When selecting a PMS, give utmost importance to the fund manager’s track record over a long period of time
The Securities and Exchange Board of India (Sebi) plans to set up an industry body that will draw up a template for bringing uniformity to the way portfolio management schemes (PMS) report their performance. Regulating these entities better has become crucial due to the rise in their assets under management (AUMs) in recent years (see table).
Different methods of reporting performance: In the absence of regulations, different PMS managers use different methods to report performance. Three approaches are practised. The most popular one is the model portfolio approach where the PMS house reports the returns of the model portfolios created for different strategies. The second is the aggregate performance approach. Here, the average performance of all the clients who have invested in a particular strategy is reported . The returns of an investor who enters today will vary from that of one who entered three months ago. All their returns are averaged and reported. The third approach is first-client basis. Here, the PMS house reports the returns of the first client in a strategy. If that client exits, the returns of the second client are reported. This approach is not every popular now.
The existence of three approaches creates several problems. “Many investors are not even aware that different PMS houses follow different approaches to reporting performance. It makes an apple-to-apple comparison of performance impossible,” says Daniel GM, founder-director, Pmsbazaar.com, an online portal that provides aggregated data on PMS.
Several other reporting-related issues also exist. “One PMS provider may show gross returns while another may show returns net of fees. Many PMS follow the profit-sharing approach. There is a need to standardise whether the profit-sharing will be on gross or net returns. And when net returns are calculated, there needs to be uniform standards for whether only the PMS provider’s expense ratio will be deducted or custodian and brokerage charges too,” says Ankur Kapur, head-investment advisory, Banyan Capital Advisors.
Paucity of data:
Information on PMS is not easily available. “Information on mutual funds is available to everyone, both investors and non-investors. In the case of PMS, performance-related information is available only to clients,” says Anil Sarin, chief investment officer-equity, global asset management, Edelweiss. Kapur adds that the return numbers are not regularly updated even on the websites of PMS providers. Moreover, aggregators have not yet sprung up who would collate data on PMS and make it publicly available, as has happened in mutual funds (Pmsbazaar.com has made a start). Unable to do peer comparison, investors find it difficult to zero in on the best performers, and are forced to rely on financial advisors.
An investor who wants to do deep analysis before investing finds the going difficult. “Investors want to look at how the fund has performed over the past three and five years. They want data on rolling returns, and several other parameters such as standard deviation, alpha, and so on. And they need all this data in a standardised format. But some PMS houses report standard deviation for one year, and others for three years, which makes fund comparison difficult,” adds Daniel.
Some distributors allege manipulation in calculating returns. “Since there are no regulations on how to manage and report the performance of model portfolios, these are sometimes manipulated to show higher returns,” says Tejas Khoday, co-founder and chief executive officer, Fyers Securities.
Need for better regulation: Experts agree that this space needs tighter supervision. “Once there are regulations on how returns should be reported, investors will have greater trust in the product,” says Aashish P Somaiyaa, chief executive officer, Motilal Oswal Asset Management Company (which offers both mutual fund and PMS schemes). He suggests that all PMS providers should move to the model portfolio approach. “This is the only viable way to report PMS performance,” he says. Daniel adds that besides model portfolio returns, the returns of the 10 best and 10 worst performing portfolios within each strategy should also be provided (to indicate variation in returns).
Khoday suggests that Sebi should set up a portal where portfolio managers should provide virtual model portfolios that can be tracked digitally. Performance should be reported on this portal after deducting all transaction charges. This will curb manipulative practices. “Non-compliant, manipulative portfolio managers will get weeded out and money will flow to the true performers,” he says.
Some variability will remain: Returns of individual portfolios will vary slightly from that of model portfolios even when the same stocks are purchased with the same weights. “Different investors come in at different points of time. Due to the differences in prices at which their stocks are purchased, their returns will vary slightly,” says Somaiyaa. He adds that returns also vary due to differences in fee structures of investors. Ideally, however, returns of individual portfolios should approximate those of model portfolios over time.
Give primacy to fund manager’s skills: When selecting a PMS, give utmost importance to the fund manager’s track record over a long period of time. “PMS fund managers have greater flexibility to invest wherever they like. Hence, the fund manager’s stock picking skills become crucial,” adds Somaiyaa. In mutual funds, the entire fund portfolio gets affected due to inflows and outflows, forcing fund managers to buy and sell. In PMS, investors’ portfolios remain unaffected as they are in separate demat accounts. PMS is better suited for investors who want to pursue a buy-and-hold strategy. Go with a fund manager with a high conviction and low churn strategy.
Kapur is of the view that investors should not go by brand name. “Prefer boutique investment firms where the fund manager is also the promoter. Often his own money is invested in his fund. Hence, he has a greater stake in generating good performance than a salaried fund manager,” he says.