Let me just explain that the ETF inflows are not discretionary flows. It is a very programmed flow. It is a very designed thing because most of the money coming in these ETFs is from the NPAs as well as the EPFO. People salary gets deducted and 5% of that has to find its way in this ETF. This ETF started in July 2015 from nothing and has turned to be one of India’s largest equity funds. The total asset is Rs 46,000 crore. The median flow in this fund over this period is nearly Rs 900 crore which means month after month, Rs 900 crore keeps coming. Not only that, it is rising because when salaries get revised, this 5% incremental flow will also go up.
Not only that, this 5% allocation to equity from EPFO can also go up because they have permission to increase it up to 15%. It will go up steadily. They are just testing the waters and they have found this good neat vehicle. ETF is a nice way for institutional investors to invest because you just settle to be an average. You do not aspire to beat the index and you do not want to take the blame of underperforming the index. But at the same time, whatever your research analysts were saying, people do not get up on 1st of January every year to invest in an ETF and take their money out on 31st of December.
People earn, save and invest and invest their long-term money in equity and they should ideally be investing regularly. This ETF has presented a case and largecap funds have definitely lost a plot because of very understandable reason. Two things – one is that 2018 was a very unusual year when two of the biggest positions in Nifty suddenly did exceptionally well after seven-eight years of slumber. That apart, they had a rating in the index because our indices are not created to mount funds on that. They have the kind of weightage which mutual funds cannot have.
In fact, there is a regulatory ceiling that their allocation to a single position cannot be what a weight in an index can be for top holding. So, it was a very skewed index. That apart, mutual funds are at a great disadvantage because they are damn expensive. This ETF cost 10 bps. Other largecap funds cost you 2-2.5%. So, mutual funds have to certainly generate alpha of 2.5% to match the index, leave aside beat the index. They are at a disadvantage.
But I still feel that the case for investing in actively managed fund is very compelling. The alpha that gets created by your nominal allocation to mid and smallcap segment of the market or non-index allocation or even a variant of the allocation. If you drop the PSUs from the index, your index looks much more handsome. Simple value additions can be done on the indices which most fund managers can do. Of course, cost is an advantage and settling with average is basically a save your job proposition. It works nicely and it will keep growing.
You are talking about how flows that we have seen into ETFs can largely be attributed to the EPFO and the NPS. But from an investor standpoint, there is not too much interest. Can you explain how there is no allocation to mid and smallcaps as that’s where the alpha is?
I do not think so. I would say alpha in a large cap universe can be added by. You do not have to discover something when it comes to limiting yourself to a largecap universe. Alpha gets created only if you are able to avoid and emphasise something which you think about. But the cost disadvantage. You have to beat the index by 2% to match it.
Below 50 companies, below 100 companies is where you come across multibaggers. Also investors do not invest on an annual year-on-year basis. You want to accumulate substantial savings. That apart, the equity returns will always be very lumpy. Sometimes the reward of withstanding difficult times or having your conviction is when you look at any 5-year, 10-year or 15-year period and on point to point return as well as SIP return, the actively managed fund 90% of the time actually beats the index. When it comes to looking at few special years, mutual funds look very bad. 2018 was one such year, 2008 was another year. 2013 was also a bad year where most funds struggled. But people do not invest for a year.
You believe that investors really should not be looking at ETFs as a lucrative option. Where exactly then do you see value for them to invest in?
Investors should be guided by more than ETFs or actively managed fund. If you are able to be a regular investor whether ETF or this, you will be able to beat the index, Besides that, in India if you are investing for five years and more, you should be investing in a not so large multi-cap fund because when multi-cap funds turn large, they are forced to become largecap-oriented and they have all the odds start against them.
If you are unable to do that, one can use the ETFs as a very low-cost vehicle to ride the markets. Maybe one should have a 70% allocation to these funds and the remaining 30% in mid and smallcaps. You have created your own multi-cap with 70% of your money incurring very low cost. That is another approach which one can take, but investors’ discipline, timeframe is a more crucial ingredient of your financial success or reward from equity than choosing the best vehicle.
What are the three recommendations from you for multi-cap funds for those who are joining in right now and want to make a fresh allocation?
There is a problem of plenty. I would say that look at the same old Prima Plus. There is a huge problem with these multi-cap category that as the good ones succeed, they get so much money that they are forced to become a largecap fund. But I would say that the Axis Equity Fund is still a very promising one.
Some value funds look very promising and they are going to remain size agnostic in terms of they will go anywhere kind of attitude, Quantum Long Term Equity Value Fund, Value Equity Fund is a very promising one.
Likewise I would say that some of the HDFC Funds, HDFC Equity is getting its momentum back and look promising. maybe worst might be behind them.