Law of Compounding states that every single percent return makes a huge difference in the long run.
|Invested – Rs 10 Lacs||Rs. 25.93 lacs||Rs 28.39 Lacs||Rs. 31.05 Lacs.|
Just a 1% difference in returns on 10 Lacs for 10 years results in a Wealth Gap of Rs 2.46 lacs. If it is 2%, then the gap is way large at Rs 5.12 Lacs.
In Oct 2017 SEBI has mandated for all mutual funds to recategorize funds and work within a defined space and cap each category of Mutual Funds. For example, if a fund house labels a fund as large-cap, they must mandatorily maintain at least 80% holding in Top 100 companies of full Market capitalization.
The BIGG Mistake we are making: For Large-cap Funds: With a very limited universe of stocks to choose from (100 Companies only), for past two years since recategorization of funds have come into play, Large Cap fund manager is finding it extremely difficult to beat their benchmarks NIFTY/ Sensex. Earlier they would take more exposure in midcap space or beyond 100 stocks and would generate better returns. The mandate that Large-cap funds must mandatorily invest 80% of the Funds in Top 100 Companies, has resulted in massive underperformance from Large Cap funds.
Below data is the testimony of how badly Large-cap funds are struggling.
This is a Morning Star, global research giant, search result of Top 25 Funds. In 2018, almost 96% of the funds underperformed the Broader Index, Sensex in this case. Out of 25 Funds, one 1 Fund, was able to beat Sensex in 2018. Rest 24 were way below SENSEX performance, mostly giving negative returns whilst Sensex delivered 5.91%. (4th Column from RHS).
2019 was slightly better, but still, 18 out of 25 Funds delivered lower returns than Sensex. 72% of funds underperformed.
Why are they underperforming: The reason is simple, with a limited number of companies to invest in, Large Cap fund managers are finding it increasingly difficult to beat their benchmark NIFTY/Sensex.
So, what better options do Blue-chip investors have: There are 2 options for investors who wish to stick to Blue-chip Companies and achieve near similar returns of Sensex/ NIFTY.
- Index Funds: As the name indicates their stock selection is nearly the same as of any index they follow. SENSEX/NIFTY. What’s more, they are extremely low on cost with an expense ratio of not more than 0.50%-0.75%. Compare this with large-cap funds with an expense ratio of nearly 2%.
- ETF: These are Exchange Traded Funds; means you can just buy/sell them like a stock. ETFs also track an index (Sensex/NIFTY) stock allocation weight and deliver returns remarkably close to Sensex/ NIFTY, or whichever their benchmarked index is. Their cost is lowest with not more than 0.15%.
Below is the performance of the Top 12 Index Funds: Calendar Year-wise, since 2014.
Last 2 years all 12 Index Funds delivered positive returns with 5 in 2019 and 4 in 2018 delivering even higher than Sensex Returns. A ratio is much higher than Large Cap Funds.
ETF Performance: Calendar Year: Since 2014.
ETFs have done remarkably better than Large Cap funds and even Index Funds. 7 out of 12 ETFs have delivered returns better than SENSEX, and all have delivered positive returns in each calendar year.
Hence for investors who wish to create wealth by investing in top blue-chip companies should choose ETFs/ Index Funds in their journey of wealth creation. It gives you stability, consistency, less stress, and that too at an incredibly low cost. You save almost 2% by investing in ETFs, and in addition, get higher returns. And as indicated above a 2% higher return can create a massive difference in your wealth in long run.
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