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Should Fund Investors Worry?

In the market letdown of the last three months, the category of equity diversified funds has come out to the worst affected. So, is this the end of the road for fund investors?

Recently, we a team of analysts at Value Research did a study to measure exactly how badly has the recent downfall in stock prices hurt stock prices. The results threw up some numbers that may come as a surprise to those focused on the recent crash. The big news is hardly news--equity funds have had a horrendous time in the recent times. In fact, it is a surprise how bad has the recent quarter (January to March) been for equity funds. This three month period has generally been the worst that equity funds have had since this decade began in January 2001. That's impressive, though not in a good way. Funds that we classify in the key 'Diversified Equity' category, which has the largest number of funds (194) as well as the highest investor interest, lost an average of 28.3 per cent in just these three months. This was far worse than the previous worst of the decade, when these funds lost 16.9 per cent in the first three months of 2001.

A comparison with the benchmark indices show up funds in an even worse light. Of the 277 equity funds (which includes diversified equity as well as other categories) that were part of this study, only 35 outperformed their benchmarks while 242 failed to do so. What's worse, of the 35 which beat the benchmark, a mere seven managed to do so by a margin greater than five per cent. At the other end of the scale, as many as 142 funds underperformed their benchmarks by more than five per cent. Of the small number of funds that beat the benchmarks handsomely, a majority are those that also invest abroad. This demonstrates the value of true diversification in bad times. However, even international funds lost investors' money, they just lost less than domestically-focused funds. In the entire list, the sole profit-making exception was DSP Merrill Lynch World Gold Fund, which invests not in gold but in stocks of companies that are part of the global gold mining and refining industry. In any case, the fact of this fund making a profit is of not much practical use since such an exotic fund can only be a small percentage of any real world portfolio. The same is true of international funds as well and not too much should be read in their relative good performance.

While equity funds are in some trouble, the normally staid world of debt funds is also not in great shape. Even though debt fund numbers for the entire quarter look almost normal, the month of March has come as a shock to investors who thought debt was a safe harbour in which to ride out the equity storm. Worsening inflation numbers and the resulting uncertainty on interest rates has seen the average returns of funds in the Medium and Long-term government securities (gilts) category lose 1.1 per cent during March. Even short-term gilt funds, which are supposed to be insulated from interest rate shocks have had a poor month in which they have gained just 0.1 per cent with 6 of the 18 funds in the category making losses.

However, all is not doom and gloom. In my opinion, the good news is that when one looks at a longer period of a year instead of a quarter, fund performance is still very strong and the losses of this quarter have not come even close to wiping out the previous three quarters' gains. Which means that the moral of the story is quite clear. Investors who have invested steadily over a longer period are still fine. Which is just as it should be.