October 16, 2016

When Flagship Funds Falter

Last month, Sundaram MF brought down the curtain on its equity scheme, Sundaram Growth Fund, by merging it with another scheme, Sundaram Select Focus.  It isn’t unusual for fund houses to merge schemes.  What stood out in this case was the fact that Sundaram Growth Fund, which had been in existence for over 19 years, was the first scheme launched by Sundaram MF, and for several years, was its flagship equity scheme.  As I went looking to see how this had come about, I found myself drawing parallels with ICICI Premier, which was wound up over 11 years ago.  This was the first scheme launched by ICICI Prudential MF (or ICICI MF, as it was known at the time of its launch).  I believe that what happened with these two schemes should give investors across fund houses something to think about, regardless of whether one invested in these schemes or not.  In this post, I lay out my own thoughts.

To a prospective investor, a flagship scheme is a powerful symbol of the competence of a fund house.  One fund manager I know, used to call flagship schemes a “safe bet” for investors.  “No sensible fund manager will ever mess with a flagship fund,” he would say.  That may be true but looking at the returns of ICICI Premier and Sundaram Growth Fund, it seems that something went terribly wrong.  Here are the facts:

ICICI Premier was launched in Feb 1994, and like many other schemes of the time, it was structured as a closed ended equity scheme with a tenure of 5 years.  Also like many other schemes of the time, through a combination of market forces and questionable investment choices, it left its investors disappointed. At the end of 5 years, its tenure was extended, but it was converted into a balanced scheme.  Eventually, it was wound up in 2005.  Over its 11 year existence, its return was just over 4% p.a. 

In contrast, Sundaram Growth Fund gave much better returns.  At the time of its merger, its return since its launch in April 1997 was over 15% p.a.  However, if we dig below the surface, a somewhat fragmented picture emerges.  At the peak of the 2007-08 bull run, its return since its launch was nearly 30% p.a.  But over the subsequent 8 odd years, till its merger last month, it generated no additional return.  At the time of its merger, the NAV of its growth option was at about the same level as it was in Jan 2008.  To give this some more context, over these 8 odd years, the returns of the scheme trailed the Nifty 50 TRI by over 5% p.a.  If my numbers are correct, this scheme gave less returns than the Nifty 50 in 7 out of the last 8 calendar years.

I have little doubt in my mind that if the returns had been better, neither of these schemes would have been closed.

But how does one explain the returns of these schemes? How much of these could be attributed to poor choices, and how much to bad luck?

As I have maintained in the past, there is no way to analyze the data and know for sure. On the face of it, though, the returns look too low to be explained away by bad luck.  And there is one other troubling fact.  While these schemes were going through those rough patches, so to say, the fund houses chose to launch new schemes.  Soon after ICICI Premier was launched, the fund house launched a second equity scheme despite not having any track record to speak of.  Four years later, it launched a third equity scheme, despite the fact that the NAVs of both its earlier schemes were below par.  As for Sundaram MF, over the last 8 years, it appeared to be focused on launching an endless series of equity schemes.  By my count, from 2008 onwards, Sundaram MF has launched 27 equity schemes. 

Quite frankly, I am inclined to believe that these fund houses were trying to shift the attention of prospective investors (and, in the process, their own attention) to other schemes. 

Many years ago, I remember hearing a conversation between the CEO of a certain fund house and one of his sales managers.  It was at a time when questions were being asked about the performance of one of the flagship schemes managed by that fund house.  The sales manager suggested to the CEO that it might be worthwhile to focus their promotional efforts on other schemes.  The CEO’s response, as I remember it, was this: “If we can’t manage our flagship schemes well, then how will investors trust us to manage any other schemes?”

I believe that the manner in which fund houses manage and regard their flagship schemes in tough times, is a good indicator of whether they deserve our trust or not. 

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