Why global mutual funds are not exciting

The last few months have seen a spate of global fund launches, which has created a buzz among investors.

Some investors (rightly) look at these funds as a means to diversify across countries/economies, while some look at them as novel investment avenues, the way they would look at many of the domestic NFOs (new fund offers).

By and large, investors have not quite taken to global funds for a variety of reasons; some of these are related to tax (ironically, according to domestic taxation guidelines, global equities are at par with debt, so global funds are treated as debt funds from a taxation perspective); while product complexities and sheer indifference rank as lesser reasons.

At Personalfn, we have advised investors not to rush into investing in global funds just as yet. Some global funds have already been launched, while many more are on the way. We have recommended that as more and more global funds get launched, visitors can evaluate comparable global funds across parameters (the fund's investment proposition, its processes, long-term track record across market phases, especially the downturns) before taking an investment decision.

Our lack of interest in the global funds that have been launched in the recent past stems mainly from three reasons:

1) Higher allocation to Indian equities

Many of the global funds that have already been launched in the past (like the Templeton India Equity Income Fund and Fidelity International Opportunities Fund), as also the recently-launched NFOs like ICICI [Get Quote] Prudential Indo Asia Fund are mandated to invest at least 65% of their assets in Indian equities.

In other words, only 35% of assets can be invested in global equities. Despite that, these funds are termed as global funds! By that logic, equity-oriented funds/balanced funds that invest at least 65% in equities should be considered as debt funds by virtue of their 35% debt investments!

We can appreciate that these funds are pre-dominantly invested in domestic equities because domestic laws accord equity status (from a taxation perspective) only to domestic equities and not to global equities.

So in their bid to qualify as equity-oriented funds, many of these so-called global funds are pre-dominantly invested in domestic equities. Given that these funds are pre-dominantly invested in Indian equities, they should not be marketed by fund houses as global funds.

From the perspective of an investor seeking a global investment avenue, clearly he must choose between being invested in the right avenue (in this case, predominantly in global equities) and being invested in an 'equity-oriented' avenue (an Indian equity fund that can invest no more than 35% of assets in global equities).

Our recommendation is that investors go for the former i.e. global funds that invest predominantly in global equities. Even if these funds are classified as debt funds in our view, principles of financial planning (like diversifying across economies/countries) cannot be dictated by taxation laws.

If you must diversify, then you should diversify regardless of the tax status of your investment. In any case, it is probably only a matter of time, before the laws are adjusted to accord global equities a status at par with domestic equities.

2) Higher allocation to Asia/emerging markets

Many of the recently launched global funds (like Sundaram BNP Paribas Global Advantage Fund, Kotak Global Emerging Market Fund, ICICI Prudential Indo Asia Fund) have chosen to invest largely in Asian/emerging market economies. Again this beats the purpose of global diversification.

By investing primarily in Asia/emerging market, these funds qualify as Asian/emerging market funds, not true blue global funds.

In our view, an Indian investor already has a flavour of investing in Asia by being invested in Indian equities. To diversify globally, he does not need to invest in more of the same (although different countries, China, Russia, Brazil and many of the other emerging economies are bracketed along with India in terms of growth potential).

The Indian investor needs to diversify across countries/economies that have dynamics very different from the Indian economy. In other words, he needs to diversify across both developed economies and emerging economies and not just the latter. Global funds that do not allow for this, are not presenting Indian investors with an ideal diversification avenue.

3) Too many fund management levels

Most Indian fund houses do not have an expertise in managing global equities (although many fund houses do have tie-ups with foreign partners); they have nonetheless gone ahead and launched their global fund offerings.

To facilitate this, they have opted for the FoF (fund of funds) route. Put simply, there are designated global funds wherein the Indian fund houses will invest their monies. The global funds in turn will invest in global markets.

So what does this mean to the Indian investor?

A lot. For one, the Indian investor does not really know the global fund wherein his money will be eventually invested. He only knows the Indian fund house where he is investing the money. This fund house in turn will invest the money in a global fund.

