A COMPARATIVE STUDY OF THE PERFORMANCE OF SELECT FUND OF FUNDS MUTUAL FUND SCHEMES: AN ANALYSIS OF RISK AND RETURN Rohit Gupta Bachelor of Commerce (Finance and Accountancy), Department of Professional Studies, Christ University, Bengaluru, Karnataka, India ABSTRACT India has a diversified financial sector undergoing rapid expansion, both in terms of strong growth of existing financial services firms and new entities entering the market. The sector comprises commercial banks, insurance companies, non-banking financial companies, co-operatives, pension funds, mutual funds and other smaller financial entities. The Mutual Fund (MF) industry in India has seen rapid growth in Assets under Management (AUM). The involvement of mutual funds in the primary issues market needs to be encouraged, as this is essential for the healthy growth of industry and revival of investor confidence. The present paper investigates the performance and risk-return relation of 17 open-ended, growth-oriented equity schemes for the period April 2016 to March 2017. Daily NAV of various schemes has been used to find out the performance of the same. The historical performance of the selected schemes was evaluated on the basis of Sharpe, Treynor, and Jensen s measure whose results will be useful for investors for taking better investment decisions. The study revealed that there is a positive correlation between risk and return of 17 schemes. ICICI has a higher risk compared to others. In the study, the Sharpe ratio was positive for all schemes which showed that funds were providing returns greater than the risk-free rate. Results of Jensen measure revealed that 8 out of 17 (47.05%) schemes were showed positive alpha which indicated superior performance of the schemes. In order to give more return, investment strategy can deviate from the original strategy. KEY WORDS: Evaluation, ICICI, deviate from the original strategy, Treynor s, Sharpe s and Jensen s Ratio 1. INTRODUCTION 1.1 No matter how careful you are, the one risk no investor can ever eliminate is the risk of being wrong. Only by never overpaying, no matter how exciting an investment seems to be you can minimize your odds of error. There are two types of people in the market one who saves their income and other who invests it. Financial System acts as an intermediator between the flow of funds of people who like to save and to those who like to invest in the market for a better return. The mutual fund mobilizes the saving of the investors by investing them into the market to get returns. It can be seen as a link between the investor and financial market. Mainly the market revolves around Equity based a debt-based financial instrument. Where any ownership is represented in any financial instrument that particular instrument is Equity based financial instrument and Debt-based is where any loan is made by an investor to the owner of the asset. When we talk about financial markets or when we look for the profitability in the market we often look at SENSEX and NIFTY. We consider that everything rotates around those two Index, like profit, loss, and stability. But this not the case always. Few instruments are not dependent upon the market and they can outperform or underperform from the existing SENSEX and NIFTY return. This paper discusses the position of Fund of Funds Mutual Funds in the financial market. Nifty 50 has been taken as benchmark. Evaluation of performances have been done by using Treynor s Sharpe s and Jensen s Model. http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 41
1.2 The mutual fund can be understood as a fund well managed by highly qualified professionals where the funds are pooled by the investors to purchase securities. It s a type of an investment vehicle in order to purchase securities. Fund collected by professionals is then invested back in various instruments such as stocks, bonds, money market instrument and other securities. Any profit earned through such investment is divided among the investors in proportion to the units owned by them. They act as a welldiversified method of investment. The returns on Mutual Funds at times outperform the market returns. 