Point

Ramesh Kabra,

Head-Product Development,

Taurus Mutual Fund

If you are a long-term investor and are looking for a simple and efficient way to invest for meeting your financial goals then you do not need to look beyond actively managed equity funds.

In the debate on ‘active funds vs. ETFs’, I am an advocate for actively managed funds and believe that in India, active funds would continue to outperform the ETFs. One simple reason is that India is a developing economy and even though the markets have reached certain maturity they still are inefficient and offer active fund managers the opportunity to identify growth stocks which could turn out to be multi-baggers. This enables the fund manager to generate alpha and in the process outperform the relative benchmark.

ETFs have been introduced in the Indian markets for the last couple of years but they have not yet been able to make any significant presence here. They currently account for approximately 1% of the Industry's AUM. Even in the ETF space, gold ETFs would account for bulk of the ETF AUM.

Proponents of ETFs cite the example of USA to suggest that sooner or later, they would gain popularity here. However, one must note that in USA, ETFs have become more popular as they offer a distinct tax advantage as compared to actively managed funds. They offer no such advantage in India.

ETFs do offer certain conveniences and advantages to certain class of investors but the advantages offered by active funds far outweigh them.

The advantages of active funds:

• Active funds provide much wider portfolio diversification
• Different funds can adopt different investment strategies – multi cap, small cap, contra, quant strategy etc.
• Fund managers can make judicious use of derivatives to enhance returns
• With no entry loads and low exit loads, actively managed funds have become cheaper for the investors
• With funds being available online the ease & convenience of transacting has gone up
• Systematic Investment Plan in actively managed funds is the time-tested perfect recipe for creating long-term wealth.
• Actively managed funds offer the convenience of switching from debt to equity and vice-versa 

ETFs are traded on the exchange so they tend to be looked as any other stock by the investors. While this may be advantageous for certain section of investors, the intraday trading opportunities created by ETFs do not gel with the long term investor's strategy because they tend to get carried away by market news, daily ups & downs and end up exiting from their ETFs. ETFs also suffer from low volumes and investors also have to pay brokerage/ STT charges while buying & selling ETFs.

As a mutual fund Investor why should you settle for average returns when actively managed funds offer you the potential to earn much higher returns?

Counterpoint

Nitin Rakesh

CEO and Managing Director

Motilal Oswal Asset Management Company

Since the 1995 launch of the first ETF based on the S&P 500 Index, ETF units are innovations which account for a large chunk of volumes in global stock markets. ETFs may represent a basket of stocks which replicate or enhance an index such as the CNX Midcap or the Nasdaq-100 Index.  Along with diversification benefits at low cost, ETFs may offer trading flexibility of a stock (short selling, buying on margin and purchasing single units). So any investor or trader may trade an index (or other ETF) irrespective of the size of their position or the value of their individual trade.

Additionally, all ETFs offer a significant diversification benefit. Firstly it allows the investors to invest in multiple markets or market segments without incurring the cost of replicating stock / bond portfolio. Within the portfolio, numerous stocks tend to be not perfectly correlated. Hence, the volatility of an ETF with a significant number of constituents will be lower.

A Mutual Fund: Like a mutual fund, all ETFs are open ended funds, which continuously issue/redeem units and declare a Net Asset Value (NAV) of the underlying portfolio on a periodic basis. And like a mutual fund, an ETF is managed by an Asset Management Company whose activities have the fund’s trustee’s oversight as well as supervision by the stock market regulators.

A Share: But an ETF is exactly like a share on the stock exchange. Market entities are buyers, sellers and there are intermediaries (brokers) and an exchange where the trades take place. Unlike a share, however, fresh tradable shares of the ETF (units) can be continuously created (or redeemed) on-demand (subject to minimum volumes), which ensures that the premiums or discounts to the price are a temporary phenomenon.

Advantage ETF: ETFs indicative NAV (i-NAV) is continuously calculated and published. While i-NAV is a reflection of the value of the underlying stock, the price of the ETF unit reflects market’s interest based on the participant’s view of the underlying basket, providing transparency, intra-day liquidity and thereby better price discovery. For investors, this allows them to trade and monitor their portfolio in real time and take corrective measures should their risk appetite change.

Investing in an ETF, unlike a share, provides liquidity by secondary market trading as well as through the unit creation/redemption process. The former is measured by trading volumes and the latter is virtually unlimited for creation and limited to the AUM for redemption. All these activities have the effect of matching demand and supply thereby catering to all sizes of investor orders. Trading volumes therefore have little bearing on the liquidity of an ETF.