Measuring & Evaluating Mutual Fund Performance

• Need for measuring fund performance– To make right investment decisions

• Depends upon– Type of fund– Investment objective– Current financial market conditions

Different Performance MeasuresDifferent Performance Measures

• Change in NAVChange in NAV– Change in NAV between the two dates in absolute

and percentage terms.

– Absolute terms-• NAV at the end-NAV at the beginning

– Percentage terms• (Absolute change

/ NAV at the beginning) * 100

• Easily understood & applies to any type of fund

• Does not take into account interim dividend declared by the Scheme

• Suitable for evaluating Growth funds & accumulation plans of debt & equity funds.

Different Performance MeasuresDifferent Performance Measures

• 2) Total Return– Takes into account the dividends distributed

by the fund– [(Distribution+Change in NAV) / NAV at the

beginning] * 100– Suitable for all categories of funds, more

accurate than the first method– Ignores the possibility of reinvestment of

dividend

Different Performance MeasuresDifferent Performance Measures

• 3) Return on Investment (R.O.I)– Computes the total return with reinvestment of

dividends in the fund at ex-dividend date.– [(Units held + div./ex-d NAV)*end NAV] - begin

NAV /begin NAV*100– Accepted by MF tracking agencies (Credence

and Value research)– Suitable for accumulation plans, monthly /

quarterly income schemes, debt funds distributing interim dividend.

Useful Concepts

• Compare the same time periods since returns over different time periods vary due to different market conditions.

• Annualised returns applicable only to periods greater than 1 year.

• Returns to be computed since the inception of the scheme (Rs.10 as the base amount).

Useful Concepts

• Expense Ratio– Total expenses / Average Net assets of the

fund– Excludes brokerage commissions– Average of 3 to 5 years to be used to judge

the performance of the fund.– Evaluated in the light of fund size and portfolio

composition.

Useful Concepts

• Income Ratio– Net investment income/Net Assets– Useful for evaluating debt funds

• Portfolio Turnover Rate– Amount of buying / selling in the market– Indicates higher transaction costs– Useful in analysis of equity & balanced funds

Useful Concepts

• Transaction costs– Includes brokerage commission,stamp

duty,registrars’ fees,custodian fees,dealers’ spreads.

• Cash Holdings

• Borrowing by MF

Performance Measurement (cont’d)

• Sharpe Ratio measure fund performance in terms of total risk

• Sharpe index = rt - r* / sdt

• rt = average return on portfolio t

• r* = risk less rate of return

• sdt= standard deviation of the returns of the portfolio t

Treynor Ratio measure the fund performance in term of market risk :

Treynor index = rn - r* / beta n

rn = average return on portfolio nr* = risk less rate of returnbeta n = beta coefficient of portfolio

Alpha as measure the performance of the fund manager:

•It is the difference between a security’s expected return and its equilibrium expected return

•positive alpha indicates undervalued securities

•negative alpha indicate over valued securities

Price / Earning multiple is also another risk measure:

Fund P/E ratio = Weighted average of P/E ratios of all the stocks held in the portfolios

P/E = Market price per share / Earnings per share

Evaluating Fund Performance

• Benchmarks available• 1) Relative to the Market

– Index funds• Tracking Error

– Active Equity funds– Debt funds– Money Market funds

Evaluating Fund Performance

• 2) Relative to other similar MFs– Investment objective & Risk Profile– Portfolio Composition– Credit quality & Average Maturity– Fund size– Expense ratios– Compare average annualised returns over the

same periods only,after tax returns.

Evaluating Fund Performance

• 3) Relative to other investment options– Convert cumulative returns to average

annualised returns

• Evaluate the Fund manager / AMC– Long term perspective– Avoid excessive trading– Consistent performance

Tracking Mutual Fund Performance

• MF Annual & Periodic reports

• Financial press

• Fund tracking agencies

• Newsletters

• Prospectus