coin. "Our biggest challenge remains winning the trust and confidence of our clients and reaching out to them in the most cost-effective manner. We also have to reach out to new investors.

In short, people need to be made aware that they can meet their long-term financial goals via mutual funds.

There is another angle to the awareness theme. What does a mutual fund stand for? If fixed deposits are for fixed returns and insurance for covering risk, what are mutual funds for? This is a dilemma that the industry is currently facing, according to Vikaas Sachdeva, Chief Executive Officer at Edelweiss Asset Management. "We need to position ourselves better. We, as an industry, try to say many things and do multiple things, all at the same time. Even at the individual AMC level, we don't have a strong positioning  he says.

Distribution Network and Cost: Developing the previous point, Nilesh admits, “We can't reach where we want to with the existing distributor network. We need to attract many more distributors, educate them, empower than and help them connect with the clients.

A lot of legwork is required to promote a financial product. Also, a robust distribution infrastructure and qualified personnel are required. This entails sizeable investment. Given the way distributor compensation is structured, the incentive to work hard in far-flung areas is missing. Unless this is taken care of, penetrating beyond the top 15 cities will always remain a challenge for the mutual fund industry.

It is known that the cost per transaction is quite high in Tier-II & Tier-III cities. Given that the volumes will be minuscule at the beginning, and all expenses go to a single account, the proposition is economically unviable. In such a situation, collaborating with banks and independent financial advisors will play a pivotal role in establishing last-mile connectivity.

Clear distinction between products: When it comes to the number of funds, there are just too many of them, confusing investors. In order to address the issue, Sebi has been nudging the industry to consolidate funds with similar objectives.

"Change is clearly under way but the pace needs acceleration. Today, when Sebi clears the offer document, one of the biggest questions to answer is how is the proposed fund different from some of the already existing funds? Let's not exacerbate the agony of an investor by launching one more version of a scheme that already exists,  says Sachdeva of Edelweiss Asset Management.

New Products: Due to the various types of investor needs, the market will increasingly need evolved products. In the last two decades, the mutual fund industry has not only proliferated at a break-neck speed but also kept abreast of latest developments by offering a basket of options for every type of retail investor. However, according to industry experts, it will be quite some time before niche products like the ones in developed markets are launched in the India.

According to Aashish Somaiyaa, MD and CEO of Motilal Oswal AMC, "There is abundant scope for innovative products and more so for differentiation in what the AMC stands for. There are AMCs who have exited as they have failed in communicating how they are different than their peers. Me-too doesn't survive in any business, so why should the AMC industry be different?

Sanjay Chawla, Chief Investment Officer, Baroda Pioneer Mutual Fund, says India is one of the few markets where active managers have generated positive returns over benchmarks consistently. "Therefore, we would hope that institutional pension clients which have started investing in equities via exchange-traded funds also consider investing in actively managed equity funds. Apart from this, we hope to see structural enablers, so that the industry is able to create products for the retirement market, similar to the 401k plans in the United States,  he says.

Traditional Mindset: Indians prefer physical assets over financial assets. That is why real estate and gold corner two-third household savings. In such a situation, what is required is a major shift in ideology when it comes to saving.

Over the last one decade, many people have come to realise the benefits of investing in mutual funds. Tax efficiency is another carrot that has got customers' attraction. Financial advisors are of the view that as the user matures and makes sizeable returns, the word-of-mouth publicity can aid in making mutual funds a mass product.


Is online the way ahead?

Keeping with the times, the mutual fund industry has expanded its online. Today, one can go online to invest in a mutual fund, cutting back on paper work, which is beneficial for both the investor and the fund house. One of the stumbling blocks to this was the offline know-your-customer, or KYC,procedure

But several fund houses have come up with innovative ways to get KYC done online too. According to Kalpen Parekh, Chief Executive Officer at IDFC Asset Management Company, "There is growth in digital transactions by MF investors - through both online distribution platforms as well as mutual fund websites. This trend will accelerate once the online investing process gets simpler, which requires regulatory approvals.

The main attraction of online investing is lower cost as there is no commission to be paid to the distributor. In the coming days, transactions are likely to be swift and paperless. Chawla points that given the penetration and awareness levels at present, we see online as complementing the efforts of the distributor, and adding to customer convenience, and not only as a means to invest directly.

"We also expect digital to play a role in terms of customer analytics, which should help in more focused marketing,  he says.
Others options are also coming up. Quantum Mutual Fund, for instance, allows registered identified investors to transact (buy, sell, switch in /switch-out) via WhatsApp.

All in all, it has been a rough ride at times, but mutual fund players have managed to weather the odds till date.