The Hindu Business Line : How equity funds fared over the April-June 2007 quarter

Diversified equity funds sprung back on their feet in the April-June quarter, as the market began to make a recovery and mid-cap stocks recorded spirited gains. After straggling behind the indices in 2006 and in early 2007, equity funds are beginning to recover some of their former glory. Of 166 funds, 133 outpaced the Sensex and the Nifty. The category delivered an average return of close to 17 per cent during the quarter, compared to the Nifty’s 13 per cent.

The better showing by mid-caps could partly explain the outperformance of diversified funds, which typically invest about 25-30 per cent of their portfolio in mid-cap stocks. However, with the rally being selective in the kind of mid-cap and small-cap stocks as well, stock selection played a greater role in driving performance. Only half the funds in the category outperformed the BSE-500, a broader-based index.

Topping the charts

As is often the case, funds that topped the charts were not necessarily those with a good long-term track record. Standard Chartered Premier Equity, launched in 2005, led the category, with returns of about 35 per cent, followed by Taurus Libra Tax Shield and Tata Equity P/E.

Funds with a mid-cap focus or bias ranked high on the charts, with the mid-cap indices outperforming the narrow benchmarks. Birla Midcap, PruICICI Emerging STAR and Magnum Emerging Businesses turned in noteworthy performances, outpacing the BSE Midcap Index. Franklin Prima and HDFC Capital Builder also got a fresh lease of life during the quarter.

Large-cap funds figured in the middle of the performance ranking. Their scorecard, however, was more impressive this quarter. After struggling to keep up with the Sensex in recent years, established, large-cap funds such as Franklin Bluechip, HDFC Equity and Kotak-30 outpaced the index by about 3-4 percentage points.

Value funds to the fore

Dividend yield funds and those with a value style of investing reinforced their raison d’ etre over the quarter. Having had a lacklustre show through 2006, the funds showed signs of recovering early this year and several beat the benchmark indices in the last three months. Prominent among them were Tata Dividend Yield, PruICICI Discovery, Templeton India Growth, Principal Dividend Yield and Birla Dividend Yield Plus. Such funds tend to take larger exposures to sectors such as metals, banking and oil and gas, all of which were on the uptrend during the quarter.

Funds smartly latched on to the media, banking and capital goods sectors to ride the rally. The metals sector, which made a strong comeback during the quarter, did not figure in the key holdings of the top-performing funds, with Tata Equity P/E being one of the few exceptions. In fact, software continues to be a prominent holding among several funds. While the sector was under considerable pressure in recent months, its impact on performance appears to have been countered by holdings in banking, media and capital goods.

Overall, it was a good quarter for mutual funds. If diversified equity funds repeat this outperformance over the next couple of quarters, they might re-affirm investors’ faith in active investing. As always, we sign off our quarterly performance update by reminding investors to evaluate a fund over a period of three to five years. That would better capture its ability to weather choppy markets, such as the one we have seen over the past three years.

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