Five fund myths

It is easy, even for an intelligent investor, to be taken in by the hype surrounding a mutual fund scheme.

It is easy, even for an intelligent investor, to be taken in by the hype surrounding a mutual fund scheme. Such misconceptions can impact the investments, which is why they need to be debunked. Here are the five common myths:

1. A fund with a net asset value (NAV) of Rs 10 is cheaper than the one whose NAV is Rs 50: The NAV of a mutual fund represents the market value of all its investments. Any capital appreciation in the fund scheme will depend on the price movement of its underlying securities. Suppose you invest Rs 1,000 each in Fund A (a new scheme with an NAV of Rs 10) and Fund B (an older scheme with an NAV of Rs 50). You will get 100 units of Fund A and 20 units of Fund B. Let's assume that both the schemes invest in just one stock, quoting at Rs 100. If the stock appreciates by 10%, the NAVs of the two will rise by 10%, to Rs 11 and Rs 55, respectively. In both cases, the value of investment rises to Rs 1,100-an identical gain of 10%. Fund B's NAV is higher as it has been around for a longer time and had bought the scrip earlier, which appreciated. Any subsequent rise and fall in the funds' NAVs will depend on how the scrip moves.

2. A balanced fund will always have a 50:50 debt to equity ratio: Balanced funds aim to achieve a balance between equities and debt. But the balance can tip depending on the nature of the fund. The equity-oriented balanced funds usually invest at least 65% in equities and the rest in debt. The others do this in a 40:60 ratio.

3. Large corpus funds generate higher returns:  A fund with a very large corpus is prone to inefficiencies as rising assets become unmanageable after a point. Also, most fund managers are more dextrous managing mid-sized funds. A large fund forces them to broaden their stock universe. This can lead them to include less researched or low-potential stocks in the fund's portfolio or increase the stake in certain stocks, leading to a selection bias. HDFC Equity has a corpus of Rs 2,680 crore, but its three-year annualised return is -1.68%, whereas the best performer for the same period is Reliance Regular Savings Fund, with an annualised return of 7.71% and an AUM of Rs 618 crore. At one-fifth the assets, the Reliance fund has fared far better.

4. Funds that regularly declare dividends are good buys: Fund houses declare dividends when they have distributable surplus. However, there are times when fund managers declare dividends as they do not have adequate investment opportunities. In some circumstances, a fund manager may sell some quality stocks to generate surplus for dividend distribution to attract investors.

5. SIP always scores over lump-sum investing: A systematic investment plan (SIP) is the best way to invest during volatility as it lowers the average per unit cost. This is also termed as rupee cost averaging. However, investing systematically during a bull run results in lower returns. When markets are constantly rising, SIP fails to lower the average cost and so results in lower returns compared with a lumpsum investment.