The Mutual Fund Show: Getting Started With Index Funds

Gurmeet Chadha: I think the turning point for me was when I saw some data on the number of active users on cricket gaming apps, without taking specific names, there were 15 crore people, unique users who were playing it. There were like 6-7 crore people who are playing online rummy. We saw recently that crypto has almost 11 crore unique users.

Then I saw the number of active investors in mutual funds. The safe investors are like three crore unique, mutual funds overall had four crore investors and Demat again has about four crore unique investors. So, I thought the other places are quick, get rich schemes, which most likely most people want and here is an India story which forget about this decade or next decade, Sensex from 100 to 62,000, Nifty from 1000 is 18,000 plus and I calculated the rolling returns.

I did not calculate the simple one-year, three-year, five-year, I calculated the rolling returns over five-years, 10-years, and to my surprise, Nifty 50 was 14%, Nifty next 50 was 16%. These are five-year, 10-year, 15-year rolling returns, and this is a sure shot way of accumulating good wealth.

I don't know how many people will make a crore while playing but if you give yourself, you know 10-15 good years in market, I think there is a sweet thought that it's our responsibility also to add more unique investors to play the India story and without getting any bias in between because I am an active portfolio manager.

So, a lot of people ask me that, why is it so, sometimes I tell, this is not one against the other, this is about working out the right combination. So, we thought about removing bias. The first step would be to index right and then the portfolio can be built upon.

Gurmeet Chadha: In fact, to make it simple, we made a QR code. We thought these days QR code is in fashion because everybody' is making digital payments using the QR codes.

We made a QR code and if you just scan the QR code, it shows you what Nifty has done which is the data I gave you and you can click to invest. It's a campaign where you think because index funds are mostly passive, low expense, you can just do it on your own or take help, but the idea is just to start.

Mrin Agarwal: Absolutely, and I want to congratulate Gurmeet on this particular campaign. I think this is so required in India and it is really sad as he mentioned about the numbers that we have such a low percentage of our population, believing in our own India story and investing in equities and this is more from my financial education background that I see that people are always looking at making a quick buck or really looking at getting wealthy but unfortunately, they don't want to look at the simplest way of doing it, they want to do it at the most complicated way of doing it.

So, the simple way of doing it is through equities and of course, the first question being that why you need to have exposure to equities. I mean, I still come across a lot of people who have 90-95% exposure to traditional investments and maybe 5% exposure to equity and the reality is that today with that sort of exposure, you are really not going to meet any of your life goals.

So, even if you don't believe in the India story or that's not your reason for investing, the whole point is that when you look at it for yourself, if you really want to meet financial goals today, given the fact that the inflation on goals, like education is more than 10%, just putting money in a fixed deposit or in an insurance scheme is really not going to help you because it doesn't give you that sort of return.

So, the only one product if you look historically as well, even if you compare gold versus equities, equity is the only product that's actually beaten that sort of inflation and that's simple enough reason for anybody to have it.

Now why an index fund because again, I see people being very confused about what fund to buy, how do you buy it, how do you even figure out even if you look at stocks. Why not stocks, because it's so difficult to figure out what to buy so the Nifty 50 index fund is the easiest thing to buy today. It's the lowest cost thing that you can buy, and just remain invested.

Mrin Agarwal: Yes. That's what I tell most people that if you don't know what to buy, the index is always a great option to invest in and focus on generating income.

Gurmeet Chadha: So, what we have seen is that the returns mirror the nominal growth in the economy because India's economy has been growing at about 11-12%. Even this year, RBI Governor spoke of 7% GDP growth and if you add about 5% inflation, India is at top 12%-13%.

So, I think till the time the nominal growth is in double digit, I think, the returns will come, the only disclaimer here is the returns are lumpy. So, I will give you interesting data, the average return on Sensex is 14% for 40 years, but then only four years it is given 14%. So, either it is way above or way below, so, you have one good year, or which makes up for two-three. So, I think it's important to take blocks of maybe six to eight years to play that double digit out. So, it will not be every year.

In fact, we have had 70% positive closing annually since inception on the index, which will technically every three years, two years, the index gives you annual closing positive but it’s the right in between sometimes it can get this, for example, last 18 months, returns will be flat. October 2021, we were 18,600 and we are in May 2023 and the returns are still let's say about a year, we have about 18200-300.

So, you can have two or three years of poor performance, sub-par performance and you have to ride through it and people who ride through it actually what makes this investing really special.

