Can Mutual Funds stop the bear run?

The last 6 months have been really troubling for stock market all over the world. While Dow reached it 2 years low, Nifty dipped below its sentimental level of 4000. In such a volatile market investments made for short term made people lose drastically. The recent dip of NIFTY index from 6280 to 3800 made even the value investor worried.

Looking at the major inflow in the market, we see that two major players – Domestic mutual fund (DMF) and Foreign Institutional investors (FII); behaved differently in the market. While FII pulled out money amounting around 25000 Crore, mutual funds cumulatively invested 9000 Crore in the market. More over the pattern shown in the diagram above explains that; at every fall FII were the one who pulled out money while in most of the dips, mutual funds invested in equity. With more than 600 stocks trading at below its’ 52 weeks lows, fund managers find it quite attractive to take position while FII who are there in market for short term took their money out in panic. As discussed in the previous posts, the compounded annual return is more than 30% for NIFTY index; hence such unexpected fall should be taken as an opportunity by both mutual funds and retail investors to invest rather than to stay away from the market. Staying invested for medium to long term will certainly be rewarding.

Looking at the major players in the market, the question arises about the driving players in the market at present? Is it the FIIs who are running away from the market or the Mutual funds who are investing quite cautiously? FIIs’ pull-out of 25000 crore has been really a reason to worry. This exit has been the major factor of indices taking a dip, but with more than 20,000 crore fund and cash equivalent uninvested, asset management companies (AMCs) have the potential to change the sentiments and encourage people for value investing. Surprisingly this time, the retail investors in Mutual funds have not rushed to redeem the allocated units hence fund managers have more flexibility to move their investment into blue chips which are available at quite a reasonable price.

Why many mutual funds fail to perform?

Mutual fund is a wonderful financial instrument for people who have neither time nor the inclination to test their understanding of the stock market. It helps people with a very small amount of money to diversify their portfolio to minimize the risk. But even then quite often amateurs easily outperform many mutual funds. In fact in long run most of the mutual funds underperform in comparison to their respective benchmark index.

As Peter Lynch says, this is not because of the inability of the fund managers, but it is the inherent fear of losing. Success is one thing, but it is more important not to look bad if you fail. Managers are quite aware that if they lose even 20-30% of investors’ money on company like Reliance, people will question Reliance for its failure than the manager to predict such movement. But a 10% loss on IFCI could call for reasoning behind such investment. It is better to fail on conventional stocks to keep the job safe than to try unconventional stocks and brings the job in jeopardy. That is the reason why most of the fund managers keep looking for reasons not to buy exciting stocks.

The other issue with mutual fund is the fee that management charges to their investor for managing their fund. An entry load of 2.25% brings down the returns by a significant level and again the exit load (In case of most of the mutual funds) of 2.25% further takes away return from the investors. According to Buffet, in Wall-Street, such management fund causes mutual funds giving less than 80% of return in comparison to the index funds.

Another hurdle with mutual fund is the regulation imposed by monitoring authority like Security and Exchange Board of India (SEBI). The upper cap of stake on a particular stock forces fund managers to look for some less attractive stocks than to increase stake on stocks which are bound to give better returns. Specially, in case of Small-Cap, size prevents manager to buy in such companies, because it is not possible to buy enough shares to have noticeable improvement in fund’s performance.

In such a situation, one of the alternative investors could think of is putting money in index funds, which do not need any management and hence can save the entry and exit load. Index funds are kind of exchange traded fund, where individuals’ money is put in different constituents on the index in proportion to their weight in the index. For example the index fund of NIFTY consists of 50 stocks which are constituent of S&P CNX NIFTY, and the money invested in this index-fund is proportionally distributed among these 50 stocks. One can also look for funds which have outperformed the index consistently in past 3 to 5 years. There are a few good mutual-funds which have beaten the index by a significant difference and hence preferred even after the management fee. More importantly, an individual needs to look at the fund-managers’ performance rather than the funds’ performance. As change of management could lead to change in ideology and can have impact on returns as well.

