This review aims to highlight a few points recently highlighted by Rajrishi Singhal in the Economic Times.(Dtd 5th July Middle page). I have condensed the information for your understanding.
With good sources of investments drying up, mutual fund houses seem to be taking advantage of it by making it an unsafe proposition. Heard of the Goose with the Golden eggs? A similar story seems to be repeating. They seem to think that they can get away with it by milking us forever with hidden costs. Below are a few highlighted in the article and a few hidden rules I have experienced.
a. An entry load rule includes that any investment below 5 crores is subject to a 2.25% deduction. Suppose you have invested about INR 10000, then instead of getting 1000 units at face value, you are paying 10.225 for 977 units. This is before they even invest your money in the market. Though a few fund houses do not charge this voluntarily, the majority of them seem to be following this idiocy. Why don’t they make it compulsory for investments over 5 crores and let the lower end investors out of it? The 2.25% is actually meant for SIP investors. Suppose you purchase initially at INR 10 per unit, the SIP investor has to pay per unit inclusive of the hidden 2.25%. The SIP investors who claim to purchase future units on a monthly basis would need to pay. It makes sense only in such a case.
b. The AMC costs annually are to be considered. Each fund house is eligible for a share of the profits. Of course, otherwise there’s no point. This would be for the mails, the print, and costs of running the established fund. But then this cost is the only one a corporate faces while it is an additional burden to the retail investor. Besides, what if the fund underperforms? Bingo! You end up loosing money while the fund house still retains its profit. And if the fund over performs? They take a bigger share in the profits.
c. Most corporates park their surplus funds in mutual funds. Suppose a single corporate decides to exit the fund, it would not make a difference. But usually most quit the fund together making it hard for the mutual fund house to find the funds. They are forced to sell of their investments to meet the requirements and guess who ends the looser? Us, the poor schmucks. Even if the market is doing well, you end up holding the can under such a situation with a lesser face value per unit. The fund house costs would be higher and distributed for the poor, poor investors left…
The debate has been raging after the recent crash in the markets. An analysis and a draft later, the government is now planning to regulate the amount of money a corporate investor can invest in a fund. Not only that, they also aim to regulate the number of corporate investors in each fund. That would mean a virtual goldmine for small time investors. And the fund houses can also breathe easy, but the costs of service would be much higher if the funds collected during the initial offer is low. I am confident, that the government has taken the right steps this time.
If the rule comes into effect, then the mutual funds would remain a safe investment with the highest returns for the small time investor. Also the cascading effect of it would be the stock markets. If a fund house withdraws its funds, it would not necessarily mean that the markets would go down. It would mean that the stocks in turn would be more stable to price fluctuations as the corporate investors are evenly distributed among different funds. Though it regulates the big money, it would mean the small time investors are not affected.
Right now, there is a debate between the new rules of the ULIP policies which have been effective from July. The insurance component has been drastically increased while keeping premiums in mind. Though it is wiser to have an increased insurance component for any eventualities, how significantly it would have an effect on the markets remain to be seen.
My suggestions –
It looks a good proposition to enter a mutual fund at it’s **lowest value, not entry value.
Stay away from Contra funds - They invest in derivatives too, but is a risky proposition. More risks are attached to it. Even if the markets are profitting, they spend additional investments in insuring the lower returns. And in case the market is doing dull, we loose more. It is simply too expensive.
Invest in existing funds - At entry value you are paying 10 Rs per unit while it’s lowest value would depend on the market price. For ex., in the recent stock market crash, the Nav values are down from around 17 Rs to 7 per unit for a particular fund offer. It makes sense to buy at Rs 7 instead of going for a new offer as you get more units at this rate. Currently it is quoted at 7.15 Rs. So for the same minimum investment of 5000 which fetches you 500 units in a new offering gets you 689 units here. Just suppose you had purchased at a face value of 10, you would need to wait 3 - 5 years just to reach 689 units with dividend reinvestment. That’s a significant discount! Check out the NAV values of each fund house and Go for it!