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What you should know about fund IPOs

Value Research | April 22, 2005

leftndian fund investors are in the middle of an unprecedented IPO mania.

Like Sergei Bubka's pole vault record, equity fund (a fund that invests in the shares of companies) IPO subscriptions have managed to cross the barrier a little more every time these days.

ImageWhen an Asset Management Company (mutual fund house) comes out with a new fund, it is referred to as an IPO.

Take a look at these figures

  • Enter IPOs, exit existing funds.

In the past six months, equity funds have amassed over Rs 10,048 crore just from IPOs.

During this period, existing equity funds have seen an outflow (investors sold their fund units) of Rs 4,003 crore.

Since December 2004, fund IPOs have managed to raise more money than they could have imagined.

Tata Infrastructure Fund raised Rs 772 crore in December. In January, relatively small fund houses like Cholamandalam and Sundaram raised Rs 102 crore (Chola Multi-cap) and Rs 356 crore (Sundaram SMILE) while Kotak Mid-cap collected Rs 577 crore.

In February, Franklin Flexi-Cap set a new record as it collected Rs 1,950 crore in its IPO.

Unfortunately, there is no way you can judge the IPO on past performance since it is a brand new offering.

So what most investors eventually go by when investing in an IPO is how well-known the fund house is and how appealing the ad campaign.

Before you jump at the next fund IPO, do keep this in mind.

They all want your money

AMCs make their money by managing investors' money.

Management fees are taken as a percentage of the Assets Under Management. The AUM  refers to the total amount of money currently being held with a mutual fund.

On an average, equity funds charge 0.99% of the AUM as the management fee.

The more the assets under management, the higher the income for the fund house.

Obviously, it is in the managers' interest to earn higher revenue for the company.

What you should know

The AMC just wants you to invest with them. You will have to use your discretion and decide where your limited amount of money is to be deployed. Ensure that the fund house is reliable before you part with your money.

They love to make a noise

Mutual funds are sold, not bought. Investors are still not comfortable with mutual funds and prefer post office saving schemes and bank fixed deposits.

And, at the rate mutual funds are being churned out, investors are getting even more confused. That is why each fund house ensures that it makes a lot of noise to get top-of-the-mind recall.

This attracts investors who invest on the basis of popularity or recollection.

What you should know

Just because a fund has a great ad campaign and attractive billboard displays, it does not mean it will make a great investment.

They capitalise on market sentiment

Retail investors are attracted to stock markets and equity funds when the markets are high.

As they watch their friends and neighbours benefitting from stock market investments, there is a feeling of being left out. It is difficult to stay away from the lure of easy money, so they hop onto the next bandwagon.

One should not get carried away with market trends and stock-of-the-month or hot funds and quick tips. All these are certainly the easy way to doom.

What you should know

Investing is not a seasonal activity. Making wealth is about having a plan, investing regularly and maintaining discipline.

Mutual funds use the no-load spiel

There are two loads when investing in a mutual fund. The entry load is the fee you pay when you buy the units of a fund and the exit load is when you sell your units.

This fee is a percentage of the amount you invest. So if it is 1% and you invest Rs 10,000, the entry load will be Rs 100.

When funds come out with IPOs, they do not charge a load.

If you are investing for three to six months in an equity fund IPO, then the absence of load would be a benefit.

For long-term investors of equity funds, no-load will not matter as much as buying the right fund. For example, if you invested in an average equity fund for the last five years, you would have earned a return of 88% after excluding the 2% load.

The point? Load has little impact on returns if you are a long-term equity fund investor. How well your fund performs is more important.

What you should know

Generally, funds do not charge both entry and exit loads; they charge either one.

Chances are that even if you do not pay an entry load for an IPO, you may pay an exit load when you sell.

Even if you don't, don't let this be your investment criteria. Invest in a fund because you believe in it.

They push their sales agents to achieve targets

Every time your mutual fund advisor or agent comes selling you IPOs, remember he has a vested interest. He makes more money selling IPOs than selling an existing fund.

The reason is that the AMC spends more money during IPOs and does not hesitate to spend a little more to get more money.

For example, mutual fund agents will gets 1% to 2% of the money they collect for an existing equity fund. When it comes to an IPO, that percentage can go as high as 3% to 5%.

What you should know

Don't believe every word your mutual fund agent tells you. Remember, he is more interested in his incentives and commissions than in your portfolio.

Do remember that when you invest in an existing fund, it is easy to check out the fund's portfolio -- either in their quarterly reports or on their Web site. In a fund IPO, you will not know what shares will be bought till the fund manager actually invests the money.

Finally, when you do invest in an IPO, your fund manager could wait a while to invest the money for whatever reason.

It could be that he has to wait for the entire issue to close (especially it if is open for a few weeks) before he can start investing.

Maybe he feels the market is too high and is waiting for it to cool down so he can pick up shares at a lower rate.

In the meanwhile, your money remains idle and does not earn a return.

Value Research

 

Illustration: Dominic Xavier




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Number of User Comments: 1




Sub: Thanks For Article

Hi, Thanks for putting such a nice article to educate the investors like me you already put 1 lakh rupees in IPO just blindly trusting ...


Posted by Rajdip Gupta




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