Fund Characteristics and its Impact on the Performance of Mutual Funds

Transcription

1 CHAPTER 5 Fund Characteristics and its Impact on the Performance of Mutual Funds Chapter 5 Fund Characteristics & its Impact on the Performance Page 100

2 FUND CHARACTERISTICS AND ITS IMPACT ON THE PERFORMANCE OF MUTUAL FUNDS 5.1 Introduction Evaluation of the performance of mutual funds cannot be carried out only by considering the risk and return component in isolation. There are various factors which are considered to be the drivers of return earned on the portfolio. These factors can be categorized into internal factors and external factors affecting the performance of the fund. Internal factors include fund size, fund age, fund family, portfolio turnover rate, expense ratio, investment style, weightage given to the assets in the portfolio, portfolio holdings whereas, sponsors reputation, fund managers characteristics can be external factors affecting the performance. This research area have not been explored by the researchers with reference to Indian Mutual Fund industry. Not much of research is available on fund characteristics and its effect on the performance of Indian Mutual Fund Schemes. The principle aim of this chapter is to evaluate the impact of fund characteristics on the performance of the mutual funds. Further, it also tries to investigate if any relationship exists among various fund characteristics incorporated in the study. Fund characteristics included in the study are Fund Size, Fund Age, Portfolio Turnover Rate, Expense Ratio, Investment Style and Market Timing ability of the Fund Manager and his Stock Selection Skills. Investment style of the mutual fund schemes have been evaluated independently of the other fund attributes. Market timing ability and the stock selection skills of the fund manager have been discussed and evaluated in detail in the following chapter. This chapter is divided into five parts. The second Chapter 5 Fund Characteristics & its Impact on the Performance Page 101

3 part deals with the fund attributes considered for the study, the third part discusses the empirical model, the fourth part deals with the empirical analysis and results and the last part covers the summary and conclusion. 5.2 The fund characteristics are explained below in detail: Fund Size Fund size is considered to be an important aspect having an effect on the returns earned by mutual funds (Chen et al, 2004; Ciccotello & Grant, 1996; Yan, 2008). Fund Size refers to the total corpus of the fund to be managed by the fund manager. It means the asset base or total amount of money that a mutual fund manager must manage and invest. The total assets under management of the mutual fund can grow in two ways: either the securities included in the portfolio display a strong performance or there is an increase in the inflow of investor s money (Cicotello & Grant, 2008). In both the situations, size of the fund tends to increase. In the first case, as the underlying securities display strong performance, it leads to an increase in the value of underlying assets, hence the asset size increases. In the second situation as more and more investors are attracted to a specific mutual fund, the manager is presented with a significantly large amount of cash. The inflow of investor money is due to the past performance of the fund (Cicotello & Grant, 2008). Increase in the net assets under management is related to the percentage of fund inflow to the fund every year. There is a rise in the fund flow only when mutual fund houses incur higher marketing expenses to grab the investors attention (Sirri & Tufano, 1998). These situations are applicable only to open-ended mutual funds. Chapter 5 Fund Characteristics & its Impact on the Performance Page 102

4 Fund size at the end of the year can be calculated by multiplying the Net Asset Value of the mutual fund at the end of the year with the number of units outstanding at the end of the year. For the purpose of this study, selected sample of mutual funds are categorized into three quantiles depending on the assets under management data for the period ranging from 1 st April 2007 to 31 st March Table 5.1 Classification of Funds into Quantiles based on Fund Size Fund Size Small Sized Funds (Quantile 1) Medium Sized Funds (Quantile 2) Large Sized Funds (Quantile 3) Assets Under Management (AUM) (Rs in Cr) Less than 200 Cr More than 200 Cr Less than 1000 Cr More than 1000 Cr Chapter 5 Fund Characteristics & its Impact on the Performance Page 103

5 The following Table displays the categorization of selected sample mutual fund schemes into different buckets based on net assets under management. Table 5.2: Quantile-wise List of Sample Mutual Fund Schemes SR. NO. LESS THAN 200 CR QUANTILE 1 SMALL SIZE (25) MORE THAN 200 CR LESS THAN 1000 CR QUANTILE 2 MID-SIZE (27) MORE THAN 1000 CR QUANTILE 3 LARGE SIZE (16) 1 BIRLA SUNLIFE ADVANTAGE (GR) BIRLA SUNLIFE ADVANTAGE (DIV) DSPBR EQUITY (DIV) 2 ING CORE EQUITY (DIV) BIRLA SUNLIFE EQUITY (DIV) FRANKLIN INDIA BLUE CHIP (DIV) 3 ING CORE EQUITY (GR) BIRLA SUNLIFE EQUITY (GR) FRANKLIN INDIA BLUE CHIP (GR) 4 JM EQUITY (DIV) DSPBR OPPORTUNITIES (DIV) HDFC TOP 200 (DIV) 5 JM EQUITY (GR) DSPBR OPPORTUNITIES (GR) HDFC TOP 200 (GR) 6 LIC NOMURA EQUITY (DIV) FRANKLIN INDIA PRIMA PLUS (DIV) HDFC EQUITY (DIV) 7 LIC NOMURA EQUITY (GR) FRANKLIN INDIA PRIMA PLUS (GR) HDFC EQUITY (GR) 8 LIC NOMURA MF GROWTH (GR) FRANKLIN INDIA PRIMA (DIV) MORGAN STANLEY GROWTH (GR) 9 PRINCIPAL GROWTH (DIV) FRANKLIN INDIA PRIMA (GR) RELIANCE GROWTH (DIV) 10 PRINCIPAL GROWTH (GR) HDFC CAPITAL BUILDER (DIV) RELIANCE GROWTH (GR) 11 RELIANCE GROWTH (BONUS) HDFC CAPITAL BUILDER (GR) RELIANCE VISION (DIV) 12 RELIANCE VISION (BONUS) HDFC GROWTH (DIV) RELIANCE VISION (GR) 13 SBI MAGNUM EQUITY (GR) HDFC GROWTH (GR) SBI MSFU CONTRA (DIV) 14 SUNDARAM GROWTH (DIV) ICICI PRUDENTIAL TOP 200 (DIV) SBI MSFU CONTRA (GR) 15 SUNDARAM GROWTH (GR) ICICI PRUDENTIAL TOP 200 (GR) UTI EQUITY (DIV) 16 TATA GROWTH (GR) KOTAK 50 (DIV) UTI MASTERSHARE (DIV) 17 TATA ETHICAL FUND (DIV) KOTAK 50 (GR) 18 TATA ETHICAL FUND (GR) SBI MAGNUM EQUITY (DIV) 19 TAURUS BONANZA (GR) SBI MAGNUM GLOBAL FUND 94 (DIV) 20 TAURUS DISCOVERY (GR) SBI MAGNUM GLOBAL FUND 94 (GR) 21 TAURUS STARSHARE (GR) SBI MAGNUM MULTIPLIER PLUS 93 (DIV) 22 UTI EQUITY (GR) SBI MAGNUM MULTIPLIER PLUS 93 (GR) 23 UTI MASTER PLUS 91 (GR) TATA PURE EQUITY (DIV) 24 UTI MASTERSHARE (GR) TATA PURE EQUITY (GR) 25 UTI MASTER VALUE (GR) TEMPLETON INDIA GROWTH (DIV) 26 UTI MASTER PLUS 91 (DIV) 27 UTI MASTER VALUE (DIV) Chapter 5 Fund Characteristics & its Impact on the Performance Page 104

