April 17, 2016

The Mysterious Expenses of a Floating Rate Fund

This post is about a floating rate scheme, whose trail I picked up on an online discussion forum.  This scheme is managed by one of the top fund houses (by AUM). 

According to the official fact sheets, the monthly expense ratios of this scheme from October 2015 to February 2016 were as given below:

Month Regular Plan Direct Plan
Oct 2015 0.35% 0.10%
Nov 2015 0.35% 0.10%
Dec 2015 0.81% 0.55%
Jan 2016 0.35% 0.10%
Feb 2016 0.35% 0.10%

You may notice that the expense ratio for December stands out for being way above what appears to be the norm.  In that month, the AAUM of the scheme was 1402 crore, of which 898 crore was in the regular plan.  This would suggest that in that month, the fund house charged the investors an amount of about 54 lakhs over and above what it would have charged, had the expense ratio stuck to that norm.  When I went digging further, there was more to this than met the eye: this amount of 54 lakhs had actually been charged over a period of just 8 days. 

It emerged that the change in expense ratio was not for the full month of December 2015, as the factsheets were suggesting, but for a period of 8 days only.  Through most of that month, expenses were charged at a flat rate of 0.35% for the regular plan and 0.10% for the direct plan. It was only from December 24 to December 31 that the expense ratio was changed.  From January 1, the fund house reverted to the rate that it had been charging earlier.  But it wasn’t just the shortness of the period of change that stood out: there was also the fact that for that brief period of 8 days, the expense ratio was significantly hiked and inexplicably linked to the AUM as detailed below:

  Regular Plan Direct Plan
On first 100 crore net assets 2.45% 2.20%
On next 300 crore net assets 2.20% 1.95%
On next 300 crore net assets 1.95% 1.70%
On balance net assets 1.70% 1.45%

But by how much exactly was the expense ratio increased?

Since the AAUM of the month and the expense ratio for the month as a whole is known to us, it is possible to separately calculate the AAUM for the periods from December 1 to December 23, and December 24 to December 31, and from this derive the actual expense ratio.  This is what I could deduce:

  Regular Plan Direct Plan
Dec 1 – Dec 23    
AAUM (Rs crore) 875 510
Expense ratio 0.35% 0.10%
Dec 24 – Dec 31    
AAUM (Rs crore) 964 488
Expense ratio 2.01% 1.90%

(These numbers are approximations and have been derived from publicly available data.)

If my calculations are correct, this would mean that for those 8 days, investors under the regular plan saw their expense ratio increased by almost 6 times.  And investors under the direct plan saw their expense ratio increased by 19 times.

So why was the expense ratio hiked so sharply? Why, only for those 8 days, would this fund house want to link the expense ratio to the AUM?  What exactly was the nature of these expenses?

I think the fund house owes its investors answers to these questions.  The fund house may not have done anything illegal but its actions certainly appear to be dubious, and do not inspire confidence.  This is not the first instance of my spotting ambiguities and inconsistencies in this fund house’s disclosures: in an assessment that I had made in December 2014 (see here), this fund house fared very poorly. 

Nonetheless, as with questionable practices that I have raised in the past, I feel a mixture of sadness and anger at how some fund houses seem to have scant respect for their investors or the nobility of this business.  Instances such as this also make me question the role of the trustees, and how something like this could get past them.  Last but not the least, if this industry has to truly build credibility, SEBI needs to ensure better standards of disclosure around expense ratios.

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