Why people lose money in mutual funds

The majority of the investors buy when the market has already run up and is valued expensively. This often leads to disappointment when the market either goes down or sideways for years. If you avoid doing what others do and invest regularly in top fund schemes, you can easily make money from your mutual fund investments

Indian equity mutual funds have delivered excellent returns over the past 10 years or so. Their returns on a point-to-point basis may not have been great but investing in top funds through Systematic Investment Plans (SIPs) would have delivered good returns. And yet, over the last six months more than Rs10,000 crore has flowed out of equity mutual funds. Many are selling because they have made losses or meagre profits? It has been the same story in previous market cycles. Why do investors lose money in mutual funds? The main reason is that they put money into equity mutual fund schemes at the wrong time. In an interview with CNBC-TV18 on Friday, Prashant Jain, chief investment officer of HDFC Mutual Fund, said that “almost 80%-85% of the equity mutual fund inflows came in when the market was highly valuated at a price-to-earning (P/E) ratio of 17-18. This is one of the reasons investors tend to get disappointed when the market declines subsequently and it becomes frustrating for investors to hold on to their investments. So, when the market finally rises, after they have broken even or made some money, they pull out their investments. Therefore, we never see inflows at low P/Es and when the market begins to recover.”
 

Read about the outflows from mutual funds in November 2012 here.
 

Getting their timing wrong or going in and out of their investments is not limited to Indian investors. It is the same story in the US. One of the most widely cited studies on investor behaviour is a study by DALBAR, a research agency. DALBAR’s Quantitative Analysis of Investor Behaviour compares the investors’ returns against market returns. The most recent DALBAR study found that in the 20 calendar years ending in December 2011, the Standard & Poor's 500 Index had a 7.8% compound rate of return. In the same period, the average investor in US equity mutual funds earned just 3.5%. Even in the five-year period ending December 2011, mutual fund investors went in and out at the wrong times, resulting in inflows when the market declined and outflows when the market rose.
 

When it comes to systematic investing, the study showed that for the 20-year period the average equity investor earning $9,853 against a systematic investor’s earnings of $8,665, for a total investment of $10,000. This just the second time in history, since 1994 when the DALBAR study was first published, when the average equity investor outperformed the systematic equity investor. The average systematic fixed income investor overwhelmingly outperformed the average fixed income investor over the twenty-year period by earning over four times as much.
 

Buying when the market is rising and selling when it is down is true of every investor in every country and every period. Here is some information Thomas Gibson’s classic investment book titled “The Facts about Speculation”, published in 1923. Gibson found analysed around 4,000 accounts (a high number in those days) and states, “The most glaringly apparent cause of loss revealed by the investigation of these accounts was the almost universal habit of making purchases at high prices after a material rise had already occurred. This error is of a wholly psychological character” (emphasis ours). Fast forward almost 100 years later, it is exactly the same.
 

Gibson found out that majority of the investors bought right at the top of the cycle, with the average price of all purchases being within about 4 points of the extreme high. The price and value disconnect is so great that few investors pay attention to fundamentals and recognizing value and were solely focussed on price action. He found that 90% of the investors who relied on charts and other mechanical systems suffered losses. Investors usually bought on slight declines from high prices and sell on slight advances from low prices. This is a classic losing strategy.
 

Another folly, according to Gibson, is impatience. It is pertinent to note that humans are a fickle lot and overreact when markets crash (especially when it has been purchased right on the top). When the market is rising, everyone rushes in—investors, mutual funds, advisors and so on. Advisors erroneously tell investors to buy. Investors get carried away instead of thinking hard before putting bucket-loads of money into an investment.
 

