The Mutual Fund Show: The Best-Performing Categories In 2019
It has been a volatile year for investors that affected mutual funds returns. But here are some of the categories that stood out.
The year 2019 has remained volatile for investors with the benchmark indices scaling record highs, driven by select large caps, even as the broader market suffered losses. That affected the returns for mutual funds as well.
Yet, a few categories stood out amid this turmoil.
Thematic funds—banking and PSU—saw their assets under management jump more than twofold, Bhushan Kedar, director at Crisil Research, said on BloombergQuint’s special series The Mutual Fund Show. That was followed by the multi-cap category.
While benchmarking the Nifty 500 Index augured well for the multi-cap category, Kedar said a series of rate cuts by the Reserve Bank of India favoured sectoral funds.
On the other hand, AUM of credit risk funds contracted 25 percent this year.
Watch the full show here to know which funds performed better in this volatile year and why…
Here are the edited excerpts from the interview...
I was looking at the table and some very interesting categories—that have been very flat, particularly value contra or mid-cap funds, etc., as well as a clutch of categories that have seen massive inflows and outflows.
Let’s recap 2019 in terms of performance and if you start with different capitalisation stories, large cap has done well. They have delivered about 12 percent return, if you go to top 100, it is about 11 percent. The mid caps are almost flattish or negative by 0.5 percentage points and the small caps are about 5-5.5 percent negative. If you look at the key indices within that what draws attention is some of the funds you see on multi-cap, etc. where you actually see inflows coming in. AUMs have grown and AUM is a factor of two things—performance and inflows that have come into the system. In some of the categories we have seen those inflows coming in and among the equity, multi cap is the category where we have seen largest inflows of about 110 percent. So, we are talking about a Rs 75,000 crore category now.
The table shows how multi cap has seen some dramatic inflows. Focused funds haven’t done too badly. ELSS, I believe would be standard and static, this would probably be a number that would be happening almost every year because people put in money into tax-saving funds so that is not a surprise. What is also interesting is that the banking and PSU funds have seen quite a growth in AUM and inflows. At the same time credit risk funds have seen maximum outflow. So, on the non-equity side you have the credit risk funds which have seen some bit of an outflow. Now, let’s look at the other set of numbers and as you can see—first, the banking and PSU funds, one-year AUM growth is about 134 percent, and then if you move to the others, credit risk is down about 25 percent. I can understand the outflows from credit risk funds for all reasons but before we move into specific categories, this number in banking and PSU funds is quite staggering in the kind of growth that we have seen there?
Clearly, if you see at an aggregate level there has been growth in the debt AUM. If you look at the numbers of folios also, in some of the categories, they have been very stable. So, either there is growth or stability that the funds have achieved. It is just that the question people at the beginning of the year or during the year have asked themselves whether they want to stick with credit risk funds or they want to shift to different schemes. More or less the money has remained in the system and hence, you see growth in some pockets and probably degrowth in some of the other and people are also taking bets in terms of duration, credit risk wherever they are seeing good quality portfolios, I think the money is shifting there.
Let’s talk about these categories and start off with the multi-cap fund category. Now, it is arguably an option which gives an investor a chance to invest across market caps and therefore that should be the favourite too but it has seen substantial flows. A word on the category and how it has done and then the funds that you want to talk about in this category?
In terms of performance, the overall category has delivered about 9.5 percent if you put together all the funds in that category, that exactly maps to what the Nifty 500 has delivered. So, it represents all capitalisation to begin with. Now, the investor is leaving a choice with the asset manager or the fund manager to take a capitalisation bet. Now whoever succeeds in taking those capitalisation calls right turns out to be an outperformer. So, in this case we spoke about the numbers so anybody who had more allocation to the large cap would tend to outperform and somebody who allocated lesser to small and mid cap would also benefit from protecting the downside. That’s really the story if look at last one year on the multi-cap side.
And there are some interesting names out there, some traditional favourites and some which are coming up new. The preferred funds that you have out here, which is, one—the Kotak Standard Multicap Fund—the growth option as well as the DSP Equity Fund, the regular plan in the growth option. Both are multi-cap funds. Can you talk about why is it that these funds are finding a higher mention within the Crisil ranking framework? I am guessing that these are the funds which enjoy decent rankings on your ratings or ranking framework?
Absolutely, I think both the funds are featuring here. The reason that we are talking about them is outperformance. Kotak delivered about 13 percent vis-à-vis 9.5 percent over last year and the DSP fund delivered almost 17 percent. So, they have been very good performers in recent past. Besides, across other parameters, be it concentration risk etc., they have been faring well.
Kotak Fund’s allocation to large and mid cap is very similar to what you see as a peer average, which is about 17 percent or 15 percent, but I think where they have benefited is lower allocation to small caps. So, they have made, on an average, about 2 percent allocation to the small caps and the remaining— probably it is a tactical call— about 8-10 percent to cash or debt-like instruments which has helped them protect the downside on the small cap. That is one clear reason. If you look at the DSP Fund, they don’t have a very differentiated allocation strategy but clearly some of the outperformers that they have been able to pick and if I were to talk about some of the names, then Bajaj Finance, ICICI Bank, Aavas Financiers, which generate almost 130 percent return over the year, or ICICI Lombard General Insurance, about 65 percent return. I think that is something which has played off.
