Avoid disruption

Written by Sanjay Kr Singh | Updated: Nov 10 2008, 17:38pm hrs
By being diligent at the time of buying the fund, you can avoid the disruption that mergers and acquisitions of mutual funds can cause to your investments
At the beginning of last week came the news that Lotus India Asset Management Company (AMC), a young fund house, was being taken over by Religare Aegon AMC, a new entrant. Several reasons are being attributed for Lotus India AMCs sellout. According to industry insiders, its Singapore-based promoters Fullerton Fund Management Group and Sabre Capital Worldwide were facing liquidity pressure in their own markets and were unwilling to inject further capital into their Indian venture. Two, Lotus India had become primarily a debt fund house: more than 90 per cent of its assets under management (AUM) came from debt products, which are low-margin products. So the entity wasnt making much money. And three, the last straw was the heavy redemption pressure faced by the fund house in its liquid funds and fixed maturity plans (FMPs) in recent weeks leading to its AUM almost halving from its peak of around Rs 11,000 crore to around Rs 5,457 crore now.

Earlier M&As
This takeover of Lotus India AMC by Religare Aegon is not the first instance of acquisition in the Indian mutual fund industry and will certainly not be the last. Experts, in fact, see this takeover as the beginning of a trend. Recently, Stanchart AMC was acquired by IDFC and ABN Amro by Fortis.
According to Prasun Mukherjee, a Kolkata-based mutual fund analyst, As the mutual fund industry in India matures, the pace of mergers and acquisitions (M&As) will only accelerate. Adds Uma Shashikant, managing director, Centre for Investment Education and Learning: Many smaller funds, unable to carry on in the current markets, will be sold off. Having fewer but larger players will be good for the industry and investors. Without a size of at least Rs 10,000 crore, it makes no sense to run a fund house.

Dont panic yet
In case of a takeover, investors need not panic. The new fund house will offer them the option to withdraw their funds. If they do not like the new entity that has taken control, they may exit the fund.
In the case of Lotus, most of its assets were in debt funds. Says Mukherjee: In case of debt funds, quality of fund management is not such a big issue. As the saying goes within the fund management industry, There are no Peter Lynches in debt funds. The returns produced by an outstanding manager and those produced by an average one vary by barely a couple of percentage points.

Some cost, nevertheless
But in case of equity funds a few issues do exist.
First, the investor faces uncertainty regarding who is going to manage his money. Will the old fund manager continue, or will a new one be appointed And if a new fund manager takes over, is he better or worse than the old fund manager
The due diligence that the investor undertook at the time of selecting the fund will have to be repeated.

Two, if the fund house changes, then the investment philosophy could also change. For instance, an investor in Franklin Templeton AMC invests with that fund house as it is known for its conservative approach. Will the investor be comfortable with the investment philosophy of the new fund house If the new fund house has a more aggressive approach, he may not be comfortable with the volatility that this approach creates in the portfolio.

Three, to align his portfolio with his investment approach, the new fund manager will buy and sell stocks. This will lead to transaction costs which will ultimately be borne by the investor.

Four, if the fund has a small corpus, the new fund house may choose to go out and sell it more aggressively (in order to increase AUM), or merge it, or close it. In case the fund is merged or closed, the investor is given the option to exit the fund. Says Pune-based financial planner Veer Sardesai: If the investor has to opt out of the fund and enter a new fund, it could entail payment of an entry load. In such an event, consistency in fund management that is so important to building wealth over the long term through equities also gets disrupted.
And finally, the new fund house could change the investment objective of the fund. The investor then needs to evaluate whether the new objective of the fund matches his own.

What should customers do
A little bit of caution at the time of selecting the fund can help you avoid the disruption that such mergers and acquisitions produce.
Quality of parentage. Invest with AMCs whose promoters can sustain this business through the next few years of bear market. Mutual fund is a business with a long gestation period. Particularly in case of a young fund house, find out or ask your financial planner: do the promoters have enough money to nurture this business

Local market expertise. Invest with a fund house that has been operating in India for a reasonable period of time. Says Sardesai: Market realities differ from one market to another. If the fund house has a tie up with a foreign fund, all it means is that it has access to the global products and research of its foreign parent. But this does not make up for expertise in the Indian market. For instance, we know that the debt market in India is not very liquid. This may not be apparent to someone who has been operating in a more developed market. The best option, says Sardesai, is a fund house that has access to foreign know-how but also has local expertise, say, a Franklin Templeton.

Stick to large funds. Invest with funds that have a reasonably large corpus, say above Rs 100 crore. Such funds are unlikely to be merged or wound up. If the corpus of the fund is small, the new fund management may feel that the cost of running it is too high. It may then merge it or wind it up. Says Sardesai: Once you have done the hard work of choosing a good fund, go with a large fund that is likely to be around for the next five to 10 years.

Avoid NFOs
. And finally, many investors in India are still enamoured of new fund offers (NFOs). They think that a Rs 10 NAV is cheaper than investing in an old fund with a higher NAV. That is simply not correct. Moreover, investing in NFOs is not a very wise thing to do. One should stick to funds and fund managers that have an established track record, says Sardesai.
By exercising diligence at the time of buying the fund, avoid the disruption that mergers and acquisitions entail.