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Passives were meant to be simple but they aren't anymore. The passive space in India has gone far beyond plain vanilla market-cap linked index funds and ETFs like Nifty50, Nifty Next 50 and Sensex funds. There are now over 215 passive funds tracking around 90 indices.
Apart from the handful of market-cap linked indices, the rest are either thematic or smart-beta, which is similar to active funds in many ways.
At the recently held Cafemutual Passives Conference 2022, 'passives turning active' was the key point of discussion. Experts shared their views on the use of smart beta and thematic funds, how they are different from actives and the right way to choose a passive fund.
What are smart beta funds?
Passive funds like value, momentum, quality, low risk etc. fall in the smart beta category. The underlying benchmark of these funds have a set methodology to identify the right stocks and the best time to buy and sell those.
For example, value funds use metrics like price to book value, price to earnings per share ratio, price to sales and dividend yield to find out which stocks are low priced relative to their fundamental value.
How are they different from active funds?
Aman Singhania the Vice President & Head - Index Development, Research and Analytics at NSE, said the critical difference between active and smart-beta funds is the way by which stocks are picked. "In case of active funds, stock selection is discretionary as fund managers take the call whereas smart beta funds are rules driven," Singhania said.
"When you invest in a smart beta fund, the decision may be active because you are selecting a particular factor or theme. But the vehicle remains passive," he added.
What is the use of thematic and smart beta funds?
Passive funds allow investors a lot more options. Investors can use them to get 'low cost' exposure to any sector which they are bullish on.
Additionally, it is now possible to even build a portfolio using these strategies.
"Now 70% of the market cap is well covered with index funds and ETFs. You can even build portfolios with passives. High beta portfolios can be build using thematic funds like banking, financial and auto. Similarly, IT and healthcare funds can give you resilient portfolios," said Abhishek Singhal - Business Head - Passives & Alternate Strategy, ABSL MF.
Why there are so many passive funds?
Panellists at the event said AMCs design passive products looking at the requirement of investors and not the demand.
"Investor interest in passive is growing. There is a need for all kinds of products. If we find that a particular product can be of use to a specific category of investors in certain scenarios, we launch the product. Demand is not a challenge. We do not know which product will work when but as long as the product makes sense, there may be a time when people will come looking for it," said Chintan Haria - Head - Product Development & Strategy, ICICI Prudential MF.
How to select the right passive fund?
In case there are several products in the same segment, MFDs should make the choice based on brand, liquidity, tracking error and cost, said panellists. "Go for the cheapest and the most liquid one but make sure not to make the decision based on just cost. Liquidity and low tracking error are equally important factors," they said.
