Markets saw a complete cycle in 2006- a bullish start followed by a crash and then a recovery. An analysis of how funds with contrasting investment styles performed during different phases
06-Feb-2007 •Research Desk
2006 was another year of festivities on the domestic bourses, when the stock markets yet again delivered over 40 per cent returns. But there were some noticeable differences this time around vis-à-vis the bull run of the previous three years.
Firstly, it was the turn of large-caps this time as the Sensex gained close to 47 per cent, much more than 31 per cent of BSE Mid Cap and 16 per cent of BSE Small Cap. Secondly, the actively managed funds found it extremely difficult to beat the markets. Just 30 out of 145 diversified equity funds were able to beat the returns of Sensex. That means only 21 per cent of the funds bettered the markets! This was not so in the preceding three years. In 2003, 60 out of 65 funds (or 92 per cent) beat the Sensex. For 2004 and 2005, these figures were 71 out of 75 (95 per cent) and 58 out of 100, respectively. Clearly, it is getting more and more difficult to outperform as the markets have moved into uncertain territory.
Thirdly, markets went through a complete cycle during 2006. There was a bullish phase to start with, followed by a market crash, and then there was a recovery. We analysed how funds behaved during different market cycles and derived some interesting insights.
The table alongside lists the best performing diversified equity funds of 2006. We have segregated their performance in three distinct phases of the market to see how they performed in each of them. Even though all the funds on this list figure in the top quartile of the category on the basis of complete year's performance, there were stark differences in the way they performed during market phases.
First classification of this list (Consistent Performers) comprises of those funds which delivered above average returns during the bullish as well as bearish phases alike. When the markets were on their way up, they capitalised upon it to generate handsome returns. And when the markets tanked, they were able to lose less than their peers. None of them have emerged absolutely on top of the returns charts in any of the phases, and have just managed to better the category averages on most occasions (notice their rankings in each of the phases). But it is their ability to do that consistently, even during the testing times, that has promoted them to the top quartile on an overall basis.
Isn't that what we always say - that you should look for funds that have the ability to perform well consistently across market phases? Little wonder that so many of them enjoy a high four-star rating.
Next are the Aggressive Movers. These funds generated sky-high returns when the markets were zooming, then tanked massively along with the Sensex, but were up at the top again when good times returned. Expect huge returns from them, but be ready to see them fall like a pack of cards during turbulence.
The third part of the list comprises of the other top performers, which did not display any specific trend. The most notable among these is Sundaram BNP Paribas Select Midcap - which saw it all during 2006 - an aggressive stance to start with, a defensive posture towards the end, and a bit of luck in between! The fund started the year 2006 very well. Real estate bets like Unitech benefited immensely. And when the markets fell subsequently, it was lucky to find itself in a sweet spot. The fund witnessed huge inflows during May last year, because of which, its cash position went up dramatically from 14 per cent to 34 per cent. As a result, the impact of the market fall was minimal and it lost much less than other funds. But since then, it has turned defensive and still holds 20 per cent of its assets in cash.