NFOs: Don't invest unless there's unique concept or theme from a fund house

After the Securities and Exchange Board of India (Sebi) reopened the door to new fund offers (NFOs) in the equity segment, a large number of fund houses have lined up a spate of fresh schemes. As many as five open-end schemes were launched in August, two more are currently open for subscription, and a draft prospectus for more schemes has been filed by the fund houses. 

“The market regulator didn’t approve schemes in the past year and a half as it first wanted the fund houses to implement the re-categorisation norms. Sebi was concerned about the overlapping of schemes and wanted asset management companies to launch funds that were distinct from their existing portfolio,” says Sunil Subramaniam, managing director and chief executive officer, Sundaram Mutual Fund.

Among open-end equity NFOs that closed recently include Tata Multicap Fund, Motilal Oswal Equity Hybrid Fund, and BNP Paribas India Consumption Fund. Those that are open for subscription at present include Sundaram Services Fund, Shriram Multicap Fund, and SBI ETF Sensex Next 50. There are many closed-end schemes that are currently open for subscription or will soon hit the market. “The increase in the number of NFOs also shows fund houses are bullish on the current market and feel their potential for investors to make money,” says Subramaniam.

Many distributors push for NFOs as they receive slightly higher commissions. The usual sales pitch is either about the fund manager as a star performer or the distributor luring investors with the rationale of the scheme launch being perfectly timed with the current market scenario. Another unique selling proposition is that the NFOs are cheaper than the existing funds. Investment advisors, therefore, say that an NFO is best avoided unless it has a unique proposition.

Say, a fund house is launching a large-cap, small-cap fund or a hybrid fund, it’s best to avoid it. Instead, opt for a fund that has been in existence for three years. NFOs don’t have a track record. In an established fund, there are many data points that can help investors to evaluate a scheme. An investor can look at the history and how the fund manager has tackled the different market scenarios.

NFOs make sense if there is a unique concept or theme from a fund house. “It can be a unique investment approach or a theme that you are convinced would do well. But before you invest, do compare whether the existing funds serve the purpose,” says Vidya Bala, head of mutual fund research at FundsIndia. A few fund houses, for example, tried to use algorithms to select stocks on qualitative parameters such as price-to-earnings, price-to-book, and so on. But none of them succeeded.

Similarly, fund managers running large-cap or multi-cap portfolios usually capture the existing theme in the market and invest in the stocks that are in flavour. When the information technology sector started doing well a few months back, most diversified funds added those stocks to their portfolio. “It’s best to wait for a year and see how the new fund has performed and then enter it. It takes at least a year for the fund manager to build the right portfolio,” says Bala.