And finally, the conviction rate—in terms of your ability to stay put in a specific stock. In both portfolios you will see the ratio is almost more than 70-75 percent. Both these strategies have really gone well. They have been able to stick with the stocks, so minimal churn, and at the same time strategies that have been able to outperform the overall benchmark, and the sheer outperformers.
But there is a distinction between the two. Kotak has benefited because it has taken this tactical call of not betting on small caps and being in debt, it doesn’t involve too much of stock-picking ability but more a tact that they have taken. As opposed to that, DSP managed to bet and allocate large amount of money into the right stocks?
Yes, that is right and in fact, some of the stocks that we spoke about, they have been able to pick it up at right time, stay put with the stock and have been able to benefit from those portfolios because of their performance. And two, with regards to the tactical calls we are talking about, so long as they remain tactical, I think it is fine but you wouldn’t want a lot of idle cash sitting in your portfolio because when the markets come back in those segments then you are likely to not really perform well and there is also a choice of picking up more defensive stocks like pharma and FMCG so the allocation to them is also something which needs to be given a thought to.
How have these funds performed for the year at large? In the latest ranking that would have come out in September, they would be among the top but have they maintained their positioning in the top quartile for a better part of the year, these two?
Yes, absolutely. They have been able to either rank one or rank two throughout the year and that is the reason why we are basically talking about them that how consistently they have been able to stay put and we spoke about the attribute— why they have been able to achieve that.
The next piece on thematic funds and the banking and PSU funds and the kind of inflows that they have seen in the year thus far is quite staggering, what are your observations there? How do you think the category will do?
We should spend a minute on talking about how debt as an asset class has performed. So, if you see because there have been series of cuts by the RBI on the policy front, that has really led to rally on the interest rate side, if you look at G-sec, 120 basis points is the easing that we have seen. Similar rally we have not been able to see on the SDL bonds. But nevertheless, investors for bonds and government securities have benefited. Definitely, if you are on the longer end of the curve, you tend to benefit more when the rallies take place. If you talk about banking and PSU funds as a category, the play that most of the funds really have there is that they have been banking on relatively safer names or relatively safer sectors or sub-sectors on the debt side and we are talking about the PSUs, which have actually shown consistency in terms of asset quality. There has not been a deterioration that you would have seen in any of the PSU names so much what we have really seen in the names like PFC and REC. There has been a spread that has basically gone up, primarily because people are seeing concentration risk because the entities that have got merged but besides that from a credit standpoint, they have been quite stable. So, one from a safety standpoint investors have really opted for this category and what we have seen is that the assets have grown by 134 percent during the year and it is touching about Rs 65,000 crore. Because of the rally that we have seen in the interest rate, the category itself has delivered about 11.25 percent return— which is very good. It basically comes because of the interest rate rally plus the coupon that you make on top of that. If you are not having any slippage on the credit side, everything goes straight into your return. So, I think that is one important aspect in this category.
How do you expect this to be? While we talk about the debt category, one thing is the interest rate cuts that have happened. Two, our own version of operation twist and what that has done to the long end in the last three or four sessions and what it could do as markets expect that this might not be the only thing? More such operations might be done in the future.
So, there have been reasons on both sides either for hardening or easing interest rates. There have been interventions by the RBI. At the same time, concerns on inflation may be driven by crude prices etc. So, it is going to be in that sense volatile [and] policy cuts are expected. So, if they were to come in, say, during the next quarter or two, they will to some extent bring down the rate, but some inflation concerns may push it up a little. So, it is going to be a range-bound but volatile interest rate environment. Are they in for rallying the way we have probably seen? The answer is most likely no. They may not rally so much but at the same time they should be able to protect the significant downside there from an interest rate hardening. That is something we are probably not expecting in the year to come. So, whatever yield you are locking in at, you are likely to realise that over a year’s time-frame. That is probably you could say. So, if you look at the range, you are talking 7-8 percent sort of the range for a 3-5-year asset. So, that is what probably we are in for the year to come.
So, [let’s talk about] the two funds that you guys like. One of them has interestingly under-performed the benchmark. But I am just wondering what are the latest rankings these have enjoyed. Again, for the benefit of our viewers, I think these are for September. So, what are the rankings that these funds enjoy and what do you think these funds could do in the times to come?
