Is the mutual fund industry a big scam?

In this issue:
» Rating agencies to be managed by public funds?
» US dollar losing its sheen
» Global food prices near 3 year highs
» Government to ramp up infrastructure
» ...and more!

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00:00

One may not have heard much of Yale's noted investment guru David Swensen, but he had quite a dramatic statement to make recently. Mr Swensen shred the reputation of the US mutual industry by saying that the industry is a huge scam that cost investors billions of dollars a year. According to him, the performance data clearly showed that the vast majority of funds lag low-cost index funds every year. Moreover, investors relied a lot on rankings made by other agencies when choosing funds, which is tricky given that the rankings are highly subjective.

One of the things that matter according to Swensen is costs. Indeed, the lower the cost of a fund, the more likely it is to do well in the future (relative to other funds). Further, he opines, that index funds tend to do better than 'actively managed funds' simply because in the case of the latter most managers aren't good enough to offset the cost of their salaries and their employer's profits. This results in relatively poor returns.

Although Mr Swensen is referring to the US mutual fund industry here, the criteria for choosing mutual funds applies to India as well. For instance, Indian investors have to give importance to the costs involved when choosing funds since it has an important bearing on the returns ultimately generated. The track record of the fund is important in that it gives an idea of how consistent the fund has been in outperforming the indices. That said, depending solely on the past record without giving due consideration to the process involved behind stock selection does not bode well either. What essentially matters is the kind of stocks that the mutual fund chooses to invest in. If the portfolio consists of stocks that have sound fundamentals then there is no reason why the fund should not outperform the broader indices from a long term perspective.

Whether Mr Swensen's comment on the mutual industry being a scamster is applicable to the Indian mutual funds is highly debatable. What is important to note at the end of the day is that investors will have to be more proactive in ensuring that their money is well managed by mutual funds be it in India or in any part of the world.

Do you think that mutual funds are doing a good job managing your money? Share with us or post your comments on our Facebook page.

01:26		Chart of the day

Travel for citizens of certain nations is a piece of cake, while not so for others. Today's chart of the day shows that India does not enjoy the benefit of visiting many countries without a visa at least as per data for August 2011. That distinction goes to Sweden, whose citizens can visit around 78% of countries without visa and other paperwork. As far as comparison with BRIC countries goes, India lags Brazil and Russia quite significantly but manages to pip China.

Data Source: The Economist

02:06

There is a grave problem facing the world. And it has to do with the credit ratings agencies. Their consistent failures over the years in identifying credit excesses have indeed baffled the experts. And in cases where they have indeed done so, they have been hopelessly behind the curve. Take the most recent of downgrade of the US debt by S&Ps, one of the biggest credit rating agencies in the world. Interestingly, the downgrade amounted to too little, too late as everybody knows that the US has been knee deep in debt for quite some time now. Thus, the ineffectiveness of the ratings agencies stood exposed one more time.

Ironically though, inputs from ratings agencies are still relied upon by financial market intermediaries. And it looks unlikely that dependence on them will go away any time soon. In such a scenario, how should one ensure that ratings agencies perform their roles satisfactorily? If the former RBI Governor, Mr Y V Reddy, is to be believed, ratings agencies should be managed and owned by public funds. He further observed that there is an attempt towards this in China where already, a ratings agency is owned by the state. We believe that while there is some merit in Dr Reddy's idea, who is to say that conflict of interests would be entirely eliminated? Thus, doing independent research and forming one's own opinion looks like the best approach as of now.

02:55

Just around this time 40 years ago, gold was taken off the dollar's back. This was after the US government headed by Richard Nixon defaulted on its gold convertibility obligation. The shutting down of the gold window marked a radical shift in the global monetary order. It made clear that the US could slyly shirk away from its commitments for the sake of its own domestic agenda. Like an overriding bully, the US has always been able to get away with its mischief. After all, the US is the biggest economy and correspondingly, the US dollar has been the global reserve currency.

Despite the mounting debt and the recent downgrade by credit ratings agency Standard & Poor's, the US dollar still remains the most important currency. It plays such an important role in determining international exchanges rates and liquidity that the world cannot do without it.

From a long term perspective though, US dollar is losing its sheen as a reserve currency Steadily, central banks are diversifying into other currencies. However, given the absence of any major currency that could take over the reins from the US dollar, the decline of greenback as a reserve currency will be a definite but gradual process.

03:36

Most people either become extremely happy, or start salivating at the thought of food. Not World Bank President Robert Zoellick however. He has an extremely gloomy outlook on the state of the world's food situation."Persistently high food prices and low food stocks indicate that we're still in the danger zone, with the most vulnerable people the least able to cope," he states.

Global food prices were near their 3-year highs in July. The price of maize was up 84% YoY in July and sugar increased 62%. Global food stocks were at an alarming low, putting pressure on the world's poorer population. The outlook for 2011-12 also doesn't bring comfort to our ears either. The global output of grains is projected to be 3% higher than the estimated output for 2010-11. However, this is contingent on normal weather conditions. If the weather takes a turn for the worse, especially in food exporting countries, prices can once again see double digit increases. Thus, inflation is a bug bear which most countries have to still continue dealing with.

04:11

It is a well known fact that India's infrastructure is abysmally poor. Time and again we hear that various steps are being taken in this regard. Be it setting up of the debt fund or relaxation of financing norms. And here we have another recommendation to add to that everlasting list. On Monday, Prime Minister, Manmohan Singh, said that the government will increase investments in physical infrastructure during the 12th five year plan. In fact, the planning commission plans to double the investments during the 12th plan. We believe that this is a step in the right direction considering funding constraints were impacting the overall growth of the sector as well as the economy. However, we are not too enthused by this number game. There have been many optimistic announcements like these in the past. However, India has failed miserably on the execution front. Take the case of the Indian power sector for instance. Despite scaling down the initial capacity addition targets, the government is finding difficulty in meeting them. Bureaucratic impediments and policy bottlenecks have impacted the execution cycle. So, unless steps are taken to improve the overall administrative process, any announcements made would just be another number to the long standing recommendation list!

04:47

In the meanwhile, the Indian stock market lost some of the morning session gains but continue to trade in the green. At the time of writing, the benchmark BSE Sensex was trading up 77 points (0.5%). Most of the sectoral indices are trading in the green led by the software and technology space. Bharti Airtel and Bharat Heavy Electricals Ltd (BHEL) were seen gaining the most amongst blue chips. Major Asian indices performed mixed today with stock market from South Korea leading the pack of gainers. However, Europe has opened on a weak note.

04:56

Today's investing mantra

"Growth benefits investors only when the business in point can invest at incremental returns that are enticing - in other words, only when each dollar used to finance the growth creates over a dollar of long-term market value. In the case of a low-return business requiring incremental funds, growth hurts the investor." - Warren Buffett