The way to address this is to invest regularly, which is technically called SIP. While SIPs can sometimes lead to negative returns over a long period of time, over longer periods the number of periods of negative returns reduces (Read: SIP Smartly) Systematic investing also helps to navigate volatile markets and negate negative returns. Take a look at the returns over the past five years ended November 2012. Had you invested Rs20,000 in an index fund based on the Sensex in November 2007, your investment would be worth just Rs19,976 at the end of November 2012. The Sensex has moved nowhere from the start of November 2007 to November 2012. A quarterly systematic investment of Rs1,000 over this period would be worth Rs24,838, up 24.19%. Therefore one should not undermine the benefits of systematic investing and should continue even through the volatile market movements. However, according to the recent Computer Age Management Services (CAMS) data we have seen many investors exiting their SIP accounts before completion of the tenure. Net SIP registrations have been negative each month from April 2012 to September 2012.

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COMMENTS

uttam

6 years ago

PLS WRITE ABOUT lic RETURNS AS WELL.
THNKS

Suiketu Shah

6 years ago

I would advise readers not to invest in mutual funds.There are so mahy nfunds that for a layman its impossiblre to figure out which suits him and the rtight time to buy.Most relationship managers of Mutual funds and their agents are untrustworthy (thertein lies the cruz of the problem of the MF industry) and just want to achieve their target come what may.

If one of looking for investment from a longterm point of view there are enogh good share scripts and for short term FD's is very good.
Also if one if knowledgable,MF is a waste of time as the real returnes start coming anly after 5 yrs in which time ,if you have put money in the right shhares chances are returns wl be much much more more.

Chetan Shah

6 years ago

In reference to the discussions between Mr Nilesh and Mr Rajeev, I would like to add that those people who have a good knowledge in direct equities and has the capabilities of doing deep reasearch can make much more money by investing in direct equities but for a lay man it can be hazardous and we have seen that in the past years (and will see in the future too). For them a well diversified equity fund can give a far better return than PPF. Compare the SIP return of PPF and Franklin Prima Plus for 15 years and see the difference. If PPF has given a return of 7.78% compounded yearly, Prima Plus has given a return of 23.6%compunded yearly over the same period of 15 years. If some schemes have not given a decent return, its unjust to blame the MF Industry as abad investment avenue. In fact Equity MF is the best avenue for investment for a person who wants to invest in equity but does not have a very good hold or knowledge in the equity market. I have seen many investors making many folds in Equity MF over a period of 10 years and more. Time and patience in the volatile market is the only mantra needed in equity and equity related MF's.

Rajeev Kapur

6 years ago

ITC monthly closing prices since Jan 2007 till Nov 2012 shows 235% increase in market value of shares. With 1:1 bonus and dividends calculate SIP of 10000 per month for 71 months and you will think twice before you
invest in a MF again!

REPLY

Nilesh KAMERKAR

In Reply to Rajeev Kapur 6 years ago

Why ITC . . . Why not TTK Prestige or Bosch or Wockhart. Your SIPs in these cos would look even better.

spare some time Mr. Kapur and see this link too http://moneylife.in/article/indian-retai...

Rajeev Kapur

In Reply to Nilesh KAMERKAR 6 years ago

Thanks Nilesh. Read the report. Highlights very important reason for the investors losing money- selling the winners and holding on to losers. The figures for the MF investors would be similar for the same reason.

Rajeev Kapur

6 years ago

Monthly closing prices of Colgate since Jan 2010 till Nov 2012 show that SIP of 10000 would have resulted in 49% gain. Add dividend to that and compare it with the best MF SIP and decide for yourself how the investors are being taken for a ride by MF Lobby. Do not invest in more than one or two MFs - that too for diversification. MF industry is the biggest fraud on investors - it is manipulated by big fund houses and mega investors .

REPLY

Nilesh KAMERKAR

In Reply to Rajeev Kapur 6 years ago

How about calculating SIP in Colgate for a decade when Colgate stock prices did nothing, did not go anywhere . . . ditto for HUL.

Yet there's no denying the fact that those who can 'successfully' invest on their own have no reason to invest in MFs.

But, the Study done by ISB shows 90% of Indian investors lose money in the stock markets.

Rajeev Kapur

In Reply to Nilesh KAMERKAR 6 years ago

Market value of Colgate in 10 years from 2002-12 increased by 760%. - not adding the generous bonus in all these 10 years.

