It goes without saying that the Satyam affair has deepened the pall of gloom over equity mutual funds. Being a leading star of India’s business firmament, Satyam has been a fixture in many mutual fund portfolios, and justifiably so. In mid-December, when the first inkling of problems at Satyam appeared, the company’s stock price fell sharply. At the time, a number of mutual funds sold off or reduced their holdings in Satyam. However, some funds also increased their holdings.

Although this looks like the wrong thing to have done now, that’s just in hindsight. At that time, it was a perfectly legitimate investment decision either by a mutual fund or by an individual investor. The logic was that Raju’s attempt to take out cash for the Maytas acquisitions had been stymied. The shareholders’ revolt that Raju faced would discourage him from attempting anything similar in the future. The company’s business was intact, its massive cash bank-balance was intact but its stock price had fallen. That added up to a reasonable case for buying into the stock, which a number of mutual funds appear to have done.

Some days later, it came out that the Rajus had lost a large chunk of their stake in the company because they had taken loans by mortgaging their shares. As the price had fallen, they had been unable to redeem the mortgage and the lenders had sold off some of the shares. Most investors saw this as positive news. If the troublesome Rajus were on their way out, then surely this was good news for Satyam. The case for investing in Satyam was actually strong at that point.

It was only on the morning of January 7, when Raju sent out his bombshell, did it become clear that Satyam’s fundamental numbers were cooked up and no one could really guess whether the shares would be worth anything. On that day, many mutual funds (and other institutional investors) sold off their entire stake. Depending on the price they got, different funds’ NAV took hits of different magnitude. Since any funds portfolio is declared only at a months’ end, we don’t know the precise magnitude of the loss.

However, the highest exposure that any diversified fund had to Satyam on December 31 was about 8% of is holdings. However, the average was just 1.5%. For the entire mutual fund industry, December 31 holdings in Satyam Computers add up to around Rs 670 crore out of a total equity asset base of Rs 1.13 lakh crore, which is about 27%. Even a pessimistic assumption would have to include that an extremely small part of Indian fund investors’ equity holdings have been lost to Raju’s misadventures.

There’s no way that any investment manager or investment analyst can be blamed for not foreseeing the Satyam debacle. Everything boiled down to trusting Satyam’s statement of accounts. Once you accept that, then there’s no way of saving oneself from risks like the one that struck Satyam investors. Sure, there are companies in which investors expect fakery and those companies are treated accordingly. Mutual funds ignore them and the markets punish them with lower valuations than their published profits suggest. However, if the gap between expectation and reality is as wide as it was in Satyam’s case, then nothing can be done.

However, as we’ve seen above, mutual fund investors’ losses in Satyam have been quite small. More than anything else, this demonstrates the value of diversification. On any given day, something unexpected could happen in a stock.

Anyone who is committed to that particular stock is sunk. But if you are in non-specific funds that are diversified across sectors, industries and companies, then the bad news has that much less of a chance of doing serious damage to your portfolio.

The author is CEO, Value Research