There is
a dramatic increase in mutual fund mergers, accounting for tie-ups involving
over 38 funds. The five years from
2006-10 had seen only 58 fund mergers and about 64% of these had taken place
from 2008-10. “This was due to the SEBI
observation that there are several schemes with overlapping mandates, which are
confusing investors,” says Jayant Pai, vice-president, Parag Parikh Financial
Advisory Services. In fact, the
regulator had stopped approving new fund offers (NFOs), whose investment
objectives were similar to the existing schemes in a particular AMC portfolio.
On the
face, there is no harm in consolidation, especially if one considers the large
number of mutual fund schemes operating in the country. According to the data sourced from Accord
Fintech, the 41 fund houses in the country are managing 4,173 schemes, of which
69% are open-ended and 54% are handled by the top 10 fund houses. Though the most common reason for mergers as
cited by fund houses is consolidation, this is not always the case. The motives are more complicated and
wide-ranging, be it underperformance, asset retention or fear of
redemption. So what should you do if the
fund you have invested in is merged into another? Your reaction should depend on the reason for
the merger. Let us consider some of
these.
Underperformance:
“One big
reason for mergers is the sustained underperformance of a fund,” says Maneesh
Kumar, MD, Burgeon Wealth Advisors.
“With SEBI’s directive that the performance of all schemes managed by
the same manager should be publicized in the promotional material, bad
performance of funds cannot be hidden as easily as could be done earlier,” says
Pai. Experts explain that usually a
scheme that is performing poorly is merged with a better performing one. Hence, investors may benefit from such
mergers. However, the extent to which
this holds true is debatable as every such merger doesn’t yield good returns
for investors. For instance, JM
Financial Asset Management merged its funds, JM Agri & Infra Fund and JM HI
FI Fund, into JM Basic Fund, which has delivered negative returns of over 18%
and 6% over the past three and five years, respectively.
“Underperformance
by a few schemes from the same stable could render the good performance of the
flagship scheme useless. Hence, the
mergers become imperative,” says Joseph Thomas, head, investment advisory &
financial planning, Aditya Birla Money.
However,
Kumar says that refurbishing the flagship fund can also be the reason for a
merger. “If the performance of the flagship scheme begins to falter, it may
decide to pump up the performance by merging another, better performing,
smaller fund into it,” says Kumar.
What you
should do:
If your
fund is being merged because it’s not performing well, you must find out about
the scheme in which it is being merged.
Nothing can be worse than letting your money flow from one bad option to
another. If, however, you are satisfied with your fund’s returns and feel that
the underperformance of the AMC’s flagship scheme is the reason for the merger,
then it’s better to opt out of the scheme.
Cost
rationalization:
Almost
every investment strategy works in a rising market. When the markets are on a
roll, so is the investor sentiment. They look for something different and are
curious to try out funds with fancy names and objectives. As a result, the fund houses get an
opportunity to increase their assets under management by floating new fund
offers. In fact, the mutual fund
industry witnessed the launch of over 83 new funds from 2005-7.
The
opposite is true in slack markets.
Investors want to stick to the tried and tested large-cap and
diversified equity funds and stay away from novelty. However, AMC’s have fixed and variable costs
carried over from the market heyday, but which they probably can’t afford to
bear anymore. “One shouldn’t forget that
after the mass redemptions in 2008, the outflows weren’t adequately replenished
later. These schemes were most likely no
longer capable of carrying the load of an entire fund management team,” says
Kumar.
Clearly,
amalgamation of schemes is an easy option to trim down the costs. “Mergers economise the administrative costs
and those of servicing the customers.
The time and resources spent on managing the portfolio also reduce,”
says Thomas. “Taking advantage of SEBI’s
observation, AMCs that are saddled with a plethora of schemes launched during
the NFO mania have chosen to merge them,” says Pai.
What you
should do:
If your
fund has been doing well, opt out of the merger. This is because a fund house that tries to
reduce its costs at the investor’s expense by forcing redemption in a volatile
market doesn’t have your interests at heart.
Redemption
fears:
In a choppy market, the fear
of redemption pressure exists and is likely to be more challenging for a small
fund. “The fund manager could end up
selling his jewels at fire-sale prices,” says Kumar. To prevent such a misfortune, the AMCs decide
to merge funds. So, if a redemption
request needs to be serviced, it can be done from a much larger set of stocks
that are more liquid. In fact, a large
number of schemes that have been merged did not have any significant assets
under management. “Even the funds that
are performing well are merged due to their smaller AUMs. Very small funds can cost more to manage than
they generate in fees,” says Ashwinder Raj Singh, head of wealth management,
Fullerton Securities. Besides, the AMC’s
focus is on the flagship schemes, not the small ones.
What you should do:
If the redemption is from a
well-performing fund due to the panic of conservative investors and this is the
main reason for a merger, you can remain invested in the fund.
Retaining assets:
Another reason that fuels
scheme mergers is the bid to retain assets.
This can happen when a star fund manager leaves an AMC, leaving a void
that is hard to be filled. “Savvy investors
follow such changes. In order to retain
the assets, the AMC may decide to merge the funds managed by him with another
fund that has won the confidence of investors over a period of time,” says
Kumar. The same reason spurs the merger
of closed-ended schemes with open-ended ones.
For instance, ICICI Prudential merged its ICICI Fusion, a closed-ended
fund with ICICI Opportunities, an open-ended fund, after the maturity of the
former in arch 2011. “Instead of
liquidating the assets, the fund manager decided to open the fund and retain a
significant portion of the assets,” says Singh.
What you should do:
If asset retention is the
reason for a merger, staying with it is a matter of investor’s discretion.
Merger of unlikes:
Over 30% of the funds that
have been merged this year are thematic or sectoral. While the regulator encourages merger of
funds, it should primarily be across funds with similar investment
objectives. For instance, the merger of
FMCG fund with one is having consumption as its theme makes sense. However, there is little logic in merging a
pharma and an FMCG fund into a large-and mid-cap fund, as was done recently by
Franklin Templeton.
It merged its Franklin Pharma and Franklin
FMCG unto Franklin India Prima Plus.
Experts offer more insight on the reasons and rationality of this
trend. “The current valuations are
attractive in all sectors. Instead of
restricting to a particular sector, fund managers want to take advantage of the
correction in all sectors,” says Singh.
Besides, sectorial and
thematic funds have performance cycles and deliver returns in spurts. So, while pharma sector has rallied in the
past two years, it was an extremely indifferent performer in 2006-8. “These funds carry greater risk compared to a
diversified scheme and hence, the movement away from sectorial and thematic
ideas,” says Thomas.
It is also because a
particular sector/theme does not play out as was anticipated. This happened with infrastructure, power and
IT, among others. “If an investor has
taken a call on a particular sector/theme, such mergers defeat the purpose,”
says Pai.
What you should do:
If you have a strong,
positive view regarding the performance of the sector/theme, you should redeem
your money and redeploy the corpus to some other well-performing fund, having
the same sector/theme.
To
conclude, while scheme mergers are advantageous for the fund houses, their
impact on investors is not definitive and depends on the reason for the
merger. Besides, a merger can force an
investor to redeem his money and the current, uncertain market may not be the
most appropriate time for doing so. This
is because it could result in a serious investment mistake of buying high and
selling low.
To
conclude, while scheme mergers are advantageous for the fund houses, their
impact on investors is not definitive and depends on the reason for the
merger. Besides, a merger can force an
investor to redeem his money and the current, uncertain market may not be the
most appropriate time for doing so. This
is because it could result in a serious investment mistake of buying high and
selling low.
BY Prof. Sachin
Napate
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