So there are two levels of fund management -- one at the level of the Indian fund house and the other at the level of the global fund that will actually be investing the money. As an investor you don't know the global fund that is investing your money and are relying totally on the Indian fund house for this, which may or may not have an existing association with the global fund.

Investors must appreciate that although they are investing with the Indian fund house, there is an onus on the latter to identify the right global fund.

Moreover, two layers of fund management mean two layers of expenses (fund management expenses, marketing expenses, and admin expenses to cite a few examples). That is one reason why an FoF is usually not a very cost-effective way of investing your money.

By Personalfn.com

Entry load waiver splits Mutual Funds down the middle

The proposal to waive off entry load on mutual fund schemes is creating a split within the mutual fund (MF) industry. Some fund managers and CEOs feel the move has the potential to boost the insurance business at the cost of Mutual Funds. However, some others feel the move is very important as the waiver will benefit end investors.

At present, the biggest MF distributors happen to be banks, with the top five accounting for 70% of the entire market of equity-related MFs. More than 50% of private banks’ revenues today come from fee-based income, which mainly comprises of selling MF and insurance products.

“If entry load is waived, MF business in toto stands to lose. It will apply brakes on initiatives of fund houses to improve penetration and reach out to the masses. In India, MF as a product is bought and not sold. And that is where the role of a distributor in advising the investors becomes crucial, especially in non-metros,” said ABN Amro Mutual Fund managing director Nikhil Johri. He is scared that if the new rule comes into effect, financial products distributors may prefer selling insurance products as it is more lucrative in terms of commissions.

Selling MFs gives the distributor a commission of 2.5%, but distributors of insurance products, which include unit-linked insurance plans, can charge commissions up to 25 times that of MFs. Presently, there are around 60,000 AMFI-certified MF agents in the country compared with more than a million insurance agents.

Market regulator Sebi wants to waive the entry load since the present structure does not allow investors to avail maximum benefits from MF investments. There are also cases where distributors churn investors’ portfolios by investing into new fund offers on a regular basis to maximise their fees.

“We need to be transparent. The current model does not allow the investor to know how much the distributor is making through commissions. There should be transparency between the investor, the distributor and the MFs. It should be a purely fee-based model. That way the distributor can also ask for higher fees if he believes that he has given better service,” said Benchmark MF executive director Sanjeev Shah.

There is also a school of thought among fund managers that MFs should have the freedom to charge loads the way they want. If a fund manager wants to have a high load fund he should not be stopped from having the same. At the same time, an asset management company, which wants to sell MFs directly, should be allowed to do the same.

“With this move, investors will get a choice. This choice was not available for investors. In India, the high net worth individuals (HNIs) have always managed to get the load factor waived because of their high investments. But with this move, even retail investors can get the benefits that have been the privilege of HNIs,” said Boston Consulting Group director Sanjeev Shah.

The top 10 cities account for 80% of the mutual fund assets, according to a BCG report. The non-urban areas still are heavily invested in savings accounts and MFs find it a challenge to tap this market. “Without the aid of distribution it will be difficult to tap this market. It is expensive for a MF to reach every corner of the country and in a country like India, distributors are doing this for them at a low cost of 2.5%. In other countries these costs is very high,” Mata Securities country head for mutual fund Sameer Kamdar said.

Thus, it becomes important for the industry now to concentrate on the non-urban areas to expand. If the entry load is waived, getting new business from small towns could get tough. Presently, only Quantum MF follows the direct selling model where it does not give distributors commissions. The model is derived from Vanguard MFs, which basically are index investors.

Quantum MF chief investment officer Devendra Nevgi said, “If distributors are saying that they are the ones helping the industry to spread assets geographically, how come 80% of the assets are accounted by the country’s top ten cities. Why are distributors waiting to improve their reach. We launched our equity scheme without the help of the distributor and reached 80 cities. I don’t agree that distributors are needed to spread the industry reach.”

The industry is now going through a new phase of evolution. The outcome will only help the investor if transparency increases.