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Nimesh Shah on how investors can assess mutual funds holistically

March 15, 2014

Over the years, Indian investors' perception about mutual funds has evolved from suspicion to acceptance and eventually to respect, which has helped the industry gain a rightful place next to traditional products such as bank deposits. Unfortunately, investors are unable to assess mutual funds holistically; what is viewed is merely assessment of the recent performance.

While it is true that what matters to investors is returns, to comprehend the robustness of the potential for returns on a consistent basis, investors also need to understand 'how' these returns are achieved. The 'how' encompasses a fund house's philosophy, its organisation structure, quality of people, processes, governance standards, investment style, strategy and client servicing, among others.

While it is true that these qualitative factors do not guarantee sustainability of returns, they nonetheless provide the basis for a higher potential for continued good performance. Let's understand these factors-

The efficient functioning of any business is based upon the foundation of a robust organisation structure that operates smoothly and with the necessary controls over activities. These include the quality and commitment of the owner/sponsor, quality of the executive management, and the role and effectiveness of the board of trustees. An asset management company, or AMC, should also be assessed on its ability to adopt and absorb technology advantageously, expand its distribution network, mitigate losses and retain talent. While the financial strength of the mutual fund house can be gauged from its annual reports, an investor can assess the strength of the organisation by looking at its reach and processes adopted to benefit the endcustomer.

Investment styles, processes, philosophy and strategies differ among AMCs and there is no one 'best' practice. However, the key is to adopt comprehensive processes and adhere to them in a disciplined manner. This provides assurance to investors and other stakeholders. In addition to processes, the quality of the investment team, the experience of the team members in terms of managing different investment styles, the team's commitment to the fund house's investment strategies and policies, the quality and independence of in-house research and the quality of dealing operations are critical factors. Information about these aspects can be garnered from the AMC's website, scheme documents and financial advisors associated with the fund house.

{blurb}Indian markets have become globally integrated and, therefore, are vulnerable to external developments, resulting in volatility and increasing complexity. As a result, risk management has become critical. Investors should assess the attitude and approach of the management and the experience of the fund house's investment team in implementing sound risk management practices. They should assess riskmitigation measures adopted by the fund house at the macro and portfolio levels.

Each scheme has an objective. The fund manager needs to strictly adhere to the objective. This ensures clear positioning of the scheme. More important, this assures investors that the fund manager is abiding by the mandate.

Clear disclosure about functioning, policies and practices makes a fund house stand for integrity and reliability within the investor and financial advisor community. In addition, investor education initiatives are clear differentiators. The fund house's website should offer investors comprehensive information to ensure transparency and build investor knowledge.

Will you eat at a restaurant where chefs don't eat food cooked by themselves? Will you send your children to a school where teachers don't admit their own kin? Then how can you invest in a fund whose managers don't put their money alongside yours? It's comforting to know that fund managers believe enough in the fund to invest own money in it.

Comparing a scheme's performance with its benchmark is an objective method of assessing its performance. However, investors should compare performance across time periods to make a fair judgment.

In conclusion, investors need to form their view about a fund house on the basis of multiple parameters and not just returns. Only the fund house's pedigree, philosophy, mission, vision, quality of processes, distribution reach, customer service and performance compared to benchmarks can give the investor a true picture of its robustness.

Managing Director & CEO ICICI Prudential AMC

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