6 As per Table 5.2, the funds included in Quantile 1 with assets under management less than Rs 200 crores are termed as small-size funds. The total number of smallsize funds is 25. Quantile 2 includes mid-size funds having assets under management of more than Rs 200 crores and less than Rs 1000 crores. Total numbers of 27 funds are included in this quantile. Last Quantile includes all large-size funds having assets under management of more than Rs 1000 crores. A total number of 16 funds are included in this quantile Fund Flow Fund flow refers to the percentage of cash inflow into the mutual fund every year. Increase in the fund flow leads to increase in fund size. Investors allocate their investible amount to certain funds based on their performance in the past. Fund flow is computed using the following formula: Fund Flow = {(Today s AUM Yesterday s AUM) / Yesterday s AUM * 100} Fund Age Fund age refers to the number of years the fund has been existing in the industry. This study does not suffer from survivorship bias as the sample selected for the study includes all the funds that were existing during the period of the study. Chapter 5 Fund Characteristics & its Impact on the Performance Page 105

7 5.2.4 Expense Ratio Expense ratio influences the performance of the fund big time. Fund expense is an important factor driving the fund performance (Sirri & Tufano, 1998; Grinblatt & Titman, 1989). Expenses eat away the returns earned on the fund. Mutual fund costs can be broken down into two: Expenses of the fund and the Transaction costs. Expenses of the fund generally referred to as the expense ratio represents the expenses of the fund. It is the ratio of total expenses to average net assets. Mutual fund spends on different accounts. It includes management fee, trusteeship fee, staff cost, office and administrative expenses, registration and legal expenses, publicity expenses, audit fees etc. Depending on the type of the scheme the expense ratio may vary. Lower expense ratios are considered as desirable. Generally, the expense ratios of equity funds are higher than the debt funds, as equity funds need to allocate the funds carefully by incurring higher research costs. Secondly, international funds have higher expense ratio vis-a-vis domestic funds, due to high transaction costs. The following are the limits mandated by Securities and Exchange Board of India (SEBI) on the expense ratios of different funds: Table 5.3 Limits mandated by SEBI on Expense Ratios Net Assets Equity Schemes Debt Schemes First Rs 100 Cr 2.5% 2.25% Next Rs 300 Cr 2.25% 2% Next Rs 300 Cr 2% 1.75% On the balance of Assets 1.75% 1.5% Source: Securities Exchange Board of India (SEBI) Chapter 5 Fund Characteristics & its Impact on the Performance Page 106

8 Table 5.3 displays that; expense ratio depends on the total net assets of the fund. As the net assets increases the expense ratio charged on the fund declines. Our main concern is to study whether lower or higher expense ratios have any effect on the return of the fund. Expense Ratio = Total Expenses / Average Net Assets Or Expenses = (Per Unit Expenses) / NAV * 100 Further, the Transaction Costs are the costs incurred when buying or selling securities. These include brokers' commissions and spreads (the difference between purchase price and selling price). It is also referred to as "transaction fees." This is what a broker or bank makes for being the middleman in a transaction Portfolio Turnover Rate Portfolio turnover rate is the rate at which the fund manager churns the portfolio. It measures the amount of buying and selling done by the fund manager. High portfolio turnover rate indicates that the portfolio is being actively managed. Portfolio turnover is the lesser of annual purchases or annual sales, divided by the average portfolio value. The number varies by the type of fund and the investment philosophy of the fund manager. A high turnover ratio means higher transaction costs and it adds to the expenses of the fund. It is the ratio at which a portfolio trades the securities in it. It is calculated as the trading volume of the portfolio as a percentage of the entire portfolio. Portfolio Turnover Rate = (Lesser of assets bought & sold) / Net Assets Chapter 5 Fund Characteristics & its Impact on the Performance Page 107

