Hybrid Funds: Adding gold did not help

SBI Mutual Fund has recently filed an offer document with the Securities and Exchange Board of India (SEBI) to launch an open-ended hybrid fund—SBI EDGE Fund. This Fund would join the list of other schemes where asset management companies use gold as an asset class to lure investors. With no attraction for equity, and knowing the affinity of Indians towards gold (and with the past 10 years witnessing a vertical rise in gold prices), fund houses have resorted to adding gold as an asset class to the investment portfolio. A majority of these 18 funds are just about a year old.

If you had invested in these funds expecting that you would get the ‘benefits’ of investing in gold, you would have erred in your assumption. As we had suspected and forecast, most of these funds have done marginally better than a liquid fund or even a bank fixed deposit in the past one year. Of the 13 funds that have been in existence for more than a year, just six were able to outperform their composite benchmark (where available). However, the return on the funds for this period has varied significantly compared to each other due to varying asset allocation strategies followed by them. Canara Robeco InDiGo Fund topped the list with a return of 14.9% supported by the 32.38% rally in gold prices. The scheme that provided the least return was ICICI Prudential Advisor Aggressive Plan, with a return of just 6.89%, though better than that of its composite benchmark. It does not pay to be aggressive in investing; being very aggressive could be quite a disaster. Hope the SBI Mutual Fund does not do what it says it would. In the past six-month period, as many as 10 out of the 18 funds in existence underperformed their benchmark. For the year-to-date returns, ironically, the schemes which had a high allocation for equity did well. These included Fidelity India Children’s Plan-Marriage Fund, ING Optimix Financial Planning Fund-Aggressive and UTI Wealth Builder Fund-Series II.

Of the 18 schemes, as many as 15 have an allocation of 10% or more for gold, as per their December 2011 portfolio; four schemes hold 25% or more of assets in gold. So, why did adding gold not help? This is because these funds were launched at the fag end of the gold rally (fund houses always launch a product after a bull market in that product has already matured). Gold has gone down in the recent three-month period. Where it will go from here, no one can predict accurately. SBI Mutual Fund would be investing 10%-60% in gold, which is too high an allocation for a speculative product like gold; also, their investment in gold has the highest upper limit compared to other hybrid funds. Such investments are not only very risky for all investors but are confusing for discerning investors as well.

Apart from the risk in gold, investors would be left in a dilemma about how much to invest in such a fund. With huge variance in asset allocation, how much should one invest if one is planning for a particular goal? How much returns is the scheme expected to generate? For the same kind of scheme and the same kind of investment strategy (ICICI Prudential Advisor series, IDFC Asset Allocation FoF and ING Optimix Financial Planning funds), asset allocation varies drastically. If fund managers have different allocations for a similar kind of plan, how would the investor decide which would suit his profile? The allocation of the scheme, thus, depends on the fund manager and what he feels is an aggressive plan or a moderate plan. Fund houses need to come out with simple schemes that would benefit investors by fitting into a financial plan and not leaving them more confused, especially since SEBI has ensured that few people have any interest in selling mutual funds. Finally, investors in these funds have to shell out long term capital gains tax as well, even if the fund invests a large part of its assets in equity. So not only do investors take on added risk and get lower returns but they also have to forfeit the tax benefit they would get if they had invested only in equities.

Who benefits by these funds, if not investors? Obviously, the fund companies. Remember, your returns are variable but the returns of fund companies are fixed (fund management fee as a percentage of fund assets) and, therefore, rise with the money they manage. The more of your money they can get into the funds, the higher is their income. It is quite interesting to see that some of the top-performing fund houses like HDFC, Franklin Templeton and DSP Merrill Lynch have not launched funds with gold as an investment. At least, not yet.

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