Last Updated on August 22, 2022 at 11:26 pm
Navi Nifty 50 Index Fund is an open-ended fund tracking the Nifty 50. Its initial total expense ratio for the direct plan is expected to be 0.06%. This article discusses if it makes sense to invest in this new fund offer based on its low fees alone. The NFO period is between July 3rd 2021, to 12th July 2021.
First of all, there is nothing to be excited about a new fund house offering a new product at the lowest fees. This is just a ploy to gain market share. Time and time again, we have seen mutual funds do this: lower the fee to invite the AUM and then up jack up the price. See, for example, the Expense ratio of my index fund has doubled! Should I switch to ETFs?
Tata Index Fund-Nifty Plan(G)-Direct Plan had a TER of 0.05% from July 2019 to March 2021. In April, it increased to 0.15% and then to 0.19% in May 2021. I think it is safer and reliable to assume all fund houses will do this.
Yes, yes, a fund with a lower fee is good for the industry, good for the competition and all that. Does this mean you will see a perceptible benefit? Does this mean you should commit money to a fund with no history of tracking the index? Are you an investor, or are you an experimenter?
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Investors should appreciate that this 0.06% TER of Navi Nifty 50 Index Fund is unlikely to last forever – they make it a point to add this disclaimer. So their claim that one can save 30 lakh on a TER of 0.06% vs a TER of 0.9% on a lump sum investment of Rs. 5 lakh after 30 years or Rs. 1 lakh after 10 years is quite simply unlikely. No TER will stay constant for that long. Fees do matter over the long term, but fund houses are unlikely to keep this low after the AUM grows.
Also, more importantly, there is more to passive investing than just fees! For example, investors assume ETFs are better than index funds because they have lower fees. Not so fast: ETFs vs Index Funds: Stop assuming lower expenses equals higher returns!
The need to look beyond fees!
Now consider the 14 month period between 1st Feb 2020 and 31st March 2021.
- UTI Nifty Index fund had a constant* TER of 0.1% during this period. Tata Nifty Index fund had a constant TER of 0.05%. * That is why this period was chosen.
- During this period, the Nifty 50 TRI index gave an absolute return of 24.395% or a CAGR of 20.620%.
- The absolute return of the Tata Nifty Index fund was 23.547%, or a CAGR of 19.913%
- The absolute return of the UTI Nifty Index fund was 23.746%, or a CAGR of 20.080%.
How did a fund with an expense ratio of 0.1% beat a fund with an expense ratio of 0.05%? There is no reason to believe that the UTI fund manager had any special skills to track the index better. The answer lies in the AUM.
In Feb 2020 (month end), The Tata fund had an AUM of only Rs. 24.5 Crores, while the UTI fund had an AUM of Rs. 1855.8 Crores. By March 2021 (month end), the Tata fund had an AUM of about 125 Crores, while the UTI fund’s AUM zoomed to 3592 Crores.
Investors tend to assume index fund tracking errors (measured here via actual returns) only stem from the expense ratio or corporate actions like dividends and splits of the underlying stocks.
We must always keep in mind that these are open-ended funds with no restrictions on investments or redemptions. Image a sudden investment or redemption of Rs. 1 crore in an index fund.
If the existing AUM is only a few Crores, then the fund manager will have a tough time deploying that money or selling stocks to match the redemption and still make sure the portfolio composition is close to that of the Nifty TRI. Or imagine a continuous increase in inflow due to investors’ herd mentality. The same scenario could play out.
This is why the Tata fund was part of this infamous list in Feb 2019 (due to low AUM): These five index funds beat their indices! Why you should avoid them! By Jan 2021, it managed to stay out of this report: Six Index Funds “Outperform” their benchmarks in the last year!
Take the case of the IDBI Nifty Index fund between the same period mentioned above, the TER was 0.3% for most months, increasing to 0.35% for two months and 0.32% for two months. The AUM was 208 Crores in Feb 2020 and 264 Crores in March 2021.
Its Absolute return was 23.725%, or a CAGR of 20.062%, just a shade lower than the UTI fund! A fund with 0.3% TER was able almost to match the performance of a 0.1% fund. Perhaps this was because of a steady AUM – no big inflows or outflows.
ICICI Nifty Index fund managed 23.692% or 20.034% CAGR. Its TER was a constant 0.1% in this period, while its AUM was much higher than that of the IDBI fund: 565 Crores in Feb 2020 and 1443 Crores in March 2020.
In this period, the three best performers – funds from UTI, ICICI and IDBI – had vastly different AUMs. Two of them had a low TER of 0.1%, while one has a 3X TER. Yet, they managed to track the index well.
HDFC Nifty Index fund also with 0.1% TER during the above period and an AUM of 1059 Crores in Feb 2020 and 2749 Cores in Mar 2021 also fared reasonably well: Absolute return of 23.481% or CAGR of 19.858%
Lower expenses do not always mean higher returns or equivalently “more savings” as claimed by Navi. In an open-ended fund, AUM in and outflow play a big role in determining tracking errors.
AUM movements are unpredictable once a fund opens. Market demand-supply movements cannot be controlled by the best fund manager or the best technology (Navi claims this is the reason for their low fees)
An expensive index fund with reasonable if not robust AUM is better than a low-fee index fund with low AUM. We cannot estimate what a “good” AUM is, but today, a ballpark Rs. 1000 Crores or more with reasonable performance should be typically acceptable.
It makes no sense to get excited about “lowest fees” and invest in an index fund NFO. Navi’s selling point of low fees and more savings means little. Let the fund launch. Let us find out how much AUM it manages to garner in the NFO stage. Let us see how its AUM grows over the next couple of years. Let us see how well it can track the index over the next couple of years. At that point, if they have held the TER constant at 0.06% over this period, we can show some interest in it. It is too early now.
Therefore we recommend that those currently invested in Nifty Index funds with Rs. 1000 Crores AUM or more with reasonable performance disregard Navi Nifty 50 Index Fund and its lowest fees drum beat and media spin, at least for the time being. They can continue to invest in their existing funds.
New investors looking for a Nifty index fund should also disregard Navi Nifty 50 Index Fund and invest in an established Nifty or Sensex index fund with low tracking error.
Nikola Tesla: Mr Angier, have you considered the cost of such a machine?
Robert Angier: Price is not an object.
Nikola Tesla: Perhaps not, but have you considered the *cost*?
– From the movie The Prestige (2006) illustrating the difference between price (high/low) and cost.
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