1.3 A fund of funds (FOF) is a multi-manager investment strategy in which a fund invests in other types of funds. This strategy invests in a portfolio that contains different underlying assets instead of investing directly in bonds, stocks, and other types of securities. Talking about the strategy of FOF, it aims to achieve greater diversification and appropriate asset allocation into various categories of instruments wrapped into one. FOF provides professional financial management services. It provides a better exposure to small investors with lesser risks. This helps the investors to get self-prepared before they go for the individual fund investing. The advantage of FOF is the diversified portfolios with various underlying assets, which is absent from the individual investment. 1.4 The structure of mutual fund is a 3-tier structure which is constituted of Sponsor, Trustees, and Asset Management Company (AMC). Sponsor is like a promoter of a company. Sponsor comes up with the idea of starting a mutual fund. The sponsor approaches the Securities & Exchange Board of India (SEBI), which is the market regulator and the regulator of mutual funds. The sponsor must fulfill certain criteria to be a sponsor like an experience in the financial sector, his net worth etc. Once SEBI is convinced, the sponsor created a Public Trust (the Second tier) as per the Indian Trusts Act, 1882. Once trust is created, it is registered with SEBI after which this trust is known as the mutual fund. The Trustee work is not to manage money but to see whether the money is being used properly and for the stated purpose. They act as an internal regulator of the fund. In a mutual fund, the AMC is appointed by the trustees in order to manage the money of the investors. For the service provide by the AMC, AMC charges some professional fees which is indirectly borne by the investors. As per the Investment Management Agreement, the sponsors or the trustees appoint AMC as the Investment Manager. The AMC is subjected to the regulations of SEBI under the supervision of Trustees. 1.5 Though Investors made double-digit returns in the year 2017 but still, 2017 mutual funds weren t able to leave behind 2014 trend. In the year 2017, the large-cap category generated an average return of 30.12 percent in the year 2017, compared to 43.04 percent in 2014. The midcap category, on the other, generated 39.76 percent returns in the year 2017 versus 73.06 percent in 2014. Same holds true for the small-cap and multi-cap categories. Reports and market analysis tells us that, the market doesn t hold much of the room for making huge profits. It also concludes that the investors should focus more on consistency in mutual funds instead of chasing the season hot favourite funds 2. LITERATURE REVIEW 2.1 Mark Grinblatt, Sheridan Titman, and Russ Wermers Momentum Investment Strategies, Portfolio Performance, and Herding: A Study of Mutual Fund Behavior (1995) This paper analyses the extent to which mutual funds purchase equity shares based on their past performance and it also analyses the tendency of exhibiting herding behaviour. For this, Quarterly portfolio holding for 274 mutual funds that existed on 31 December 1974was taken from CDA Investment Technology, Inc. of Silver Spring, Maryland. Much cross-sectional regression was carried out mainly of http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 42
fund performance. After the analyse it was seen that mutual funds have a tendency to buy stocks based on their past returns, and mutual funds tend to buy and sell the same stock at the same time (herding). Also, there was a significant degree of cross-sectional dispersion across funds in mutual funds tendency to buy past winners and to trade with the herd. 2.2 Dr Sarita Bahl and Meenakshi Rani A Comparative Analysis Of Mutual Fund Schemes in India (2012) The author has studied the performance of 29 open-ended mutual funds. Mutual funds schemes are growth-oriented equity schemes for the period 2005 April to 2011 March. To calculate the return of the schemes the scholar has used monthly NAV of various schemes. The return has been calculated using Sharpe, Treynor, and Jensen s performance measure. The result of the study showed that around 48% of sample mutual fund schemes had outperformed the benchmark return. From Sharpe ratio, it found that Sharpe ratio is 0.00163 as compared to market 0.00161that shows better performance as compared to the market. Under Treynor, it was seen that some scheme underperformed, these schemes were facing the diversification problem. Tabular Analyses of the Paper Performance Measure No. of Outperformed* Best Scheme Instrument Schemes** Sharpe Measure 16 HDFS Top 200 Growth Treynor Measure 19 UTI Equity Fund Growth Jensen Measure 19 Kotak Opportunity Fund