9 5.2.6 Investment Style It refers to different style characteristics of equities, bonds or financial derivatives within a given investment philosophy. It refers to the approach of selecting individual investments and assembling portfolios in order to achieve the investment goals. For example, a mutual fund that is focused on small-cap stocks might seek long-term capital appreciation by choosing aggressive growth stocks. Another smallcap fund with the same objective might build a portfolio of underpriced value stocks. The investment style differs based on the investment objective of the fund. All sample open-ended equity diversified mutual fund schemes selected for the purpose of this study uses the same investment style i.e., all the sample funds invest in Growth stocks and the stocks having large market capitalisation. Hence, we consider investment plans (Dividend, Growth and Bonus Plans) and its effect on the performance of the mutual fund schemes. Summary Does a huge asset base impede performance? Are big funds at a disadvantage in today s market? Does size of the fund make a difference to the investor? The 16 large-sized funds as stated in Table 5.2 manager over Rs 80,000 crore of assets. Is it better to be invested in a super size fund or is it worse? Is small fund is a better option or it doesn t matter at all? All these questions are answered in the following sections. Chen et al (2004) and Yan (2008) argues that, fund size erodes the performance of the mutual funds. There is an inverse relationship between the size of the fund and Chapter 5 Fund Characteristics & its Impact on the Performance Page 108

10 the returns derived from it. Both state that, liquidity is the major cause of eroding the performance of American mutual funds. According to Chen et al (2004), large funds need to find more stock ideas than small funds do. A large fund can afford to hire additional managers to cover more stocks. It can thereby generate additional good ideas so that it can take small positions in lot of stocks as opposed to large positions in few stocks. But if this liquidity hypothesis true, then funds might invest in small stocks which tend to be illiquid. Further, it says, effect of fund size on fund returns is more explicit for funds that invest in small cap stocks. Cicotello and Grant (1996) conclude that, fund size has no relation with the performance of the funds. They state that, larger funds tend to have lower expenses and lower turnover ratios on average. Researchers also find evidence that, smaller funds earn significantly higher abnormal returns than larger funds. (Yan, 2008; Dahlquist et al, 2000). Fund size also has a relationship with the other variables included in the study; portfolio turnover rate, expense ratio and fund age. Increase in fund size provides cost advantages and economies of scale as the transaction volume is high, larger funds have to pay less commission or brokerage charges for the execution on trades. (Indro et al, 1999; Somashekhar, 2008 and Keswani, 2011) Other administrative costs do not rise in direct proportion with the fund size (Indro et al, 1999). Pollet and Wilson (2008) provides evidence that, diversification of investment portfolio is associated with higher returns. They further conclude that, small funds outperform large funds in the small cap sector. According to them, large funds are not able to generate additional ideas as all the ideas have already been exploited. Chapter 5 Fund Characteristics & its Impact on the Performance Page 109

11 Droms and Walker (1996) contradict with the above stated evidences. They prove that, investment performance is not related to fund attributes like fund size and portfolio turnover rate and higher expenses are associated with higher returns. Based on the above conclusions, this study tries to bring out the relationship between the fund performance and various fund attributes. Chapter 5 Fund Characteristics & its Impact on the Performance Page 110

12 5.3 Cross sectional Multiple Regression Models To study the effect of fund characteristics on the performance of the open-ended equity diversified mutual funds and to evaluate if there exists any relationship between expense ratio, portfolio turnover rate and fund size, three research hypotheses are framed and they are tested using cross-sectional multiple regression models. Research Hypotheses formulated for Objective 2 are as follows: a. Null Hypothesis (H0): Fund size does not affect the performance of the mutual funds. Alternate Hypothesis (H1): Fund size affects the performance of the mutual funds. b. Null Hypothesis (H0): Fund size is not correlated with the expense ratio. Alternate Hypothesis (H1): Fund size is correlated with the expense ratio. c. Null Hypothesis (H0): Fund size is not correlated with Portfolio Turnover Rate. Alternate Hypothesis (H1): Fund size is correlated with Portfolio Turnover Rate. Chapter 5 Fund Characteristics & its Impact on the Performance Page 111

13 All the above formulated research hypotheses are tested using the cross-sectional Multiple Regression models. The models are as follows: (i) Relationship between fund size and fund performance R i = a +b 1 (Log_fund_size) + b 2 (fund_flow) + b 3 (Exp_ratio) + b 4 (PTR) + b 5 (F_age) + e i Where, R i = Excess return on the fund, a = the intercept Log_fund_size = Natural logarithm of fund size or total fund assets, Exp_Ratio = Expense ratio, PTR = Portfolio Turnover Rate, F_age = Fund Age in years, e i = random error term In this model, there are five independent variables viz, Natural logarithm of fund size, fund flow, portfolio turnover rate, expense ratio and fund age. For all the variables annual data is used for the period ranging from 1 st April 2007 to 31 st March Natural logarithm of variable fund size is considered as the variable is positively skewed. Log of any variable is taken to make the distribution a normal distribution. Fund age is considered from the year in which the fund was launched till the end of the sample period. Chapter 5 Fund Characteristics & its Impact on the Performance Page 112

14 Dependent variable of the above regression model is the excess return earned on the fund. The same model has been run by replacing the dependent variable with the returns calculated using different performance measures. Excess return earned on the fund considers Gross fund return, Net fund return, Sharpe s Ratio, Treynor s Ratio and Jensen s Alpha (CAPM Alpha). Gross fund return is computed by adding expense ratio to the net fund returns. Net fund returns are the point to point returns computed for all the funds in the previous chapter. To study the effect of fund size on performance of mutual funds, the sample size of 68 open-ended equity diversified mutual funds are categorised into quantiles based on their Assets under Management (AUM) data. The above model is run for all the three quantiles and the results are stated. (ii) Relationship between fund size and Expense ratio Exp_ratio = a +b 1 (Log_fund_size) + b 2 (fund_flow) + b 3 (PTR) + b 4 (F_age) + e i Where, Exp_Ratio = Expense ratio, a = the intercept Log_fund_size = Natural logarithm of fund size or total fund assets, Fund_flow = Fund flow in percentage PTR = Portfolio Turnover Rate, Chapter 5 Fund Characteristics & its Impact on the Performance Page 113

