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Fund Size Does Not Matter

The size of a fund is not important, as far as investors should be concerned. They should instead concentrate on its performance

Just the other day, I saw a mutual fund performance report from a large broking house that was so wrong in its approach that it was almost funny. Or rather, it would have been funny were it not for the implications for the broking house's customers. This report, which was prepared by the broking house's mutual fund research team, showed the investment performance of a large number of equity funds. The bizarre part was the report was sorted by fund size with the largest funds listed on top. This focus on fund size being an important parameter in investing showed up in other parts of this research report also.

Why this focus on fund size? Frankly, there is no rational reason for it. Still, since some funds are larger and others are smaller, fund marketers for the larger ones try and use this as a positive point, and some investors (and apparently, analysts) get influenced by it. I suppose the logic is that if a fund has been given a lot of money to manage then this proves that the fund must be good. However, this is simply not true. While an exceptional performance over a long period of time does result in greater amounts of money flowing into funds, there are many other reasons why money streams into some funds and not others.

In recent years, some funds have collected a large amount of money during their new fund offer (NFO) periods - when they have no performance to speak off. In fact, funds that have had extra-large NFOs have typically done worse than smaller ones. While there are some funds that have become large because of a long history of doing well, that's not the main reason.

About the only serious size-related factor that one can think of is that if a mid-cap fund grows too large, it will have a hard time finding enough investment-worthy companies to invest in. However, for large-cap funds, even this is not an issue. The largest equity fund that invests in India is actually not an Indian fund, but an overseas fund run by HSBC. This fund is more than Rs 25,000 crore and doesn't appear to have any size-related problem.

In any case, as an investor, not only should you pay almost no attention to the size of a fund, you should rebuke any salesman who tries to do so for trying to mislead you. Interestingly, this big-is-good marketing message is also often extended to fund companies. Fund distributors flogging funds from the larger fund companies never fail to mention this fact. The logic is supposedly similar to that of individual funds. If the fund company is big, it must be doing something right. While that is true, that 'something' it is doing right could be just marketing. 

All in all, size matters, but not always. There are different sets of very real problems that are faced by very small funds and fund companies. However, outside the extremes, it is difficult to see any real evidence of size having any effect on performance. As a positive factor, the size of a fund or a fund company is of relevance to its owners, not to its investors.