Vivek Kaul

Mumbai: Why do investors invest in mutual funds? Well, among other things, because they do not want to go through the hassles of investing in the stock market directly and feel the fund managers can do a much better job of it than them.

However, are fund managers really investment experts? Perhaps not.

The broad-based Sensex has done much better than most fund managers who run diversified equity mutual funds, across time periods.

As of May 7, 2008, the average annual returns of equity diversified schemes were 20.69%, 12.14%, 34.28% and 46.44% for periods of 1, 2, 3 and 5 years, respectively. The Sensex returned 24.85%, 18.36%, 39.41% and 42.16%, respectively over the same time periods (source: www.mutualfundsindia. com).

Clearly, then, most fund managers are not the experts they are made out to be.

Evidence from the US, the most developed stock market in the world, corroborates this view. As Burton G Malkiel tells us in his all-time classic,A Random Walk Down Wall Street, over the 30-year period from 1973 to 2003, two-thirds of the funds in the US proved inferior to the market as a whole.

This means, investors would have done much better than most mutual funds had they just invested in stocks constituting the 30-share Sensex.

However, the problem with such do-it-yourself investing is that the constituents of Sensex keep changing. Also, since individual investors do not have a large amount of money to invest, it would be difficult for them to be able to buy all the stocks that constitute the Sensex, in the right proportion.

A better alternative would be to invest in an index fund or an exchange traded fund (ETF) to ensure you got at least the market rate of return.

An index fund is a mutual fund that invests in stocks constituting a stock market index, such as the Sensex, in the same proportion as their proportion in the index.

ETFs are essentially index funds that are listed on a stock exchange, and hence can be bought and sold on the stock exchange.

Kotak Mutual Fund has just launched the Kotak Sensex ETF,which will allow investors to indirectly earn returns earned on the Sensex.

This is the second Sensex-based ETF, the first being the ICICI Prudential ETF, which has very little money invested in it and has average assets under management of Rs 87.76 lakh during April.

Two Nifty-based ETFs are also in vogue - the Nifty Benchmark Exchange Traded Scheme (Nifty BeES), which had an average AUM of around Rs 509 crore and the UTI Sunder, which had an average AUM of Rs 14.32 crore.

Understandably, investing in broad indexbased ETFs hasn’t really caught up in the country till now. One reason is their low AUMs, due to which they sometimes have a liquidity problem — when someone is trying to buy, there are not enough sellers and vice versa.

That, however, shouldn’t be a concern for those investing for time periods greater than three years.

The new fund offer (NFO) for Kotak Sensex ETF is open until May 16, 2008.

During the NFO period, the mutual fund is charging an entry load of 1% for investments of less than Rs 1 crore. Investors who do not wish to pay this can wait for the scheme to get listed on the exchange and then buy the units. In that case, they would need to pay a brokerage to the stock broker through whom they buy units. The brokerage should work out to much lesser than 1%.

Investing in a Sensex ETF ensures that the investor does not chase performance.Mutual fund distributors tend to sell funds, which have been doing well of late. However, past performance does not guarantee performance in the days to come. It is very difficult for the same fund manager to keep generating returns greater than the Sensex consistently.

On the other side, of it if you happen to get into the right scheme and the scheme does well, the performance of a Sensex ETF might look somewhat tame.

Source : DNA