Did ISB study mention how many MF investors have lost their money?

Rajeev Kapur

6 years ago

Individual investment in stocks will give better results than any MF as one does not have to pay for the fat salary given to the portfolio manager, does not incur the turnover cost of scrips in MF that is done when faced with redemption pressure and the commission paid to the distributors. Care is required in selection of stocks as much as it is required for selection of MF. There are a large number of MFs that have given poor or negative returns.

The article indirectly makes a strong case for PPF as its returns over 20 years would have been far superior than the 7.8% compounded return quoted. In fact with tax rebate included the power of compounding over 20 yrs in PPF would have given better than most of the MFs. Mr Prashant Jain knows this very well.

REPLY

Nilesh KAMERKAR

In Reply to Rajeev Kapur 6 years ago

Mr. Rajeev Kapur,

The 20 years performance figures quoted by you are not correct.

Here is just but one proof … Rs.5000 invested in Franklin India Prima Fund on 28th Sept 1994 has grown to Rs.105125.12 on 26th October 2012


Similarly request you to kindly check for yourself the 10 year plus performance records of other diversified equity funds and you shall find on average they have given about 17% CAGR for that period – which is double than the rate of 7.8%

Why mislead people? What is the agenda sir?

Rajeev Kapur

In Reply to Nilesh KAMERKAR 6 years ago

With reference to your comments : please read the excerpts from the above article in ML. You can decide if anyone is being mislead or misunderstood. " The most recent DALBAR study found that in the 20 calendar years ending in December 2011, the Standard & Poor's 500 Index had a 7.8% compound rate of return. In the same period, the average investor in US equity mutual funds earned just 3.5%. Even in the five-year period ending December 2011, mutual fund investors went in and out at the wrong times, resulting in inflows when the market declined and outflows when the market rose."

Nilesh KAMERKAR

In Reply to Rajeev Kapur 6 years ago

1) Why talk of US returns and blame Indian MFs while trying to make out a case for long term investment in PPF vs Indian equities via MFs.

Nilesh KAMERKAR

In Reply to Nilesh KAMERKAR 6 years ago

Correction the fund mentioned above is Prima Plus Fund and not Prima Fund. - Apologise for the error

Liju Philip

6 years ago

When Sensex dipped to 8000 odd levels in 2009 many of my friends bailed out at a serious loss. I kept buying and they refused to listen. 3 years later, that purchase at the low levels has really borne fruits for me.

Iam happy when the markets fall as it gives me an opportunity to buy more.

Suiketu Shah

6 years ago

I had a disastrous experience in MFunds in 2010 ( ml is aware of this) mainly due to the deliberate wrong advise given by investment advisor of a top corporate.We bought those MF in Nov 2010 when sensex was at its peak.

They took false advantage of my lack of knowledge.The result.We have blacklisated the company and got more knowledgable and donot need MFunds now.We have got quite knowledgable in shares.No wonder MF's lose out as their agents are just looking for "bakras" to get their 10% commission and target.They care a damn about when not to buy.

Mf industry is rightly receding due t its pathetic agents called "weath management advisors"

Rgds
Suketu

Nilesh KAMERKAR

6 years ago

The individual investor in mutual funds likes to believe, it is because of someone else that he has lost money in mutual funds – and the sacrificial lamb for pinning the blame of this investing failure, is most conveniently the adviser or the agent.

But, most of the times the cause of such loses is the investor himself. As Benjamin Graham, the greatest investor who ever lived said “The investor’s chief problem – and even his worst enemy – is likely to be himself”.

If you have discipline and PATIENCE, it is really difficult to lose money in mutual funds. But, somehow, a large percentage of individual investors seem to have mastered this art of losing money in mutual funds.

To be a successful investor, one does not need high degree of intelligence or higher qualification – What is required is Temperament. It’s a matter of character and not intelligence.

The chief reason people lose is because they seek comfort in being part of the crowd, rather than in the ‘courage of conviction’ of doing the right thing, without being concerned about what the others are doing.

