At the end of last week, the trailing 12 months return of one of the balanced funds managed by ICICI Prudential MF (I-Pru) was 5.5%. In itself this may not mean much, but look at this along with the following information:
- Over the same period, the returns of the open end, domestic, diversified equity funds managed by I-Pru ranged from 7.7% to 23.2%, while the returns of its debt funds ranged from 6.8% to 11.3%.
- Going by month-end disclosures over the past 12 months, the balanced fund had, on an average, 82% of its portfolio in equities.
Thus, a hypothetical investor who had the misfortune of investing 82% of his/ her portfolio into the worst performing equity fund (in terms of returns) and the balance into the worst performing debt fund, would have seen a return of 7.5% over this period. So how is it that this balanced fund was able to generate a return of only 5.5%?
Frankly, I can’t think of any generous explanation for this. Even the fact that this fund had a higher expense ratio than almost all of the other funds managed by I-Pru, can hardly explain the difference in these numbers.
For whatever you may find this to be worth, this particular balanced fund also happens to have a patchy record in protecting downside risk during market falls/ crashes. By my estimate, in the 2015-16 fall, this fund gave a worse return than 35% of pure equity funds across the industry while in the 2008-09 crash, it gave a worse return than 76% of pure equity funds (including sector funds).
This may be an extreme example, but the instances of hybrid funds giving questionable returns are far more frequent and widespread than one may realize. As quick and dirty evidence, consider this: when I zipped through the performance numbers of the past 12 months, I counted 25 hybrid funds that gave less returns than every single equity fund and debt fund of their respective fund houses. When I increased the time frame to cover the returns over the past 36 months, I counted 23 hybrid funds that gave less returns than every single equity fund and debt fund of their respective fund houses. In my counting, I tried to avoid including funds which have exposure to gold.
For those who may like another, more specific example, let me share with you some information that recently came my way, regarding Axis Hybrid Fund – Series 5. This is a closed end scheme which can have up to 30% of its portfolio allocated to equities. It was launched in July 2013 with a tenure of 3.5 years, at the end of which it was rolled over.
At the time of its launch, 3 year AAA bonds were yielding between 8.5%-9.5% p.a., and over the original tenure of the scheme, the BSE Sensex TRI grew by over 11% p.a. Despite this, the fund managed a return of just 6.2% p.a. What makes this number even more dubious is the fact that over that same period, the debt funds managed by the fund house gave returns ranging from 8.6% p.a. to 10.4% p.a. while their equity funds gave returns ranging from 12.5% p.a. to 23.6% p.a. If instead of investing in this hybrid fund, investors had put 80% of their money in their worst performing debt fund and the balance in their worst performing equity fund, they would have got a return of 9.4% p.a. Once again, I cannot think of any charitable explanation for that fund to have given a return of 6.2% p.a.
But that’s not all. Along the way to earning those meagre returns, investors were exposed to extreme fluctuations. In calendar year 2014, the fund gave a return of 21.6% while in 2015 and 2016 its returns were –2.1% and 0.2% respectively. From what I can make out, the pattern of questionable returns and extreme fluctuations continued in subsequent, similar schemes launched by the fund house.
Generally speaking, neither do I invest in hybrid funds, nor do I recommend them. There are three things, in particular, that make me uncomfortable. The first is the fact that most hybrid schemes do not stipulate what sort of equity shares will they invest into (large cap, mid-cap etc.) or what sort of credit quality or average maturity will the debt portion of the portfolio have. The second is the practice of having separate fund managers for the equity and debt components of these funds. In my opinion, a few exceptions aside, it results in each fund manager being accountable in a limited way with no one being ultimately accountable for the fund’s performance. The third is the tendency of many fund houses to have disproportionately high expense ratios for these funds.
Thus, when I look at performance numbers such as those mentioned above, I find it hard to believe that these are just on account of bad luck. I prefer to take the view that the absence of a rigid investment framework, combined with limited accountability, has resulted in many hybrid funds being managed recklessly.