15 F_Age = Fund Age in years, e i = random error term This model considers Expense Ratio as dependent variable and other fund attributes as independent variables. (iii) Relationship between fund size and Portfolio turnover rate PTR = a +b 1 (Log_fund_size) + b 2 (fund_flow) + b 3 (Exp_ratio) + b 4 (F_age) + e i Where, PTR = Portfolio Turnover Rate, a = the intercept Log_fund_size = Natural logarithm of fund size or total fund assets, Fund_flow = Fund flow in percentage Exp_Ratio = Expense ratio, F_Age = Fund Age in years, e i = random error term The above model considers Portfolio Turnover Rate as dependent variable and other fund features viz, fund size, fund flow, expense ratio, and fund age are taken as independent variables. Chapter 5 Fund Characteristics & its Impact on the Performance Page 114

16 5.4 Empirical Analysis This segment reports the results of the analysis carried out using econometric models. It is divided into four sections. The first section reports the summary statistics on all the variables, cross sectional averages and standard deviations. Section II reports the correlation matrix of all variables under the study, Section III presents the regression results and Section IV deals with the analysis of qualitative variable; investment style Section I Table 5.4: Summary Statistics of all the variables FUND SIZE FUND FLOW EXPENSE RATIO PORTFOLIO TUNOVER RATE FUND AGE Mean Median Standard Deviation Kurtosis Skewness Minimum Maximum Count Table 5.4 reports the summary statistics of all the independent variables used in the study for the selected sample of 68 open-ended equity diversified mutual fund schemes. It includes, Fund size, Fund flow, Expense Ratio, Portfolio Turnover Rate and Fund Age. The sample size includes 68 open ended equity diversified funds having average total net assets of Rs 64,939 Lakhs with a standard deviation of Rs 82,768 lakhs. The average flow of funds into the mutual fund schemes have been 20% with a standard deviation of 27%. The average expense ratio of all 68 open- Chapter 5 Fund Characteristics & its Impact on the Performance Page 115

17 ended equity diversified funds is 2.07% with a variability of The mean portfolio turnover rate is with a variability of The average fund age of the sample mutual fund schemes selected 16 years with standard deviation of Table 5.5: Year-wise summary statistics of all the variables Fund Size Mean Median Standard Deviation Kurtosis Skewness Minimum Maximum Count Chapter 5 Fund Characteristics & its Impact on the Performance Page 116

18 Figure 5.1: Average Fund Size for the period 2007 to 2012 A V E R A G E N E T A S S E T S FUND SIZE YEARS Figure 5.1 presents the average total net assets of sample mutual fund schemes selected for the period ranging from 2007 to There has been an increase in the total average net assets over the period of 5 years with a sharp decline in the year The major cause of this decline can be related to the global financial crisis that occurred in International capital market was severely affected due to these crises. Thus, redemptions in the mutual funds overtook the net sales of mutual funds during this year. In the year 2009, the average total net assets of the funds dropped to Rs 36,395 lakhs which was considered to be the least amount mobilized by mutual funds in comparison to the other years of study. Since 2010 there has been a consistent rise in the total assets under management. Chapter 5 Fund Characteristics & its Impact on the Performance Page 117

19 5.5.2 Fund Flow Mean Median Standard Deviation Kurtosis Skewness Minimum Maximum Count Figure 5.2 Average Fund Flow for the period 2007 to AVEARGE FUND FLOW YEARS Figure 5.2 presents the average fund flow data in graphical form. Fund flow is the percentage of inflow of investors money into the fund every year. The figure displays a drop in fund flow percentage in the year 2009 due to the global recession that hit the Indian markets severely. The fund flow showed up a sudden increase and sharp decline subsequently. Chapter 5 Fund Characteristics & its Impact on the Performance Page 118

20 5.5.3 Portfolio Turnover Rate Mean Median Standard Deviation Kurtosis Skewness Minimum Maximum Count Figure 5.3 Average Portfolio Turnover Rate for the period 2007 to 2012 AVERAGE PORTFOLIO TURNOVER RATE YEARS Figure 5.3 presents average portfolio turnover rate of the selected sample mutual fund schemes for the period ranging from 2007 to There has been a consistent rise in average portfolio turnover rate from 2007 till 2009 followed by a sudden decline in the year Chapter 5 Fund Characteristics & its Impact on the Performance Page 119

21 5.5.4 Expense Ratio Mean Median Standard Deviation Kurtosis Skewness Minimum Maximum Count Figure 5.4 Average Expense Ratio for the period 2007 to AVERAGE EXPENSE RATIO YEARS Figure 5.4 displays average expense ratio of the mutual fund schemes from 2007 to The expense ratio has declined sharply from 2.17 in 2007 to 2.05 in Since then it has been fluctuating between 2.04 and 2.08 levels. Chapter 5 Fund Characteristics & its Impact on the Performance Page 120

22 5.5.5 Fund Age Mean Median Mode Standard Deviation Kurtosis Skewness Minimum Maximum Count Figure 5.5 Average Fund Age for the period 2007 to 2012 FUND AGE YEARS Figure 5.5 displays the fund age in number of years for the period 2007 to The average fund age has been increasing every year showing a linear trend. Chapter 5 Fund Characteristics & its Impact on the Performance Page 121

