Quarterly review – Changes to Prime Funds & Prime ETFs

Prime Funds is our list of recommendations in equity, debt, and hybrid mutual funds that are worth investing in. Prime Funds narrows down your choices from the thousands of funds that there are into a concise list of funds that span different styles. Prime Funds are selected based on performance, portfolios, and investment strategies. 

In this review, we have made very few changes in Prime Funds. Please go through the report to stay updated.

Equity funds

Markets surged in the final leg of 2023; the last quarter alone saw the Nifty adding close to 2200 points. A return of sentiment in US markets, ebbing concerns over oil prices and a wider conflagration of the Israel-Hamas conflict, and State elections pointing to continuity at the Centre in the general elections all set markets roaring. Foreign institutional flow was strong along with domestic flows. The midcap and smallcap segments continued on a tear, with the indices gaining 12% and 14% respectively in just the Oct-Dec 2023 period alone.

For equity funds, it was a tale of differences. Several large-cap funds have been coming out strong with the broad-basing of the rally. On the other hand, the quarter saw funds from the midcap and smallcap basket falling heavily behind the indices. with the lower rung of stocks in these two indices rallying sharply, funds have stayed away from these riskier bets.

The current euphoria in the market is also making us cautious in gauging fund performance. There is also in several categories, a wide difference between performance. We would prefer to watch how markets overall are trending especially in the run up to elections before taking calls.

We have made just two changes in this quarter’s review in equity Prime Funds. 

Equity – Moderate: Passive

We have no changes in the Active set in Equity – Moderate. In the Equity – Moderate: Passive set of Prime Funds, we have added one fund – Nippon India Nifty 50 Value 20. This index fund that tracks the Nifty 50 Value 20 index, which is a factor index that picks stocks from the Nifty 50 based on value parameters. These are return on capital employed and dividend yield (higher the better), price-to-earnings and price-to-book (lower the better). Stocks are scored on these metrics and the top scores make it to the index.

The index’s current sector and construct augur well for performance. The metrics help pick cash-rich, high-quality companies that could also help contain volatility. The Nifty 50 Value 20 beats the Nifty 50 index steadily over rolling 1-year and 3-year periods, as well as large-cap funds. The index itself also has a good history of nearly 10 years of real-time index levels.

The index fund is suitable for any investor’s long-term portfolio as part of the moderate risk component. It can be held even if you hold large-cap funds or Nifty/Sensex index funds. It additionally complements growth-oriented funds in your portfolio.

Equity – Aggressive: Active

There are a few points worth nothing in this segment.

• As mentioned above, midcap and small cap funds have been lagging their benchmark indices. Midcap funds have been more sedate performers compared to the index for a couple of quarters now – which we noted in our September 2023 review. 
• But an emerging trend now is smallcap funds also falling behind the Nifty Smallcap 250 when they were comfortable outperformers earlier. With funds tending towards more quality companies and diffused allocations, the sharp rally in the tail end of the Nifty Smallcap 250 index where stocks have shot up 30-100%, have caused smallcap funds to miss the rally.
• We see otherwise consistent mid and small-cap funds (we have written about our Prime Midcap fund underperformance in earlier review and hence not getting into details) underperforming both their benchmark and category for 2 reasons: one, the benchmark is laden with stocks that mutual funds will not enter (poor quality stocks, especially in the small-cap index). Such stocks have seen a massive rally in this market. Two, funds that have been laggards for long have suddenly shot up, pushing these consistent performers down and making them look poorer than category. 
• We have seen this play out in earlier bull markets too and hence at this juncture, we are not too worried about some of our underperformers in this segment. In this scenario of euphoric moves, it would be prudent to be cautious about stock-picking and not chase after returns. Quality funds in the mid and smallcap categories also score in containing downsides during corrections, which takes more importance at this juncture in markets.

In this quarter, we have made only one change. We are removing PGIM India Flexicap. This is a fund we have been watching for 2 quarters now. We had retained it because the underperformance at the time was not steep, long-term returns were still holding up against peers and benchmark, and because we were watching the portfolio changes that its new fund manager was undertaking. 

However, performance has not showed signs of improving and now long-term returns have also begun to lag. The portfolio top weights are towards large-cap banks, energy, and IT which can take time to rally and push fund returns. Weights to sectors such as banking has also gone up. 

While these may eventually help, the deepening current underperformance may make it harder for the fund to recover. We have therefore pulled it out of Prime Funds to prevent an opportunity loss. Stop fresh SIPs in the fund if any. Hold all investments made so far and do not exit.
In this Prime Funds set, we wish to make a mention of SBI Smallcap fund’s performance. This smallcap fund has been well behind both peer smallcap funds and the Nifty Smallcap 250 index, and by a hefty margin.

A big contributor to this underperformance is the fund’s shift to cash; the fund has held close to 10% in cash for the past few months. This, when the segment was rallying, has weighed on returns. The conservative approach at this stage in the markets may be a prudent move and will also leave the fund with deployable cash in the event of a correction. The fund has otherwise been adept at capturing upsides during rallies and has been an above-average performer in the long-term.

Hybrid funds

For aggressive hybrid funds, the broad-basing of the market rally has seen many of them beat the benchmark Nifty Hybrid Aggressive 65-35 index. Several funds also held mid-and-smallcap stocks that have further fuelled their returns. As with equity funds, we are wary giving too much weight to the current performance and prefer to retain steady consistent performers even if they are not the current chart-toppers.

Hybrid – Moderate

In this review, we are removing Edelweiss Balanced Advantage from the Prime Funds list. This fund is among the most aggressive in the balanced advantage category, tending to keep most of the equity exposure unhedged during strong market up-moves. However, despite the higher equity exposure the fund has dropped behind the category average - which includes both conservative and aggressive funds - or been very close to it. Given its strategy and therefore the higher volatility, a better outperformance would typically be warranted. Other aggressive funds have managed better returns. 

For these reasons, we are pulling the fund out. Hold all investments made so far and do not exit. For fresh SIPs, consider HDFC Balanced Advantage or ICICI Prudential Equity & Debt from this set.

Debt funds

In debt markets, it is unlikely that there will be any further rate hikes. However, interest rates can remain in the pause mode for a good while; the 10-year gilt yields have largely been rangebound. Short-term market rates have, however, inched up. As a result, both short-maturity funds and long-maturity funds have seen similar return patterns but overall, debt fund returns have cemented a recovery from their long slump. We will issue a detailed debt outlook later this month and alert you to strategies in both debt funds and other bonds over the coming quarters as opportunities arise.

For this quarter, we have made no changes to our debt fund recommendations. The funds we have across the timeframe buckets are all the above-average performers in the category and there are no contenders to replace these. 

Prime ETFs

Prime ETFs is our list of recommended ETFs in equity, debt, and gold. We look at multiple factors to draw up this list, ranging from short-term and long-term tracking error, expense ratio, trading volumes and usefulness of the index in a portfolio. 

For this quarter, we have made no changes to our ETF recommendations. Our ETF recommendations are spread across broad-market and sector opportunities, and we see no ETF that would be a good addition to a long-term portfolio, and that also has reasonable trading volumes.

You can find the full Prime Funds list here.

You can find the full Prime ETFs list here.

Check our past quarterly reviews here:

Changes to Prime Funds and ETFs for the quarter ending September 2023

Changes to Prime Funds and ETFs for the quarter ending June 2023

Changes to Prime Funds and ETFs for the quarter ending March 2023

Disclosures & Disclaimers