Why Value Research is wrong to offer one star to Principal Nifty 100 Equal Weight Fund

Principal Nifty 100 Equal Weight Fund has a one-star rating by Value Research (as on 1st Dec 2018 8:44 am). This is completely wrong and yet again shows how flawed mutual fund star ratings are. Allow me to explain. It is all very well to use math, statistics graphs and analysis and offer ratings to mutual funds but it crucial to understand when to use math and when not to. In the case of this,  Principal Nifty 100 Equal Weight Fund it is a case of “not to”.

Principal Nifty 100 Equal Weight Fund is one of two index funds following the Nifty 100 Equal Weight Index (N100EW). Sundaram has another. Value Research does not bother to list each fund as its peer! Now, I have sung the praise of N100EW more than once:

So readers/viewers (of freefincal @youtube), who for reasons best known to them still take star ratings seriously, have asked me? “Why does Principal Nifty 100 Equal Weight Fund have a one-star rating at VR?”, Why does this fund have a huge tracking error?”, “How can you still recommend this index, when the performance is so poor?” Well, this is what happens when people are lazy and their idea of “research” is to click on the first link that Google coughs up and assume it is right and comment like an expert on social media.

Never forget the history of a fund before taking its returns and star ratings seriously

Principal Nifty 100 Equal Weight Fund: History

When Principal was Principal PNB, they had a Principal Index Fund – Nifty, tracking the Nifty 50 since July 27 1999. They had another index fund, Principal Index Fund – Midcap, started on May 2014 and tracking the (then) Nifty Free Floate Midcap 100 index. Source: AMC factsheet April 2017

On June 9 2017, the Midcap index fund was closed and the AUM was merged with the Nifty Index fund. From an analysts point of view, this event is not an issue. The Nifty fund could still be rated the same way as nothing has changed except for a small AUM increase. Source: AMC factsheet May 2017

Now, on April 6th 2018, the AMC announced a change in a fundamental attribute of its Nifty index fund. This means that the scheme has changed significantly and as per SEBI rules unitholders will have an exit load free period to withdraw from the fund. With this announcement, Principal Index Fund – Nifty became Principal Nifty 100 Equal Weight Fund.

This is where Value Research goofed up. A fund tracking 50 stocks of a cap-weighted index became a 100 stock equal weight index fund overnight. Therefore, it is no longer eligible for star rating! They should have given it an “unrated status” right then!

They did not and the fund carried and continues to carry a wrong star rating for almost 8 months! They assume that this change in nature was simply a name change! Unfortunately, the goofs do not end there.

If you look at the June 2018 AMC factsheet it clearly says:

Since Benchmark of the Fund change from Nifty 50 to Nifty 100 Equal Weight (w.e.f 10-May-2018), Tracking Error is Calculated as below–
• Nifty 50 TRI is considered from ( 01-June-2015 to 09-May-2018) &
• Nifty 100 EqualWeightTRI is considered for (10-May-2018 to 31-may-2018)

Unfortunately, look at the way VR shows the NAV growth of the fund vs benchmark

snapshot of Principal Nifty 100 Equal Weight Fund page at value research

It evaluates the fund wrt N100EW TRI index from inception! So for someone who looks at this graph, they would go, “no wonder this has a one-star rating, look at the huge tracking error!”. The actual tracking error since June 2015 is 0.33% which is reasonable. Both the Principal and Sundaram N100EW funds are too young to be rated.

According to VR star rating methodology,

Value Research does not rate an equity or hybrid fund with less than 3-year performance and a debt fund with less than 18-month performance track record.

This fund has only a few months history of tracking N100EW and should not be rated!!

This is the correct tracking error graph (normalized) and with both indices accounted for from the right dates

Principal Nifty 100 Equal Weight Fund tracking error chart with normalized nav and index price movement

So that is quite reasonable. For the same dataset, these are the rolling returns over 3 years

Principal Nifty 100 Equal Weight Fund rolling returns 3 years

If you are a fan of Value Research star ratings, ask them to correct this. There is nothing wrong with Principal Nifty 100 Equal Weight Fund! It just started tracking N100EW.   If I have to choose between these two AMCs, I would choose Sundaram as it started from day one as an N100EW weight fund. Somehow I find that more appealing.

For God’s sake stop taking star ratings seriously! Do your own research!

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Updated: December 1, 2018 — 11:51 am

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M. Pattabiraman

This article is authored by M. Pattabiraman. He is the co-author of two books: You can be rich too with goal based investing and Gamechanger. He is a patron and co-founder of "Fee-only India" an organisation to promote unbiased, commission-free investment advice “Pattu” as he is popularly known, publishes research, analysis and holistic money management advice at freefincal.com which serves more than one million readers a year. Frefincal.com has more than a 100 free calculators on different aspects of insurance and investment analysis, including a robo advisory template for use by beginners.

1 Comment

  1. Professor, Sundaram fund has given 1.1% less returns than the benchmark since inception and in the document it says that tracking error shall be maximum of 2% per annum but may vary substantially due to several factors (and mentioned a list of factors).

    While Principal fund’s tracking error is 0.34%. Nifty 50 TRI is considered from ( 03-Aug-2015 to 09-May-2018) & Nifty 100 Equal Weight TRI is considered for (10-May-2018 to 31-Oct-2018).

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