Growth *Benchmark **Out of 29 Schemes 2.3 Brad M. Barber, Terrance Odean and Lu Zheng Out of Sight, Out of Mind: The Effects of Expenses on Mutual Fund Flows (2005) This paper justifies that the purchase decisions of mutual fund investors are influenced by attentiongrabbing information. Investors are more sensitive to in-your-face fees, like front-end loads and commissions, than operating expenses. Investors are tended to buy funds that attract their attention through exceptional performance, marketing, or advertising. After analysing mutual fund flows over last 30 years, they concluded that there are negative relations between flows and front-end-load fees and no relation between operational expenses and fund flows. All these costs are embedded in funds. Front-end loads are more salient than operating expenses. Front-end-load fees are paid 0when a fund is purchased and generally obvious in nominal terms on the first statement following the transaction (load fees are approximately the difference between the amount initially invested in the fund and the fund value on the first monthly statement). Hence, front and end load are transparent expenses and are hidden on the face. On other hand operating expenses are less salient than loads. All such drainage of profit is covered by the return on equity mutual funds. Thus, investors are less likely to avoid funds with high operating expenses. Investors prefer to pay lower fees to mutual fund companies, but they have grown sensitive to front-endload fees and commissions more quickly than to operating expenses. 2.4 Sitesh Sinha Mutual Funds (2010) This paper argues whether the mutual funds can be stated as MYOPIC INVESTMENT IN INDIAN FINANCIAL MARKET. To find answer author raised various arguments including RETAIL PARTICIPATION of the individual investors in mutual funds. The figures were disturbing as only 30% of investment in mutual funds is by individual and remaining by big corporate houses and private investors as compared to the US http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 43
were this figure is 88 %. The author also raised points regarding the amount of investment in equity and debt by mutual funds. The figures show that 28% of MFs is invested in pure equity funds, 4% in equitylinked savings schemes, 12% in liquid funds (money market) while income funds (which are predominantly debt funds) account for 58% of total investments. The author also raised the contrary point that Indian equity market lacks width and breadth and it is not easy to trade/churning equity funds that frequently, as it comes with its own trading cost and liquidity. Besides all this, author with an optimistic future of Mutual funds market in India states that it s growing at good pace and would be unfair to classify them as having a myopic view on Indian financial market. 2.5 Madhu S. Panigrahi Mutual Funds: Growth, Performance and Prospects (1996) This paper gives us a brief history of mutual fund in India from the time of inception till now. It states various reasons behind the growth of mutual fund in India among middle-class family. Few stated reasons were little knowledge of investor of the market and mutual funds being an immediate instrument of investment having an optimal trade-off between risk and return. This paper also talked about the regulatory framework and reason to set one which is to protect investor s interest and channelize investor funds into the most productive area. SEBI started regulating mutual funds from 1 July 1994 until ten it was regulated by UTI Act itself. SEBI guidelines dealt with 3 aspects establishment, operation and discipline which require every mutual fund to set up a trust, setting up Board of trustees and appointment of a separate custodian. This paper also briefed about the limitations of mutual funds in India as it is in very infant stage in India as compared to the US and talked about various ways of covering those limitations including qualified and experienced manpower to handle mutual funds business, allowing corporates to invest in MONEY MARKET mutual funds which in turn will improve liquidity in money market and will also facilitate govt. borrowing programme. It also highlighted the growth of Non- UTI mutual funds from 7 to 20mutual fund schemes. This paper tells about the trend of mutual funds in India. The industry had put 29.18 percent of its total investments on equity shares during 1990-91 and the corresponding percentage in 1993-94 was 