So, we are talking about two funds here. One is the DSP Banking & PSU Debt Fund and the other is the IDFC Banking & PSU Debt Fund. Both actually, at the end of the last quarter, were ranked [at number] two. If you look at why we are talking about a rank two fund, [it’s because] the DSP one has been consistently ranked two. How is it different from some of the other funds? If you look at some of the other funds, they have probably got ranked [number] one during the year but moved to rank three or something. So, they have been far more volatile. The reason why we are talking about this fund is because it has consistently been ranked [at number] two. The other piece which is also getting reflected in the rank is the asset quality that this fund has really maintained. They have not taken exposure to any non-AAA asset during the year. So, they have been an AAA and sovereign or overnight sort of a portfolio that they have maintained. So, this basically ensures the credit quality is definitely top-notch. In terms of debt liquidity, in terms of the kind of investment that they have made, as per our evaluation, they have turned out to be the most liquid sort of categorisation. [Moreover], it has remained at rank one for most part of the year. So, that is about the DSP Banking Fund. If you really look at the IDFC fund, they have been able to maintain close to 97 percent assets in the AAA segment. IDFC Fund actually at the initial part of the year had a higher duration as compared to the peers. However, they have come down. So, they have ensured that the duration risk they are taking on the fund comes down. So even if the interest rates are to go up, they are to that extent protecting from an adverse interest rate cycle. From a liquidity standpoint, of course, their score has slipped a little and they are probably ranked three. But on the sensitive exposure side, they have not really got exposed to the sensitive sector as per the framework that we have. So, I would clearly say consistency, good asset quality, and good liquidity are the key drivers why we are talking about these funds.
Just out of curiosity, you have not spoken about the fund which is ranked number one. Is that because it has been volatile?
Are you talking about the Edelweiss fund? So, I think Edelweiss is featuring at number one rank now. One, of course, we could definitely pick it up in due course as we see consistency. Two, that fund has actually taken a significant duration call. So, [earlier] we spoke about a very tight band duration some of these funds were observing. About 1.5 to two, two-and-half is the band. That fund has actually taken a significant duration call. If I am not wrong, then it is about 5-plus that they are operating in and leveraging from the interest rate rally that we have from which they have been able to benefit significantly.
[Let’s talk] about the last category. We couldn’t have had any conversation on mutual funds had it not been for this. It’s just that it is coincidental or otherwise that the credit risk fund has seen tremendous degrowth in AUM. Partly, or fully due to the outflows. It is not surprising. The question is that are we at the end of the pain? What is your sense of what this category has done or will do in 2020?
So, probably over the last one, one-and-a-half years, post IF&FS, we have seen a series of downgrades. Assets have moved to sub-investment grades, taken significant haircut on their valuations, or even defaulting. Assets like DHFL has taken a 100 percent haircut. There has been an erosion in the value of some of these assets. As we go along, the resolution plan will only determine how much is recoverable and what really comes to the investors’ hand. That probably will take some more time from now on. Clearly, what has really happened after some of these episodes [is that] asset management companies have definitely become far more vigilant on some of the calls they have been taking. Two, it is just not about the fact that assets have been moved to sub-investment grades, but it is also about the hardening we have seen this in some of the sectors. In some of the securities, the hardening in the spread has been in the range of about 100 basis points to 500-600 basis points. So, the assets are getting priced significantly at a lower value. So, that is another reason that we are probably seeing the erosion. In 2020, maybe, I think, [if] some of the constraints on liquidity etc. for NBFCs continue to remain, [then] we will probably not see immediate respite there. I am sure the investor is watching out for some of these granular aspects about how NBFCs or some of the assets classes are probably doing. Post that, there will be an appetite for funds like this. Maybe, a couple of quarters, you could see this remaining static in that sense.
Okay, so maybe a couple of more months, if I heard you correctly, they will remain static. Then it will be a very interesting year for some of this credit risk funds as well. Okay. So, the names that you have chosen are Sundaram and Kotak, why?
Clearly, if you look at the Kotak Fund, it has given a superior return of about 10 percent despite the credit risk environment that we have seen compared to a 5.5 percent peer group return. None of the securities that they had invested in as part of their fund had actually defaulted. If you look at some of other funds (there are about 20 other funds in this category) in most of the funds, you have investment funds that have either moved to the sub-investment grade or has defaulted. Now, I think Kotak is one of the funds where you have not really seen that sort of a movement because of which they have been able to protect the downside on the performance significantly and benefit from the coupon carry that they had during this period. So, I think that is something which really stands out. If you look at their allocation to AAA assets, this has been 23-24 percent. But importantly, a slippage to sub-investment grade or default is something that has really protected them from any under-performance per se.
And, of course, you like Sundaram Short-Term Credit Risk Fund as well?
Sundaram clearly was ranked one in the initial part of the year and has slipped to five. If you were to look at just one security or exposure that has brought them down, it is the exposure to DHFL that they had. They had a significant exposure of about 10 percent. So, if you take up 100 percent haircut on that, the 10 percent value is sort of eroded on the very same day. In order to meet liquidity pressures, you land up selling something which is a good quality asset but that is a panic sell. [In this case] in some of the good assets also there is an erosion in value. That is one reason why there is a significant under-performance or negative performance by this fund.
So, why are you choosing it then?
We probably wanted to look at what has really gone wrong in some of these funds. Concentration risk sometimes is something that you are not really aware [about] but when things go bad, how it can pan out is important to see. This is where Crisil’s framework of portfolio-based parameter plays an important role.