May 19, 2014

What should you infer from the name of a scheme?

Frankly, not much.  What is more important is to know what not to infer from the name of scheme.  Here are three rules:

Rule # 1: Do not be carried away by the appeal of a scheme’s name.

It is easy to fall prey to the guile of a seductive name, or to draw a misleading inference from words such as, ‘monthly income,’ in the name of a scheme.  It is for this reason that in the list of risk factors that statutorily need to be mentioned in any promotional material for any scheme, there is one that cautions investors that “the name of the scheme is only a name, and does not in any manner indicate either the quality of the schemes or its future prospects or return.” 

In the case of schemes with the words, ‘monthly income,’ in the name, an additional disclaimer is needed that “monthly income is not assured and is subject to the availability of distributable surplus.”  In effect, that means that while it is the intent of the fund manager to generate some income for the investors each month, there may or may not be any income, monthly or otherwise.

Rule # 2: Do not look in the name of a scheme for clues about its investment objective.

I believe that is difficult, if not impossible, to describe a scheme’s objective in anything short of a long sentence.  The name of a fund would, thus, be expected to have, at best, a few key words about the objective. 

There are some funds whose names communicate nothing about their investment objective (e.g. Reliance Vision Fund).  With such schemes, there is really no risk of misinterpretation.  However, there are other schemes which carry words that are open to interpretation.  These are the ones to particularly watch out for.  Examples of such words are ‘Dynamic,’ ‘Opportunities,’ ‘Short Term,’ and ‘Medium Term.’  These could all mean different things to different people.  I would even add ‘Balanced’ to that list.  To someone with a dictionary, this word has a meaning which is different from what the fund industry as a whole has chosen to give it.

The objective of a scheme is best ascertained by going through the Scheme Information Document and not by inferences based on the name of the scheme.

Rule # 3: Do not assume that schemes with similar names are comparable.

Far too many individuals that I meet, believe that funds with similar names are comparable.  Let me illustrate why this is not necessarily so.

Value Research has created multiple fund categories to facilitate meaningful comparison amongst funds.  In other words, a fund is best compared with other funds in the same category, rather than with funds in other categories. In the case of debt funds, this categorization is based upon a combination of the kinds of debt instruments invested into, the average maturity over the preceding 12 months, and the ability to vary this maturity. 

At the time of writing this, there are 59 debt funds listed on Value Research with the words ‘short term’ in their name (this excludes those which have the words ‘ultra short term’).  On the face of it, it would seem that these funds should be comparable, and if so, should be in a common category.  As it turns out, these funds are spread across five different categories.

Some of these funds are gilt funds and some seek to invest in floating-rate securities, hence, to some there may be a case to exclude these from this list.  If you do that, the number of funds comes down to 43.  Even these funds are not clustered in a single category.  In fact, these are spread across three different categories:

  • Ultra Short Term (Funds whose average maturity over the last 12 months is less than 1 year, but which are not liquid funds)
  • Short-Term (Funds whose average maturity over the last 12 months is between 1 year and 4.5 years)
  • Income (Funds which can vary their average maturity widely, as per declared objective)

In case you are wondering, the current average maturities of these funds range from 0.01 years to 2.91 years.

So much for their comparability.

In conclusion, I’d say that applying these three rules is a reasonably safe way of avoiding the ‘name trap.’ 

Looking at the names floating around, though, does makes me wonder as to what makes fund houses choose the names that they do.  I’m not sure if I have the answer to that, but as food for thought, I would like to leave you with two pieces of trivia.

1. At the time of writing, by my count, there are 43 funds which carry the word, ‘Opportunities,’ in their name.  Of these, 21 are equity funds, 19 are debt funds and 3 are hybrid funds.

2. As far as I have been able to make out, the scheme with the most number of name changes (for reasons other than merger/ takeover etc.) is the fund which currently goes by the name, ICICI Prudential- Balanced Advantage Fund.  This seems to have started its life in December 2006 as ICICI Prudential Equity and Derivatives Fund – Wealth Optimiser Plan.  In 2011, it was renamed to ICICI Prudential Equity and Derivatives Fund – Volatility Advantage Plan.  In 2012, its name was shortened to ICICI Prudential - Volatility Advantage Fund.  In 2013, it was again renamed to ICICI Prudential – Balanced Advantage Fund.  As far as I can make out, none of the original attributes has changed – just the name has been changed.

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