How does a mutual fund works? An Asset Management Company (AMC) like Axis Mutual Funds pools money from various investors and manages that money by investing it into different options. All mutual fund have an investment objective for eg Axis Bluechip Fund’s objective is – To achieve long term capital appreciation by investing in a diversified portfolio predominantly consisting of equity and equity related securities of Large cap companies. Each fund is managed by a Fund Manager who decides when and where to invest the pooled amount while aligning to the fund’s objective. There is usually a team of skilled professional who assists the manager in taking investment decisions. AMC takes a cut from the pooled amount to cover its expenses this cut is usually around 0.5% to 2% of total asset under management (AUM).
To evaluate the investment decisions taken by the manager each fund has a benchmark index against which its performance will be compared. Axis Bluechip Fund which is supposed to invest majorly in large cap companies has its benckmark as BSE 100 and NIFTY 50. A manager is doing a good job if he/she is able to generate more returns than the index consistently by taking better investment decision.
Looking it from a different perspective: an investor have a choice to invest in mutual fund and pay for the expense ratio or directly replicate the index for free (or nominal cost) using their money. Rationally they would choose to mutual fund only if it has a proven track record of generating better returns. The difference between mutual fund’s return and index return is known as alpha. Simply put:
Alpha = Fund Return – Index Return
A positive alpha means rational investor should prefer fund and manager is proving his/her worth.
We compared returns of Axis Bluechip Fund to its two benchmarks over a period of 9 years. We defined different periods over while the return will be calculated and compared the number of days when fund had generated more return to days when index had more return. The observations are below:
| Period | BSE 100 | NIFTY 50 |
| 6 months | 42% | 44% |
| 1 year | 33% | 30% |
| 2 years | 23% | 17% |
| 3 years | 10% | 6% |
| 5 years | 0% | 0% |
As per the above table: Historically BSE 100 generated better returns than Axis Bluechip Fund 43% of time (i.e. 43 out of 100 days). This number reduces as we take linger period and eventually drops to 0 if the period is 5 years. The the fund manager is generating better returns almost always in past if the investment period is long enough.
Hitesh Gulati, CFA 