23 Table 5.6: Cross Sectional Averages and Standard Deviations of all explanatory variables based on the Quantile data CROSS SECTIONAL AVERAGES AND STANDARD DEVIATIONS QUANTILE 1 QUANTILE 2 QUANTILE 3 ALL FUNDS NUMBER OF FUNDS FUND_SIZE (Rs in Lakhs) ( ) ( ) ( ) ( ) LOG_FUND_SIZE 8.33 (0.89) (0.40) (0.38) (1.62) FUND_FLOW (36.95) (17.60) (21.98) (27.32) EXP_RATIO 2.17 (0.34) 2.12 (0.14) 1.82 (0.10) 2.08 (0.27) PTR (46.90) (31.54) (30.69) (39.60) F_AGE (Years) (3.28) (2.83) (3.00) (2.97) Table 5.6 reports cross sectional averages and standard deviations for the variables of interest for each fund size quantile and for all the funds. Quantile 1 represents small-sized funds whereas; Quantile 3 represents Large-sized funds. The standard deviations of all variables are mentioned in parenthesis. The variations in means of the variables in reflected in standard deviations. Total number of funds in quantile 1 is 25, quantile 2 is 27, quantile 3 is 16 and total number of mutual funds is 68. Chapter 5 Fund Characteristics & its Impact on the Performance Page 122

24 Quantile 3 reports the highest average net assets of Rs 1, 94, lakhs compared to Quantile 1 having lowest average net assets of Rs lakhs and standard deviation of Rs 73, and Rs respectively. As Qunatile 3 comprises of large sized funds the average total net assets tends to be higher compared to all other quantiles. The proxy of fund size that is used in the analysis is the log of fund size of the sample funds selected (LOG_FUND_SIZE). Natural logarithm of fund size is used as the variable fund size displays a positively skewed distribution. The mean and standard deviation of this variable is also reported quantile-wise in the Table. In addition to fund size, the study also reports other fund characteristics that are utilised in the study. These factors include Fund flow, expense ratio, portfolio turnover rate and fund age. Expense ratio for Quantile 1 is the highest compared to Quantile 3 consisting large sized funds. Small sized funds have higher expense ratio than large sized funds. This is due to the fact that, as the fund grows in size, it provides cost advantage to the fund. Expenses like commissions, research, marketing expenses and other operating expenses do not increase in direct proportion to the fund size. Same principle applies to the portfolio turnover rate. Higher average Portfolio Turnover Rate is reported for Quantile 1 (Small sized funds) compared to Quantile 3 (large sized funds) having average PTR of Small sized funds report higher portfolio turnover rate as it does not provide economies of scale. Larger funds have been in existence for a longer period of time and their average age in years is Average fund ages for all sample funds have been years. Chapter 5 Fund Characteristics & its Impact on the Performance Page 123

25 Table 5.7: Cross Sectional Averages and Standard Deviations of all dependent variables based on the Quantiles data CROSS SECTIONAL AVERAGES AND STANDARD DEVIATIONS QUANTILE 1 QUANTILE 2 QUANTILE 3 ALL FUNDS NET FUND_RETURN (6.21) 0.54 (8.70) (8.40) (7.72) SHARPE S RATIO (2.32) (2.76) (3.17) (2.77) TREYNOR S RATIO (77.26) (309.45) (101.20) (207.83) JENSEN S ALPHA (0.79) (1.42) (0.91) (1.15) GROSS FUND_RETURN 2.16 (0.36) 2.13 (0.17) 1.82 (0.15) 2.07 (0.28) Table 5.7 reveals the average of returns earned by all the funds as per different measures of performance along with their standard deviations for each quantile and for all the funds selected. Net fund return is the point to point return calculated on the fund whereas gross fund return is calculated by adding back the expenses to the net fund return by taking the year-end expense ratio. Quantile 2 displays high average net fund return of 54% with a high variation of However, Quantile 1 has earned high average gross fund return of 21.6% with a high variation of Mid-sized funds have outperformed the small and large sized funds in terms of net fund return earned and Small sized funds have outperformed Chapter 5 Fund Characteristics & its Impact on the Performance Page 124

26 mid and large sized funds in terms of gross fund return. Sharpe s ratio reports negative average risk premium to total risk undertaken by the funds (-3.96). Treynor s ratio also displays negative average risk premium to the systematic risk undertaken by the fund. Table 5.8: Year-wise Cross Sectional Averages and Standard Deviations of all the Explanatory Variables CROSS SECTIONAL AVERAGES AND STANDARD DEVIATIONS NUMBER OF FUNDS FUND_SIZE (Rs in Lakhs) ( ) ( ) ( ) ( ) ( ) ( ) LOG_FUND_SIZE 9.90 (1.71) (1.71) 9.57 (1.63) (1.66) (1.71) (1.64) FUND_FLOW (75.66) (40.66) (39.45) (58.67) 3.75 (43.91) 3.80 (44.55) EXP_RATIO 2.15 (0.24) 2.06 (0.26) 2.07 (0.44) 2.04 (0.31) 2.05 (0.29) 2.06 (0.30) PTR (64.18) (61.80) (63.10) (53.62) (46.12) (48.17) F_AGE (Years) (2.97) (2.97) (2.96) (2.97) (2.97) (3.03) Chapter 5 Fund Characteristics & its Impact on the Performance Page 125

27 Table 5.8 presents the year-wise means and standard deviations of all the variables in the study. It is evident that, there has been a consistent increase in the average total net assets of the fund since 2007, except in the year 2009 it suffered from a sharp decline from Rs lakhs to Rs lakhs. Average fund flow was 99% on the year As the stocks hit their all time low prices due to global recession in the year 2009, it was a cheap bet for the investors. Therefore, it showed an increase of almost 100% in fund flow. Average expense ratio of the mutual funds was consistent from 2007 till 2012 with a high variation in mean of 0.44 in the year With reference to portfolio turnover rate, fund managers churned their portfolio frequently in 2009 and Due global recession that hit the entire market, fund managers were struggling to maximise the returns on their portfolios. Average fund age was consistent from 2007 to Chapter 5 Fund Characteristics & its Impact on the Performance Page 126