Domestic Institutional Investors (DII) were the major buyers which held the markets

Domestic Institutional Investors (DII), which includes Mutual Funds, Insurance firms, and Domestic Financial Institutions (DFI) mainly banks etc., were the major buyers in the past week when the FIIs sold away heavily in the equity markets. While the FIIs have taken away Rs. 15,000 crores from the markets, DIIs have put in about Rs. 10,000 crores. Major part of DII money has come from insurance and financial institutions. Government had asked these institutions to place money in bluechip firms to give support to the markets. LIC, the biggest insurance firm of India, alone has been estimated to have put in $1 billion(Rs. 4000 crores) in the last week.
In the year 2008(till January 25, 2008) FIIs have sold worth Rs. 23,000 crores, while DIIs have bought worth Rs. 12,800 crores.

FII sold heavily in mid January crash

While the Mutual Funds started selling in the initial days of the previous week, they started pumping in the money during the fall of the stocks. FIIs on the other hand were about neutral in the week before but they suddenly started selling off heavily each day and even on last few days of the week when the sensex gained significantly, FIIs were net sellers to the extent of more than 1000 crores of rupees. Though the last day selling was very less compared to previous three days in which they sold about 2500 crores worth of stocks each day.

Where to get the FII and Mutual Fund investment activity in Indian stock/equity & debt markets?

FII (Foreign Institutional Investors) and Mutual funds activities are very important for short term traders to speculate the trend. Being major players most of the time their actions moves the market up or down. Fortunately SEBI (Securities and Exchange Board of India) publishes the total amount of buying and selling done by FIIs and Mutual Funds in the Indian equity and debt market.

The data are made available to the public through SEBI's website in the "FII / Mutual Funds Trends" column. The webpage gives the last trading day's activities by FIIs and MFs and has archives for each day of current month. To visit the archieves for periods earlier than one month another archive section for both FIIs and Mutual Funds is available. To access any historical data enter the closing date of that month and click 'go'.

According to a note on SEBI's website:

"Note: The data pertains to all the activities undertaken by FIIs in Indian Securities Market, including trades done in secondary market, primary market and activities involoved in right/bonus issues, private placement, merger & acquisition etc."

SEBI has a 'investors awareness campaign' and provides the investors with the latest data/information to help them make informed choices.

Nifty falls below 6000 mark first time in 2008 led by Mutual funds sell off

Indian stock market has seen heavy sell off in the past two days. The benchmark indices Nifty and Sensex have touched a low level of about 4-5% from the closing value two days back. We will try to analyse the reasons for this abrupt selling, but first we shall look into the trends of the Indian stock market for past one year. The following graphs are self-explanatory:

Variation of Nifty-50 over one year. Returns in excess of 50% in one year.

Past one month variation in Nifty index. Highly volatile. Nifty fell sharply in mid December 2007, and also rise sharply the next week. Touched new highs of 6300 in January 2008 before falling back sharply below the 6000 level in mid January. Will Nifty rise back sharply as seen in December last year, perhaps no one can say so for sure.

The last two days heavy sell off can be seen in this chart. On January 15, and 16 Nifty has fallen sharply and only in last hour of trading on January 16, bulls have tried to come back.

Reasons for sharp fall:

If we look at two big group of players in the Indian markets, the FIIs and the mutual funds, the perception of both are not same. While mutual funds have been one of major reason as they have sold off heavily in equities in the last two trading session, FIIs have been buying steadily though their activity has slowed down.
One of the apparent reason is the Reliance Power IPO, India's biggest IPO so far, which opened for subscription on January 15, 2008. The size of the IPO is about 3 billion dollars and it got fully subscribed within minutes of its opening. The excitement about the IPO has lead to it getting more than 10 times offer for subscription on the first day itself. This is remarkable considering the size of the issue. About 27 billion dollars have shifted to Reliance Power and it appears that a substantial part of it has been coming from the stock markets. There is a craze for IPOs and this has led to spectacular performance of the IPOs in the last year. Moreover, at levels above 6300 for Nifty many investors don't see any significant upside and have taken their money from stock market to the IPO which has higher chances of giving them 40-50% returns on listing.