49.44 percent. This shows a clear shift from income to growth fund and the possible reason as stated is a decline in the rate of interest from 19%(1991-92) to 14% (1993-94). This paper concluded the shift from individual investor to the institutional investor and predicted the growth potential of mutual funds by two to three-folds by the year 2000 with growth in numbers of players, schemes and investors. The few reasons they stated for the expected growth of mutual funds in coming time was that mutual fund cult has spread faster to a relatively wider area than the equity cult in recent years and mutual fund have given better results (15%-25%) which is higher than any other instrument. 2.6 Rajesh Manjrekar and Pankaj Sinha Myopic Investment View of the Indian Mutual Fund Industry (2010) this paper studies about the general overview of the investment pattern of Indian mutual funds. For this, it compares the trends in operations for all mutual funds companies in India for the periods December 2007 to May 2008 and December 2008 to May 2009. To access the general trend in the movement they have focused on the net movement of funds. Thus, the net of sales and purchases was calculated for each month for all funds in terms of quantity (number of shares bought and sold) and value (net change in the value of equity investment). It was seen that many above -average positions taken by some of the MFs indicate that the industry was moving in tandem with the short-term volatility of the market rather than having a long-term strategy of buy and hold. After significant observations author concluded that Indian mutual fund industry can t be called as one having long-term investment horizon. The author also suggested that committee should set some investment norms about holding period for http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 44
stocks owned by the Mutual Fund industry and stated urgent need to set up audit committee for the industry. 3. RESEARCH METHODOLOGY 3.1STATEMENT OF PROBLEM As discussed above, the market being volatile it s difficult to interpret risk and return. Somewhere even treasury bills have a risk. There is no such instrument which is risk-free. There is always uncertainty about the possible return on any investment. When investors talk about Mutual Fund we consider it as more diversified and more return on investment with less risk attached to it. Mutual Funds in layman terms means pooling of resources i.e. funds, where the funds are managed by highly qualified managers called as fund managers. But the challenged is effective investing of funds. This paper deals with analysing 17 schemes of fund of funds, studying risk-return relation and evaluating the same using Treynor s, Sharpe s and Jensen s ratios of performance evaluation. 3.2 OBJECTIVES To analyse the performance of the select Fund of Funds Mutual Funds Schemes in terms of risk and returns. To make a comparative analysis of the performance of Fund of Funds Mutual Funds Schemes using Treynor s Sharpe s and Jensen s Models of Evaluation To Rank the different schemes based on the performance 3.3 SCOPE The present paper studies the performance of 17 open-ended, growth-oriented schemes for the period April 2016 to March 2017. Daily NAV of 17 schemes has been used in the study. Treynor s, Sharpe s and Jensen s method of portfolio evaluation have been used to evaluate the performance of the schemes and a detailed study of risk-return analysis has been done to provide a better understanding to the investors. Nifty 50 has been used as the benchmark. To provide clear picture regarding the performance, schemes have been ranked. 3.4 METHODOLOGY The type of research included in the study is Quantitative and Analytical study. The research methodology is based on Performance evaluation and understanding Risk-Return relation. For performance evaluation, Sharpe, Treynor and Jensen measures have been used. TREYNOR MEASURE Treynor ratio shows the risk adjusted performance of the fund. Here the denominator is the beta of the portfolio. Thus, it takes into account the systematic risk of the portfolio. = (Rp-Rf)/Beta (p) Rp: Return on the portfolio http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 45