28 5.4.2 Section II This section presents the cross-sectional correlations for all the variables under the study. The matrix helps in determining the degree of relationship among the variables. The study examines whether fund size alone or in combination with other attributes drives the fund performance. Table 5.9: Correlation Matrix for all the Selected Sample Mutual Funds (Correlation coefficients, using the observations 1 68) FUND_SIZE l_fund_size FUND_FLOW EXP_RATIO PTR F_AGE FUND_SIZE l_fund_size FUND_FLOW EXP_RATIO PTR 1.00 F_AGE The above matrix reports the correlation coefficients between fund characteristics for all the sample mutual fund schemes selected. The total number of observations is 68. The correlation matrix reports a negative correlation between Expense ratio and Log Fund size (-0.4). It indicates that, expense ratio is inversely related with the fund size. As the size of the fund increases, the expenses tend to decrease. Among all the fund variables, portfolio turnover rate is weakly correlated with the expense ratio. It displays a positive correlation of Expense ratio is negatively correlated with the inflow of funds with a value of There exists a positive correlation between fund age and fund size. Chapter 5 Fund Characteristics & its Impact on the Performance Page 127

29 Table 5.10: Correlation Matrix for Quantile 1 Sample Mutual Fund Schemes (Correlation coefficients, using the observations 1 25) FUNDSIZ l_fund_size FUND_FLOW EXP_RATIO PTR F_AGE FUND_SIZE l_fund_size FUND_FLOW EXP_RATIO PTR 1.00 F_AGE Table 5.10 reports correlation coefficients of all the variables under the study from Quantile 1. Quantile 1 represents small sized mutual funds with number of observations being 25. The correlation matrix displays a high positive correlation between fund age and fund flow (0.46). It reveals that, as the fund becomes older, there is an increase in the inflow of investors money into the fund. Positive correlation exists between portfolio turnover rate and expense ratio (0.48). Increase in the portfolio turnover rate of small-sized funds increases the expense ratio of the funds. The matrix reveals inverse relationship between fund flow and portfolio turnover rate (-0.29) and negative correlation between fund flow and expense ratio (-0.34). An increase in the inflow of money in small-sized funds decreases the portfolio turnover rate and expense ratio. Chapter 5 Fund Characteristics & its Impact on the Performance Page 128

30 Table 5.11: Correlation Matrix for Quantile 2 Sample Mutual Fund Schemes (Correlation coefficients, using the observations 1 27) FUND_SIZE l_fund_size FUND_FLOW EXP_RATIO PTR F_AGE FUNDSIZ l_fund_size FUND_FLOW EXP_RATIO PTR 1.00 F_AGE Table 5.11 reveals the correlation matrix of Quantile 2. Total of 27 mid-sized funds constitute Quantile 2. Positive correlation is displayed between portfolio turnover rate and expense ratio. Fund size (-0.79) and fund flow (-0.03) is negatively correlated with the expense ratio. It displays the inverse relationship between the two variables under the study. Increase in total net assets of mid-sized funds leads to decline in their expense ratio. Portfolio turnover rate displays the similar inverse relationship with the fund size. The matrix also displays a negative association between fund age and portfolio turnover rate. It reveals that, as the fund grows older, fund manager spends less on churning the portfolio. Chapter 5 Fund Characteristics & its Impact on the Performance Page 129

31 Table 5.12: Correlation Matrix for Quantile 3 Sample Mutual Fund Schemes (Correlation coefficients, using the observations 1 16) FUND_SIZE l_fund_size FUND_FLOW EXP_RATIO PTR F_AGE FUND_SIZE l_fund_size FUND_FLOW EXP_RATIO PTR 1.00 F_AGE Correlation matrix of large-sized mutual funds in presented in Table Quantile 3 represents large-sized mutual funds having AUM of more than Rs 1000 crores. Total number of funds included is 16. The above matrix reveals a positive correlation between fund flow and expense ratio (0.33) and fund flow and portfolio turnover rate (0.09). As there is an increase in inflow of money into large sized funds, it shows an increase in the expense ratio and portfolio turnover rate. The fund manager has to search for new ideas of allocating the corpus as the funds grow in size. Fund age and displays an inverse relationship with fund flow (-0.35), expense ratio (-0.34) and portfolio turnover rate (-0.35). With the funds growing older, fund flow, expense ratio and portfolio turnover rate exhibits a decline. Chapter 5 Fund Characteristics & its Impact on the Performance Page 130

32 5.4.3 Section III This section reports the cross-sectional multiple regression results and its interpretation based on various models used in the study. Table 5.13: Regression Results of Selected Sample Mutual Fund Schemes INDEPENDENT VARIABLES INTERCEPT SHARPE S 5.96* (1.69) DEPENDENT VARIABLE TREYNOR S JENSEN S GROSS ALPHA FUND_RET (-0.24) (0.356) (0.53) NET FUND_RET (0.53) l_fund_size -0.66*** (-4.15) *** (-3.20) -0.24*** (-3.77) (0.46) (0.46) FUND_FLOW -0.04*** (-3.41) (-0.73) -0.01** (-2.34) *** (-3.67) *** (-3.67) EXP_RATIO -2.14** (-2.24) (-0.90) (-0.197) 0.990*** (27.08) (-0.26) PTR 0.01 (0.92) 0.80 (1.30) (1.45) (1.17) (1.17) F_AGE (Years) 0.08 (0.78) (1.17) 0.07 (1.19) (-1.35) (-1.35) Adjusted R Table 5.13 reports the time series average coefficients of cross sectional multiple regression run for all the selected sample open-ended equity diversified mutual funds. Excess return earned on the fund is dependent variable and independent variable include all the fund attributes considered in the study viz., fund size, fund flow, portfolio turnover rate, expense ratio and fund age. Regression has been run by Chapter 5 Fund Characteristics & its Impact on the Performance Page 131

