Rigi Webinar - Personal Finance | Three traits to know about your fund manager

This year has been a revelation for mutual fund investors who seem to be facing the risk that’s part and parcel of actively managed funds - fund manager risk. Actively managed funds, unlike their passive counterparts, have portfolios that depend on the ability of a fund manager and her analysts to pick securities.

If active fund managers have been able to beat underlying benchmark indices, then there are times they have under delivered too. The last 18-24 months has been such a period where several individual fund managers and active mutual fund schemes have underperformed their benchmark indices.

If you consider the 35 actively managed large cap equity schemes, 12 of them outperformed both the Sensex and Nifty 50 returns for the last one year. While some part of this is a result of the current polarised market trend, fund manager skill should not be overlooked.

When you are choosing an active fund to invest in, you are also choosing the fund manager as the one who will manage your money. It pays to dig a little deeper and know a bit more about this behind-the-scenes individual or team before you pick a scheme.

Consistent or insistent –A consistent performing fund or scheme will ideally show up in the top 20-25 percent of the category for at least 80 percent of historical performances you are looking at.

This takes care of the part where you are analysing the historical performance. How can you tell what to expect from the scheme going forward? A lot of this has to do with the consistency with which the fund manager is able to navigate market cycles and pick good quality, benchmark beating stocks or securities. This is not an easy task. You have to monitor the performance of your fund manager in upcycles and downcycles in the market and what strategies are used across these cycles. Secondly, you have to analyse whether at least 70 percent of the stocks in the portfolio adhere to the investment process outlined by the fund manager.

Is the fund manager able to let go of stocks which over time no longer filter through the defined process, regardless of the popularity of the stock and how long it’s been in the portfolio and whether or not it has reached its market price?

According to Vidya Bala, co-founder, PrimeInvestor.in, “It is tricky to only consider the fund manager. We prefer to focus on the process and strategy that is followed by the fund house. Nevertheless, there are times when stock selection goes wrong and what matters is the ability of the fund manager to course correct at such a time rather than turn the mistake into an opportunity loss for investors.”

A long time, veteran fund manager who moved from mutual funds to portfolio management schemes nearly two decades ago, in an interview once admitted that stock selection mistakes were made in the peak of 2008.

While, he had given up consistent behaviour in that period, he was also not insistent to hold on to his mistakes. A similar trait was seen when the manager of the flag ship equity scheme of a mid-sized asset manager changed to a more concentrated and focused strategy to reverse underperformance.

A consistent fund manager will exhibit discipline and objectivity in selecting stocks and exiting them as per the investment process followed at the fund house.

Risk taker or risk evader – If you want to earn anything more than the risk-free rate of return or what a government bond coupon will pay you, then you have to take some risk. If you are allocating money to managed funds, it’s the fund manager’s job to take calculated risks. Unless they are able to do that, returns will remain low and sub optimal within the category they operate.

Often the line starts to get blurry on either side – how much risk is enough? Some fund managers are seen to have overdiversified portfolios, which also impacts returns negatively. There was a time when the flagship equity scheme of a top five asset manager had around 80 stocks as part of the portfolio. This kind of overdiversification borders results in lowering risk to a point where it starts to lower incremental returns too. This particular fund started falling in peer group performance until its portfolio got revamped into a more focused strategy by the new fund manager who took over the reins.

A good fund manager needs to have optimum risk in the portfolio without taking careless risks where outcomes are too uncertain. Portfolios have gotten more concentrated in a bid to generate alpha, but that too can unduly skew the risks.

Long timer or shifter – One thing that works in favour of the fund manager is being able to stay in one place and manage the few schemes they do, repeatedly over years. The longer the fund manager has stayed on, the more entrenched their own goals and achievements will be with the investment process and the investors with the fund. Someone who moves frequently or every few years to a new fund house will find it hard to add any real value to return outcomes as it takes time for portfolio changes to show result.

Bala says, “Whenever a fund manager leaves, we try to see how the fund is affected. Usually the incoming fund manager doesn’t make too many changes to process and that’s what matters most.”

Picking an asset manager with the right processes is also as important as knowing your fund manager. According to Vivek Rege, founder and chief executive officer, VR Wealth Advisors Pvt Ltd, “It shouldn’t happen that the fund manager overpowers the investment process defined by the fund house. When that starts to happen, one has to relook the process and make it tighter.”

Overpowering the investment process because of their aura that comes from helming investment management for the fund house for many years can result in biased decisions on stock selection and exits which in turn ends up risking investor money, trust and confidence.

Picking the right fund manager is no easy task and what if a new comer has all the traits you are looking for? How you do assess that? To be on the safer side, advisors suggest fixating more on process than on the person. Ultimately, fund managers will change from time to time and they will make mistakes or have subjectivity in their selection. For investors it is best to go with asset managers in fund houses where the process is upheld over the individual, thus, nudging the latter to tightly follow it for generating returns.

(Lisa Pallavi Barbora is a freelance writer. Views are personal.)