Amol Wagle

6 years ago

Is it the right time to start SIP's ?

REPLY

jaideep shirali

In Reply to Amol Wagle 6 years ago

You can start a SIP at any time, because SIPs are not aimed at finding the right time to enter or exit from the market. SIPs average your cost through the ups and downs in the stock markets.No expert can predict the peak and bottom in stock market cycles, so once you start a SIP, stay invested for atleast 5 yrs, irrespective of market trends, you can expect to earn good returns.

Rajeev Kapur

In Reply to jaideep shirali 6 years ago

This is a fallacy perpetuated by distributors of MFs. The article itself quotes a five year period when there was very little gained by MF investors. Some years ago 2-3 years was considered as long term and now it is 5 years or more. Use the same SIP in a well managed, reputed company for direct investment for 5 to 20 years and get enormous returns - no MF can even come close to it.

sanchaya sriramka

In Reply to Rajeev Kapur 1 year ago

Hi Rajeev What you said I completely agree with you but I am not very sure as 1 unit of Mutual fund helps me select and purchase many shares from different sector at once for a very low cost, How can I select 1 share in market and purchase it as I do a SIP for it. Please suggest.

Will Edelweiss’s fancy PMS scheme, BOOM, work?

The company offers a new investment strategy under its discretionary portfolio management services which is said to deliver superior long-term returns using a proprietary back-tested strategy to curtail volatility and downside risk. However, it is pertinent to check the details of the scheme.

Edelweiss Personalized Managed Accounts (PMA) has launched a new product Beta Overlay Over Mutual Funds (BO.O.M). Scheme with fancy names have not quite succeeded in the past. The strategy is designed to enhance equity mutual fund portfolio returns by strategically hedging the long-only component of equity mutual funds with Nifty futures when the markets are weak. This portfolio will comprise futures, options and units of equity/debt/liquid mutual fund schemes.
 

Edelweiss AMC, a subsidiary of Edelweiss Financial Services, is the portfolio manager to Edelweiss PMA. For the new scheme, the AMC would be using a model to protect an existing equity mutual fund investor against a weak or falling market while still capturing gains during a rising market, thereby “curtailing volatility and downside risk.” “B.O.O.M follows a rigorously back-tested model, which has consistently delivered better returns over a 10-year period,” according Vikaas M Sachdeva, CEO, Edelweiss Asset Management.
 

Knowing the context in which a particular strategy has succeeded is essential for an investor. Therefore, even though the portfolio manager may be satisfied with the performance over the periods they have tested, it is crucial for an investor to know how the strategy has worked. Especially, considering the minimum investment amount is Rs25 lakh. If you want to invest in the product ask the following questions:
 

1. How has the strategy worked in the back testing in terms of benchmark related performance? For this, check the number of 10-year periods analysed, the returns over each period and the benchmark returns over the same period. If you are investing for the short term, check the performance over three to five years.
 

2. What are the fund management fees and entry charges and exit charges? The costs affect the overall performance of your investment. Remember, the portfolio consists of  equity mutual fund schemes which charge an expense ratio as well. You would not want to pay for a PMS scheme which would eat away into your returns, investing only in equity mutual fund schemes would work out to be a better option then.
 

3. Which equity schemes would be eligible for BOOM? This is crucial. There are many performing mutual fund schemes and the portfolio manager should have a diverse portfolio of top performing equity schemes.
 

Though past performance is not an indicator of future returns, it does give some insight and a certain level of confidence before investing to know how the strategy has performed. There have been a few equity mutual fund schemes which have done better than the Nifty index in the last 10 years. Whether the PMS scheme has done better than these or worse, we do not know. No aggregate data of PMS performance is available.
 

Edelweiss mentions that the scheme is an ideal vehicle for an existing equity mutual fund investor who has a three to five years investment horizon. Experienced investors would know how volatile the market can be over the short-term, how the strategy has worked to negotiate the volatile movements of the market in three to five-year periods of the past is essential. 