33 considering different performance measures including gross and net fund return as dependent variable keeping explanatory variables same. Numbers in parentheses are t-statistics. One, two and three asterisks denote significance at 10%, 5% and 1% level respectively. The fund performance is significantly negatively related to the fund flow for all the selected sample mutual funds at 1% level of significance for Sharpe s Ratio, Gross Fund return and Net Fund returns. Hence, it is evident that, as the fund starts growing in terms of size with the new money flowing into the fund, the returns earned on the fund starts declining. Similar results are found in case of fund size. There exists a significantly negative relationship between size of the fund and the superior returned earned in terms of Sharpe s ratio, Treynor s Ratio and Jensen s Alpha at 1% level of significance. Therefore, it can be stated that, increase in fund size erodes the performance of the open-ended equity diversified mutual fund schemes. The results vary based on the performance measures that are used to evaluate the performance of the funds. Expense ratio is positively significant with gross fund return at 1% level of significance. However, it displays a negatively significant relationship with respect to Sharpe s ratio at 5% level of significance. Adjusted R 2 displays very low coefficient of determination for all the regression models run except in the case of Gross fund return (0.93). As gross fund return is computed by adding the annual expense ratio, 93% of variation in gross fund return is explained by the explanatory variables viz; expense ratio. Chapter 5 Fund Characteristics & its Impact on the Performance Page 132

34 The following Table 5.14, 5.15 and 5.16 displays the results of cross-sectional multiple regression quantile-wise. Table 5.14 displays the results of Quantile 1 representing small-sized funds. Table 5.15 displays the results of Quantile 2 representing mid-sized funds and Table 5.16 displays the results of Quantile 3 representing large-sized funds. Risk Premium earned on the fund is dependent variable and independent variable include all the fund characteristics considered in the study viz., fund size, fund flow, portfolio turnover rate, expense ratio and fund age. Regression has been run by considering different performance measures including gross and net fund return as dependent variable keeping explanatory variables same. Numbers in parentheses are t-statistics. One, two and three asterisks indicate significance at 10%, 5% and 1% level respectively. Chapter 5 Fund Characteristics & its Impact on the Performance Page 133

35 Table 5.14: Regression Results of Sample Mutual Fund Schemes for Quantile 1 (Small-sized Funds) INDEPENDENT VARIABLE INTERCEPT SHARPE S 6.24 (1.49) TREYNOR S (1.46) DEPENDENT VARIABLE JENSEN S GROSS ALPHA FUND_RET 3.05** (2.46) 0.15 (1.351) NET FUND_RET 0.15 (1.35) l_fund_size (-1.27) (-1.13) -0.26* (-1.76) (-1.206) (-1.20) FUND_FLOW (-1.23) (-1.69) *** (-3.83) (-2.671) ** (-2.67) EXP_RATIO (-1.55) * (-1.82) (-0.34) 0.99 (21.555) (-0.10) PTR 0.01 (0.67) 0.39 (0.76) (0.45) (0.845) (0.84) F_AGE (Years) 0.01 (0.08) 1.35 (0.28) (-1.04) (-0.83) (-0.83) Adjusted R In the above Table, fund flow reveals a negatively significant relationship with returns computed as per Jensen s Alpha at 1% level of significance. Jensen s Alpha basically deals with the fund manager s capability of forecasting and earning superior returns. Based, on the results it can be stated that, with an increase in fund flow, the performance of small-sized funds decline. Fund size displays a significantly negative relationship with Jensen s alpha measure of performance at 10% level of significance. Further, increase in fund flow into small-sized funds decreases the net Chapter 5 Fund Characteristics & its Impact on the Performance Page 134

36 fund return earned on the fund. It displays a negatively significant relationship at 5% level of significance. Table 5.15: Regression Results of Sample Mutual Fund Schemes for Quantile 2 (Mid-sized Funds) INDEPENDENT VARIABLE SHARPE S DEPENDENT VARIABLE JENSEN S GROSS TREYNOR S ALPHA FUND_RET NET FUND_RET INTERCEPT (-0.88) (-0.68) * (-1.82) (-1.12) (-1.15) l_fund_size 1.49 (0.774) (-0.24) 0.53 (0.91) 0.08 (1.22) 0.07 (1.21) FUND_FLOW ** (-2.16) 4.07 (0.76) 0.01 (0.77) *** (-3.96) *** (-3.81) EXP_RATIO 2.45 (0.54) (0.78) 3.09 (1.50) 1.18*** (9.31) 0.19 (1.53) PTR 0.01 (0.74) 1.31 (0.97) 0.01 (1.26) 0.00 (0.95) (0.98) F_AGE (Years) 0.09 (0.44) (1.14) 0.24 (1.50) (-1.66) (-1.52) Adjusted R Quantile 2 regression results displays a negatively significant relationship between fund flow and the performance measures used viz., Sharpe s ratio, Gross Fund return and Net Fund return at 5% and 1% significance level. Therefore, it is evident that, as the new money flows into the mid-sized fund it erodes their performance by having a direct impact on the returns earned. Chapter 5 Fund Characteristics & its Impact on the Performance Page 135

37 Table 5.16: Regression Results of Sample Mutual Fund Schemes for Quantile 3 (Large-sized Funds) INDEPENDENT VARIABLE SHARPE S DEPENDENT VARIABLE CAPM GROSS TREYNOR S ALPHA FUND_RET NET FUND_RET INTERCEPT * (-1.96) * (-2.09) (-1.11) (-4.47) -4.04*** (-4.47) l_fund_size 3.39 (1.28) (1.39) 0.31 (0.53) 0.22 (3.55) 0.22*** (3.55) FUND_FLOW -0.16*** (-3.83) -5.32** (-3.12) * (-2.04) (-5.51) *** (-5.51) EXP_RATIO 21.21*** (3.62) *** (3.25) 3.89 (1.78) 1.91 (16.38) 0.91*** (7.80) PTR (-0.90) (-1.00) (-1.01) 0.00 (-1.23) 0.00 (-1.23) F_AGE (Years) (-0.85) (-0.64) (0.19) (-4.08) *** (-4.08) Adjusted R The regression results of Quantile 3 representing large-sized funds are displayed above. Fund size is positively significant with the net fund return at 1% level of significance. It justifies that increase in the total net assets of the fund, has a favourable impact on the net fund return. Higher the fund size, higher will be the returns. However, contradictory results are displayed by fund flow variable. It portrays a significantly negative relationship between the inflow of funds and the risk premium based on different performance measures. Chapter 5 Fund Characteristics & its Impact on the Performance Page 136

