MF return agaist with index value. How does it work?

POSTED BY trupti ON October 4, 2010 9:56 pm COMMENTS (7)

I am still trying to understand the return from Mutual funds when compare against index value. When we say that in long term(say 20+ years) a disipline and systematic investment in good mutual fund gives better returns(say 12 to 15%). Does it mean sensex or NIFTY will also grow by that percentage ? So today, Sensex is around 20000. If we say 12%(CAGR) return a MF gives in long term(20+ years) then does it required sensex to grow. The value I calculated for sensex by calculator(provided on this site) is around 161000. It is possible for sensex to grow to such a large value?

Am I doing mistake while applying the theory of appreciation. Please help

7 replies on this article “MF return agaist with index value. How does it work?”

  1. trupti says:

    That has definitely cleared my doubts.
    thanks manish

  2. bharat shah says:

    i add two points: 1. traditional index funds are investing funds available into exact proportion of the shares in the particular index composition, which in turn depend on the market capitalisation of the pthe constituents, irrespective of their recent financial performance. now there comes 2nd generation , may be 3rd generation etf, such as recently launched ‘MOst’ 50, which i think , invest in the same stocks as nifty 50, but the amount is depending upon the financial performance of the companies as predefined formula. 2. benchmark mf is going to introduced different sectors etf based on sectorial indices. they may provide to formulate diversified mutual fund portfolio by the investor in his own with weightages as per his idea.

  3. Manish Jain says:

    Personally, I tell people there are 3 levels to investing in the equity markets:

    Level 1 – Index Fund
    Level 2 – Mutual Fund
    Level 3 – direct equity

    People should first try out an Index fund and get comfortable with the markets. then if they feel they can pick a mutual fund from the 1000’s then proceed. Then once you are comfortable with Level 2 then move to Level 3 and pick the stocks you think will perform.

    For a majority of people Level 1 is really where they should just invest and forget about it. In India you are betting that the entire country will progress and hence the index will rise (granted some people don’t like that fact the Reliance has 13%+ of the index). If you pick a mutual fund you are betting on the growth and that particular fund manager.

    I hate to say there is no easy answer, people have to try it themselves and be comfortable.

    1. Manish

      Nice way of looking at levels , it clearly describes risk/return levels 🙂

      Manish

  4. Good explanation Mansih. Just wanted to add my 2 cents here. It’s because of above mentioned reason that it’s not advisable to invest in pure index fund in MF / ULIP as here the fund manager does not have any flexibility to churn his portfolio. He passively invest in, say Nifty 50, companies in the same ratio as per their market-cap.

    Hope it will help you.
    MoneySavingsHelp

  5. Trupti

    Good question . the answer of your question is NO .

    Mutual funds are active investments which require human skills of buying and selling and keep on finding better investments and timing the markets . I will give you a simple example

    Suppose sensex is made of two shares only which is A and B , price of A is 100 and price of B is also 100 , and suppose Index is average of both which is 100 .

    Now suppose mutual fund XYZ invests Rs 100 in each company share . now suppose stock A goes up to 120 and B goes down to 130 . At this point SENSEX is at 125 (average of 120 and 130 , which is 25% gain , and the Mutual funds worth is 250 which is also 25% increase over Rs 200 investments .

    Now suppose the fund manager who is taking decision of buying and selling finds out that he should sell B company shares and move to A , so he will then invest 130 he gets from selling B into A , now his total money of 250 is in company A , now suppose A share goes up from 120 to 150 (25% increase) , but company B goes down from 130 to 100 .

    Now index would be at 125 (average of 150 and 100) , which is 25% increase over the starting point .

    But the investment of mutual funds would be from 250 to 312.5 , this is 56.25% increase .

    Now you can see that in this whole thing , index moved by 25% , but mutual funds gave 56.25% , because of simple reason that fund manager involvement is there and he is taking decision of buying and selling funds which is maximizing profits .

    So in long term it can happen that mutual funds have provided 12% return but index has provided just 4-5% .

    Hope that you understood that .

    Manish

    1. prabeesh says:

      @mainsh

      then are you saying Investing in Index based ETF can bring 4-5%,while at same time Mutual Fund(if palyed better) gives more returns?

      I thought most of the Benchmark Index ETF like Nifty Bees and Bank Bees will perform at good 12% in long term

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