Performance details and management fees are essential for an investor to check and know whether to invest in a scheme or not.
 

Moneylife contacted the company in order to get the details of the performance during back testing, but no information was received at the time of writing this report.
 

To read more on mutual funds news and Moneylife analysis, click here.
 

Ultimately, Edelweiss claims to employ moving averages and other ‘technical’ indicators to determine whether the market is in a downtrend and create a hedge between 0% and 100% of the long-only equity investment value. Essentially, Edelweiss will use technical analysis to take a short position in Nifty futures to buy put options when it thinks that the market is headed down. It is a risky strategy and we are extremely sceptical of Edelweiss being consistently right about market declines based on mechanical and lagging indicators like moving averages. And remember, being wrong would inflict a cost. Edelweiss could lose money on Nifty futures and puts bought could expire worthless. The performance of the scheme would be benchmarked to the S&P CNX Nifty Index.
 

Subsequent to the publication of the article, Edelweiss provided us with the details, which are mentioned below.
 

Performance:  “B.O.O.M. has delivered excess returns of about 6%-8% per annum, over a passively held portfolio of mutual funds, at about 2/3rd the volatility”, pointed out Mr Sachdeva. The returns have been post investment management & trading costs but before any applicable entry/exit loads. This is impressive and it would be interesting to see how the portfolio manager actually performs. There’s only one 10-year period that has been considered, viz. starting 2003 to 2012 (till 31st May 2012) in the back-test model, says Mr Sachdeva. This is primarily because of paucity of all relevant data being available for earlier times.
 

Charges: Entry load for this scheme is 2% of the initial contribution and all fresh inflows. Exit load would be 2% for withdrawal before one year from the date of activation. Management fees would be 2% p.a. excluding other charges such as, transaction tax, service tax etc.
 

Eligible schemes: Edelweiss has shortlisted a list of 41 schemes based on their low tracking error with the Nifty index. This is done to ensure the model works efficiently to deliver the stated objective.

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Misselling of MF schemes now a fraudulent trade practice: SEBI

SEBI has brought misselling of MF schemes under its norms on prohibition of fraudulent and unfair trade practices

Mumbai: Cracking the whip on the practice of misselling of mutual fund schemes, market regulator Securities and Exchange Board of India (SEBI) has decided to bring such activities under the ambit of fraudulent trade practices, reports PTI.

 

The move comes at a time when there are reports of rising instances of misselling of mutual fund products to customers.

 

SEBI has brought misselling of MF schemes under its norms on prohibition of fraudulent and unfair trade practices.

 

The SEBI has inserted an additional clause whereby misselling of MF schemes would be deemed to be a fraudulent trade practice.

 

In a notification issued on Tuesday, the regulator said that "misselling" would refer to sale of units of a mutual fund scheme by any person, directly or indirectly by making a false or misleading statement.

 

Among others, sales of a MF scheme by making a false or misleading statement or concealing material facts and associated risks or not taking reasonable care to ensure suitability of the scheme to the buyer, would be considered as misselling.

 

In this regard, the market watchdog has brought in amendments to SEBI's Prohibition of Fraudulent and Unfair Trade Practices relating to Securities Market) Regulations.

 

They would come into force on the date of their publication in the Official Gazette.

 

The country's mutual fund industry has over 40 players managing assets worth nearly Rs7 lakh crore.

 

The SEBI, in recent times, has initiated a slew of measures for benefit of mutual fund industry, including provision for a new distributor cadre and incentives for reaching out to smaller cities.

 

Earlier in the day, CS Mohapatra, Advisor to Financial Stability Development Council (FSDC) at the Finance Ministry, said that misselling of products has "become synonymous with the financial sector".

 

He was speaking at an event in New Delhi.

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COMMENTS

Nilesh KAMERKAR

6 years ago

Is it not mis-selling? Is it not misleading? . . .
When Index funds, diversified equity funds and FMPs get classified as 'simple and performing' schemes?

especially when past performance is no guarantee of future results . . .


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