38 Therefore, it can be concluded that, large sized funds earn higher returns when the total net assets increases in terms of capital appreciation on the portfolio. Table 5.17: Year-wise Regression Results of Sample Mutual Fund Schemes EXPLANATORY VARIABLES DEPENDENT VARIABLE INTERCEPT (-0.97) (-0.15) (-1.36) (-1.22) 0.06 (0.74) 0.18 (0.48) l_fund_size 0.015* (1.76) 0.00 (0.09) 0.01 (0.86) 0.012* (1.73) 0.010** (2.47) 0.02 (1.05) FUND_FLOW 0.00 (0.40) * (-1.91) 0.00 (0.76) ** (-2.21) * (-1.80) 0.00 (-0.58) EXP_RATIO 0.03 (0.51) 0.09* (1.766) (-0.32) 0.076** (2.32) 0.00 (0.01) (-0.92) PTR 0.00 (0.49) 0.00** (-2.32) 0.00 (1.11) 0.00 (-0.11) 0.00 (-0.37) 0.001** (2.43) F_AGE (Years) 0.00 (-0.06) 0.00 (-0.59) 0.00 (0.73) 0.00 (-0.50) ** (-2.58) -0.02* (-1.75) Adjusted R Chapter 5 Fund Characteristics & its Impact on the Performance Page 137

39 The above Table 5.17 presents the year-wise regression results of selected sample open-ended equity diversified mutual fund schemes. Dependent variable is the point to point returns computed on the fund and explanatory variables include fund characteristics. It displays significantly positive relationship between fund size and the returns earned on the fund in the year 2007, 2010 and 2011 at 10%, and 5% level of significance respectively. Fund flow displays an inverse relationship with fund returns in the year 2008, 2010 and 2011 at 10%, 5% and 10% level of significance respectively. Expense ratio displays positive significant relationship with fund returns in the year 2008 and It indicates an increase in the expense ratio increases the fund return. Higher Portfolio turnover rate was also successful in yielding higher returns in the year 2008 and Chapter 5 Fund Characteristics & its Impact on the Performance Page 138

40 Further, the study tries to establish the relationship between fund size and expense ratio and fund size and portfolio turnover rate. Tang et al (Undated) states that, the mutual funds with high returns are more informed than its counterparts. If superior mutual funds are well informed and are quick in processing the information, it is expected that they would have higher expenses than less informed mutual funds because gathering information is a costly affair. If funds perform better then it leads to increase in the inflow of money into the fund as more and more investors are attracted towards the fund. The additional money flowing in, covers the operating expenses of the fund thereby allowing these funds to have lower expense ratios and achieve economies of scale. The following hypothesis formulated to test if fund size is related to the expense ratio. This hypothesis is tested using cross-sectional multiple regression models. Null Hypothesis (H0): Fund size is not correlated with the expense ratio. Alternate Hypothesis (H1): Fund size is correlated with the expense ratio. Null Hypothesis (H0): Fund size is not correlated with Portfolio Turnover Rate. Alternate Hypothesis (H1): Fund size is correlated with Portfolio Turnover Rate. Table 5.18 and Table 5.19 reports the average coefficients of cross sectional multiple regression run for all the selected sample open-ended equity diversified mutual funds. In Table 5.18, Expense ratio is considered as dependent variable and independent variables include all the fund attributes considered in the study viz., fund size, fund flow, portfolio turnover rate, and fund age. In Table 5.19, Portfolio Turnover Rate is Regression model is the dependent variable as against the fund Chapter 5 Fund Characteristics & its Impact on the Performance Page 139

41 attributes being the independent variables. Regression model is run for each quantile considering small-sized, mid-sized and large-sized funds and also for the entire selected sample open-ended equity diversified mutual fund schemes. The main purpose here is to find if any relationship exists between the fund size and the expense ratio and portfolio turnover rate and fund size. Numbers in parentheses are t- statistics. One, two and three asterisks denote significance at 10%, 5% and 1% level respectively. Chapter 5 Fund Characteristics & its Impact on the Performance Page 140

42 Table 5.18: Quantile-wise Regression Results considering Expense Ratio as Dependent Variable EXPLANATORY VARIABLES DEPENDENT VARIABLE Q1 Q2 Q3 ALL FUNDS INTERCEPT 1.51* (1.81) 4.87*** (7.26) 4.33*** (5.31) 2.67*** (6.55) l_fund_size 0.03 (0.43) -0.26*** (-4.50) -0.22** (-2.92) -0.06** (-2.46) FUND_FLOW (-1.09) (0.31) 0.003** (2.28) * (-1.91) PTR 0.003** (2.14) (1.012) (1.41) 0.002** (2.34) F_AGE (Years) (0.43) 0.00 (-0.05) (0.67) (-0.55) Adjusted R The above results indicate that, Fund size display significantly negative relationship with the expense ratio for Quantile 2, Quantile 3 and for all the selected sample mutual fund schemes at 1% and 5% level of significance. It proves statistically that, as the fund size shows an increase the expense ratio declines. It gives the benefit of economies of scale for mid-sized and large-sized funds. Fund flow displays a significantly positive relationship with the expense ratio in case of large-sized funds and significantly negative relationship for the entire sample funds. Portfolio turnover rate exhibits significantly positive relationship with the expense ratio of small-sized funds and of the entire selected sample funds. Adjusted R 2 value indicates the percentage of explained variation in dependent variable due to independent variables. Chapter 5 Fund Characteristics & its Impact on the Performance Page 141