Rf: Risk-freerate Beta: The sensitivity of the portfolio to changes in the overall market. SHARPE MEASURE Sharpe ratio is a measure of excess portfolio return over the risk-free rate relative to its standard deviation. Normally, the 90-day Treasury bill rate is taken as the proxy for risk-free rate. = R (p) - R(f)} /s(p) R (p): Portfolio return R (f): Risk free rate of return S (p): Standard deviation of the portfolio JENSEN S MEASURE Jensen's alpha is used to determine the abnormal return of a security or portfolio of securities over the theoretical expected return. It is a version of the standard alpha based on a theoretical performance index instead of a market index. = R(p)-[R(f) + Beta(p)*{R(m)-R(f)}] R(p):Portfolio return R(f):Risk free rate of return Beta: The sensitivity of the portfolio to changes in the overall market. R(m): Return in market 3.5 Data source and references: Secondary data has been used for the research. The data has been compiled from various webpages and websites. https://www.mutualfundindia.com/ https://www.amfiindia.com/ https://www.nseindia.com/ https://bluechipindia.co.in/mutualfund/mfinner.aspx?id=1 http://www.moneycontrol.com/mutual-funds/performance-tracker/returns/large-cap.html Annual Reports of various AMC (Asset Management Company) Sponsors data to find out about various schemes 4. Data Analysis The following table represents the relation between Risk and Return of 17 schemes. Return has been calculated by taking average of daily return of a particular scheme whereas the risk is the change of daily NAV of a particular scheme. http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 46
Table No. 1 Risk and Return Analysis Risk and Return Analysis of Selected SCHEMES taking NIFTY 50 INDEX as Benchmark (APRIL 2016 TO MARCH 2017) Name of the Schemes Return Risk ICICI Prudential Very Aggressive Plan 0.084 3.324485 ICICI Prudential Advisor Series Long Term Savings Plan 0.0784 2.662175 ICICI Prudential Moderate Plan 0.0724 2.08136 ICICI Prudential Advisor Series - Dynamic Accrual Plan 0.04 0.782819 ICICI Prudential Cautious Plan 0.0447 0.92766 HDFC Dynamic PE Ratio Fund of Funds 0.0959 0.93804 Kotak Asset Allocator Fund 0.066 2.735623 BSL Financial Planning Fund of Funds Aggressive 0.0817 0.946494 BSL Asset Allocator Multi Manager Fund of Funds Scheme 0.0736 0.577563 Quantum Equity Fund of Funds 0.0945 1.598114 Quantum Multi Asset Fund 0.0549 0.540641 HSBC Managed Solutions India - Growth 0.0916 0.796914 HSBC Managed Solutions India - Moderate 0.0805 0.685559 HSBC Managed Solutions India - Conservative 0.0401 0.402075 Principal Asset Allocation Fund of Funds - Aggressive Plan 0.0799 0.584169 Principal Asset Allocation Fund of Funds - Moderate Plan 0.0584 0.424592 Principal Asset Allocation Fund of Funds - Conservative Plan 0.0422 0.322141 From the above table it is clear that Higher the Risk Higher the Return. All the schemes follow the universal principal of risk-return relation http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 47
Table No.2 Performance Evaluation using Treynor s and Sharpe s Ratios taking Nifty 50 as Benchmark RANKING OF SELECTED SCHEMES with NIFTY 50 INDEX (APRIL 2016 TO MARCH 2017) Name of the Schemes Treynor's Ranks Sharpe's Ranks ICICI Prudential Very Aggressive Plan 0.01062 5 0.001209 5 ICICI Prudential Advisor Series Long Term Savings Plan -0.00296 9-0.00059 8 ICICI Prudential Moderate Plan -0.01803 11-0.00361 9 ICICI Prudential Advisor Series - Dynamic Accrual Plan 12.15824 1-0.05104 15 ICICI Prudential Cautious Plan -0.72984 17-0.03803 12 HDFC Dynamic PE Ratio Fund of Funds 0.022119 2 0.016962 1 Kotak Asset Allocator Fund -0.03813 12-0.0051 10 BSL Financial Planning Fund of Funds Aggressive 0.002526 6 0.001808 4 BSL Asset Allocator Multi Manager Fund of Funds Scheme -0.01429 10-0.01099 11 Quantum Equity Fund of Funds 0.016003 3 0.009093 3 Quantum Multi Asset Fund -0.07048 14-0.04632 13 HSBC Managed Solutions India - Growth 0.014132 4 0.014626 2 HSBC Managed Solutions India - Moderate 0.000837 7 0.000819 6 HSBC Managed Solutions India - Conservative -0.37684 16-0.09899 16 Principal Asset Allocation Fund of Funds - Aggressive Plan 0 8 0 7 Principal Asset Allocation Fund of Funds - Moderate Plan -0.05792 13-0.05074 14 Principal Asset Allocation Fund of Funds - Conservative Plan -0.27077 15-0.1172 17 Schemes have been evaluated using Treynor s, Sharpe s and Jensen s ratios and the same have been ranked accordingly to provide better understanding. Table No. 2 shows the performance as per Treynor s and Sharpe s whereas Table No 3 about Jensen s ratio. http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 48