Mrin Agarwal: NAV is simply the price of the scheme in very simple terms and essentially it tells you at what price you can buy the scheme or what is the current value of the scheme, very simply. Now, NAV on its own is actually not very useful, what you do need to track as an investor is what is the change in the NAV and what is the growth in the NAV.

So yes, a lot of time investors get into funds which have lower NAV but it actually doesn't really matter, whether you are getting into a fund at Rs 10 or you are getting into a fund at Rs 100 or getting into a fund at Rs 1000, what you need to look at is what is the growth in the NAV and not what is the absolute NAV itself.

Gurmeet Chadha: NAV is the starting point, and as Mrin said that it doesn't signify anything. It's basically the market value of securities divided by the number of units outstanding, it is as simple as that. See, a high NAV does not denote that the fund has become expensive vice-a-versa an NFO does not denote that you know the fund is cheap, that's one misconception is the appreciation in the NAV that should be the goal.

So, there are a lot of funds for example, last one year where the NAVs are about 700 and have delivered 15% return and there are NFOs which came in 10 and the NAV still below 10, so purely the NAV on absolute basis means nothing, the starting point is appreciation in NAV.

The second thing in terms of how often I would prefer, once in six months or I am a lazy investor, maybe if you are more active, maybe quarterly, but once in six months or even a year is a good time to do that. So, one is not just performance, it has to be performance in relation to benchmark, performance in relation to peers. So that's one performance has to be generated.

Number two, you also have to look at, you know the aspects like risk-adjusted returns. So, it should not be returns in absolute terms, for example, a thematic fund which like banking would have given great returns, but you are just excluding yourself only one sector, so it has to be risk-adjusted returns, number two.

Number three, sometimes underperformance is good, so, you should in fact question outperformance. A lot of time we get carried away by six-month, 12-month returns, if you see for example, in 2016-17, Motilal the star fund house and I am just trying to give examples, then was Axis mutual fund because their focused style of investing made a lot of sense because only few things did well, the same Bajaj, the same Divi’s, the same issue and it had a concentrated portfolio. Then you know when Covid happened, we saw a vertical recovery. So, anything and everything went up.

In terms of whatever you invested, then came a zone of high interest rate but value services started to do well. So suddenly, all PSU banks, people who are holding PSU banks, people were holding commodities did well. So, it's important to see the style of the portfolio and sometimes some underperformance is good.

So, let's say my part is not doing well but if my fund is holding I.T. and pharma, it means because it's not doing well for a reason because the cycles change quickly. So having a blend of both styles has both growth and value in the portfolio.

Sometimes you get so focused on quantitative analysis, we miss the qualitative part of it and because cycles have shortened, the star performer of this year could be an underperformer next year. So, if there is underperformance and underperformance for right reasons, underperformance is welcome.

But if underperformance is because of high churning, very high standard deviation and the fund manager not really sticking to what it really stands for, it also makes sense to change the fund.

Mrin Agarwal: It has no relation at all. It doesn't really matter again, as I said, because what you are really looking at is how is the Rs 500 NAV fund is growing and this fund has become Rs 500 because it's probably been around for a longer time and or it has also done really well.

So, it's a combination of both factors, the lifetime of the fund and the performance of the fund, that's the only reason that it said 500. It doesn't indicate anything about the future performance and there's nothing to say that a Rs 10 fund is not going to do as well as a Rs 500 fund and vice versa.

Mrin Agarwal: I think for most investors, I would say that looking at it once a year is good enough. Of course, if you're an active investor and you have a very large portfolio, obviously, you would look at it more often, maybe on a quarterly basis. But I think for a majority of investors, looking at their portfolio once a year is good enough and I actually highly recommend not having any of these apps where you are tracking these NAVs on a daily basis.I recommend not to have any of these on your phones.

So, I think looking at the funds on a yearly basis and really seeing what's the performance of the fund on a relative basis, as Gurmeet mentioned to benchmark as well as category average, and seeing whether the fund has really helped you meet your goals in any way or not. 

I think the main thing is really to see whether there's underperformance and if there's underperformance don't exit right away because that's what most people do. They just hit the exit button or hit the pause button right away, right.

So, I think the idea is that you need to start tracking the fund again for probably six months to a year, and then only there's a huge amount of underperformance again, relative to benchmark on category average, you actually look at taking action.

So, certainly it's not bad to have an underperforming fund, I mean, if you just invested a year back and the fund is underperforming, it's nothing to be really perturbed about so badly as well.