'Sebi is right on multi-cap funds'

Sebi is right in asking multi-cap mutual fund schemes to rebalance and align their portfolio with their names. They have time till January 31, 2021 to achieve this rebalancing. Mutual fund schemes are possibly most mis-sold financial products after insurance, no doubt helped by a very successful ‘Mutual Funds Sahi hai’ campaign built around the concept of systematic investment plans, or SIPs.

Multi-cap funds gained currency with investors out of disillusionment with mid-cap and small-cap funds, which they have realised can be stomach-churning volatile. Financial theory tells us that high expected returns also come with high risks, or large deviation from expected returns.

If small and mid-cap funds delivered high returns for a while, the subsequent plunge has shown they can be devastating wealth destroyers as well. The multi-cap or flexi-cap funds were response to these risks. They promised, or what investors understood, the stability of large cap funds smattered with select mid and small-cap stocks to give that slight kicker to returns.

In practice, these funds have not been, as suggested by Sebi, ‘true to their label’, staying in the comfort of large-caps and avoiding riskier small and mid-caps to ensure returns do not deviate much from the market.

In that sense, they are no different from any large-cap scheme, or for that matter a regular equity schemes that are usually large-caps focused.

Indeed, even some of the fancier funds like emerging blue chips or emerging business funds rarely live up to their names – there is nothing really emerging in their portfolio.

Why do fund houses launch such schemes? To attract new investors and continue to retain those who may be disillusioned with their current portfolio. Very few funds have beaten their benchmarks or even delivered around 12%-plus annualised returns most investors have come to expect from equity.

If the mutual funds industry did not periodically repackage schemes, it could lose investors. That being the case, the regulator is right in holding the mutual fund industry accountable and ensure they deliver what they promise.

Creating a portfolio of large-cap stocks is lot easier given the limited universe of such stocks. Picking out winner becomes much more difficult from thousands of mid and small cap stocks. If a multi-cap fund is staying within comfort of large caps, could it be lazy investing of fear of getting it wrong.

These funds have time till January 31 to rebalance their portfolio. If they feel the process can be disrupting, as some have argued, and undermine performance as they rush to liquidate large caps and buy mid-and small-caps, they have other options.

They can rename the schemes to reflect their true character or merge with existing large-cap schemes.

One can reason that this is regulatory overreach and Sebi is micro-managing issue. Well, in case of mutual funds, that may be required. Mutual funds were designed and sold as pooled equity investments for masses, who did not have the sophistication to invest directly in shares. Therefore, they pay a fee to fund managers to make those decisions.

Clearly, there is an amount of inherent trust that comes packaged with the product. If they still must watch their backs, then clearly there is something wrong that needs to be addressed.

If an investor invests merely looking at the name of the scheme, industry cannot throw ‘read the fine print’ at them. The schemes need to stay true to their names in letter and spirit.

The Sebi is right in holding them accountable. In fact, the industry needs more regulatory watch and not less. It is a trusty of life savings of people.