Table No. 3 Performance Evaluation using Jensen Ratio taking Nifty 50 as Benchmark RANKING OF SELECTED SCHEMES with NIFTY 50 INDEX (APRIL 2016 TO MARCH 2017) Name of the Schemes Jensen's Ranks ICICI Prudential Very Aggressive Plan 0.006554 4 ICICI Prudential Advisor Series Long Term Savings Plan 0.001992 8 ICICI Prudential Moderate Plan -0.00472 9 ICICI Prudential Advisor Series - Dynamic Accrual Plan -0.03998 17 ICICI Prudential Cautious Plan -0.03496 13 HDFC Dynamic PE Ratio Fund of Funds 0.02073 1 Kotak Asset Allocator Fund -0.01149 10 BSL Financial Planning Fund of Funds Aggressive 0.006252 5 BSL Asset Allocator Multi Manager Fund of Funds Scheme -0.03889 15 Quantum Equity Fund of Funds 0.020616 2 Quantum Multi Asset Fund -0.02266 12 HSBC Managed Solutions India - Growth 0.017181 3 HSBC Managed Solutions India - Moderate 0.005055 6 HSBC Managed Solutions India - Conservative -0.03909 16 Principal Asset Allocation Fund of Funds - Aggressive Plan 0.004812 7 Principal Asset Allocation Fund of Funds - Moderate Plan -0.01905 11 Principal Asset Allocation Fund of Funds - Conservative Plan -0.03682 14 5 FINDING AND INTERPRETATION Table 1 represents risk-return analysis. All schemes have followed the risk-return universal pattern. ICICI seems to have higher risk among others schemes. HDFC and HSBC are among good performers in Fund of Funds Mutual Fund. Investment is Kotak AMC is risky and return is not as per risk undertaken. Table 2 represents the result of Treynor and Sharpe measure. It is observed from the table that higher value of Sharpe measure is found in HDFC Dynamic PE Ratio Fund of Funds which is followed by HSBC Managed Solutions India Growth and Quantum Equity Fund of Funds. In the study, the Sharpe ratio is positive for all the schemes which showed the funds are providing returns greater than the risk-free rate. In the context of Treynor measure, it is revealed that ICICI Prudential Advisor Series - Dynamic Accrual Plan is the top performer. In case of comparative ranking of Sharpe and Treynor measure, it is found that 2 schemes out of 17 schemes had an exactly same ranking for both Sharpe and Treynor measure and other schemes had not the same ranking the reason may be of the Sharpe measure use total risk and Treynor measure use systematic risk. http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 49
Table 3 represents the Jensen measure of schemes. Results of Jensen measure revealed that 8 out of 17 schemes were showed positive alpha which indicated superior performance of the schemes and remaining schemes have negative alpha. Among the entire schemes higher alpha is found with HDFC Dynamic PE Ratio Fund of Funds followed by Quantum Equity Fund of Funds and HSBC Managed Solutions India Growth. 6 CONCLUSIONS Indian financial market is in an emerging mode. With Nifty crossing 10k mark and Sensex 30k mark, everyone wants to make use of the available opportunity. In the current research project, an attempt has been made to analyse the performance of select fund of funds mutual funds using various measures and to find out the risk-return relation of the schemes. ICICI schemes have high risk compare to others. The performance of the funds is better where the risk is higher. Hence, it can be concluded that the risk and returns of the fund of fund mutual funds is low and it can be preferred by the investors whose objective is to assume moderate risk with decent returns. Therefore, an investor should select funds based on his/her preferred level of risk level. BIBLIOGRAPHY Brad M. Barber, T. O. (2005). Out of Sight, Out of Mind: The Effects of Expenses on Mutual Fund Flows. The University of Chicago Press. Retrieved from http://www.jstor.org/stable/10.1086/497042 Grinblatt.M, T. &. (1999). Momentum Investment Strategies, Portfolio Performance, and Herding: A Study of Mutual Fund Behavior. American Economic Association. Retrieved from http://www.jstor.org/stable/2950976?seq=1#page_scan_tab_contents MANJREKAR, R., & SINHA, P. (2010). Myopic Investment View of the Indian Mutual Fund Industry. Economic and Political Weekly, 13-17. Panigrahi, M. S. (1996). Mutual Funds: Growth, Performance and Prospects. Economic and Political Weekly, 765-775 RANI, D. S. (2012). A COMPARATIVE ANALYSIS OF MUTUAL FUND SCHEMES IN INDIA. International Journal of Marketing, Financial Services & Management Research. Retrieved from http://indianresearchjournals.com/pdf/ijmfsmr/2012/july/6.pdf http://www.investorzclub.com/2011/08/intelligent-investor-by-benjamin-graham.html http://www.jamrpublication.com email id- jamrpublication@gmail.com Page 50