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Guest Column Do not compare apples with oranges post scheme merger

Do not compare apples with oranges post scheme merger

AMCs would like to boast long-term track record of their performing schemes post merger.
Joydeep Sen May 27, 2018

While comparing a fund’s performance vis-à-vis its peers, you need to ensure that you evaluate the performance of similar schemes.

For example, comparing a short-term fund investing in high quality debt with a mixed basket of short-term funds would give you misleading results. A mixed basket refers to a scenario when some short-term funds invest in good quality debt while others take credit risk. The result would be misleading because a credit-risk fund has a higher portfolio-running yield compared to a fund holding good quality debt.

Taking an example from equity perspective, comparing a mid-cap fund with a basket consisting of both mid-cap and small cap funds would yield a similarly erroneous result. This is because the risk-return proposition offered by companies in the two categories is different. SEBI rules on scheme rationalisation aim to bring uniformity in terms of investment mandate by clearly defining the investment universe of each mutual fund category.

In light of SEBI rules, many big fund houses merged their similar schemes. To ensure better disclosure standards and empower investors to make well informed decisions, SEBI introduced another guideline on April 12 to gauge the performance of funds post scheme mergers. It states, “When Scheme A (Transferor Scheme) gets merged into Scheme B (Transferee Scheme) and the features of Scheme A (Transferor scheme) are retained, the performance of the scheme whose features are retained needs to be disclosed.” This implies that the AMC cannot chose to retain the history of the better performing fund at its discretion.

The SEBI circular also states, “When Scheme A (Transferor Scheme) gets merged with Scheme B (Transferee Scheme) and a new scheme, Scheme C emerges after such consolidation or merger of schemes, the past performance need not be provided.” This means, the AMC can start scheme C’s NAV afresh after the merger creating a completely new fund.

However, despite rules there are certain grey areas, which an advisor needs to keep in mind. For example, when a fund house changes a fund’s positioning but they retain the performance history of their schemes even post change in scheme’s attributes because it gives the scheme a track record. However, it is debatable whether it is fair on the part of mutual funds to do so as the previous performance is owing to a completely differently managed fund.

Let us understand this with the help of examples. Say, an AMC changes its money market fund to an arbitrage fund. Earlier, the fund’s performance could be attributed to interest income received from its money market investments such as CDs and CPs. Post change, majority of the fund’s performance is derived from returns generated due to cash-futures arbitrage opportunities in equity market. If we are comparing the scheme with other arbitrage funds a month after the change in positioning, then effectively we are comparing performance of a money market fund with arbitrage funds over a three-month, six-month and one-year horizon.

This discussion becomes pertinent now as this anomaly persists. In addition, if two schemes have different features, fund houses can highlight the weighted average performance of the surviving or retained scheme. However, fund houses can also disclose the past performance of the scheme which was not retained post-merger on request of investors.

Another likely case is when allocation to equity in a hybrid fund has been increased significantly post categorisation to avail of tax efficiency of equity funds. Despite this, the fund house can retain the performance history of the surviving scheme.

Takeaway for advisors and investors:

There is no point in debating whether or not it is fair to retain the earlier performance history. The point is, AMCs would like to boast long-term track record of their performing schemes. Hence, as advisors, we need to keep a tab on re-positioned funds and ensure that we compare only relevant funds.

Joydeep Sen is founder, wiseinvestor.in

The views expressed in this article are solely of the author and do not necessarily reflect the views of Cafemutual.

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