What should investors look for when searching for a fund with high AUM? (2024)

Kaustubh Belapurkar, Director-Fund Research, Morningstar Investment, says “the context of AUM has changed over the last few years. In the past, maybe Rs 10,000 crore was considered high, today, we have several funds managing in excess of Rs 50,000 crore in a single strategy. So from that context, the fund size has grown, but the overall market has also grown. AUM needs to be looked at from that context.”

Let us just simplify funds with higher AUM. In layman’s terms, how would you like to explain that?
Kaustubh Belapurkar: AUM is basically the assets that a fund is managing. There are pools of investors that invest into these funds. If I am putting Rs 100 and another investor is putting Rs 100, the size of the fund grows. The overall asset that a particular strategy is managing is basically what the AUM would denote and obviously the context of AUM has also changed over the last many years. Whereas in the past, maybe Rs 10,000 crore was considered high, today, we have several funds managing in excess of Rs 50,000 crore in a single strategy. So from that context, the fund size has grown, but the overall market has also grown. AUM needs to be looked at from that context.

You have given a list of funds which have very high AUM and these are also strong and consistent performers in their own categories. Would you want to list the names out?
Kaustubh Belapurkar: Yes, sure. I would not probably go through all the names, but because there has been so much retail investor interest in mutual fund investing over the past many years, obviously they would tend to invest in more long-term investments like in equity funds or balanced advantage funds. Most of the popular funds, which are the larger funds, have garnered or grown in size there. So you would see a lot like the HDFC Balanced Advantage Fund, the SBI Equity Hybrid Fund. There are a couple of equity funds like the HDFC Mid Cap Opportunities, Parag Parikh Flexi Cap, the ICICI Prudential Blue Chip.

So, there are several funds that are north of Rs 50,000 crore. But a very important point from an investor's context is that while the fund size has grown, which is also great, one must remember the market has also grown, if not more than what the fund size has grown. I just want to lay down some context, especially since this Sebi categorization exercise that started in 2018 and AMFI published this data.

The first important data point is the overall market cap of the Indian market. I will focus on equities in some of the larger funds, because interest from retail investors has been on the balanced and the equity side. The Indian market cap now is the fourth largest in the world at about $4.33 trillion. Just five or six years ago, it was half that at about $2 trillion. The market has expanded because market caps of individual companies have gone up. And more importantly, as we have seen through IPOs, newer companies have been coming and that has expanded the playing field for fund managers. AUM needs to be looked at very closely from that context.

Obviously, different strategies would have different constraints but from a broader perspective, since the market has grown so much and mutual funds have been getting increasingly higher flows from retail investors, I do not think one size fits all and that high AUM is either bad or good. It needs to be looked at from the lens of the particular individual fund. That is a very important context investors should have when they think about a fund with high AUM.

Across market caps, let us also talk about funds which by default have higher AUM. One can expect a largecap to have a higher AUM than a smallcap fund. Nippon India Small Cap Fund has a very high AUM and is now the best performer in its category as well. How should an investor look at the performance of Nippon India Small Cap versus the SBI Small Cap? As per market caps, how can AUM impact performance?
Kaustubh Belapurkar: You made a very important point when we think about the construct of the way the strategy in which a fund is managed and that is what I alluded to. You need to look at it from a case specific basis for the fund strategy, in terms of whether the size is becoming a constraint for the fund being managed because remember, a fund typically follows a particular set strategy and the moment it becomes too large, can it continue to manage it in the same fashion or manner?

I think the crucial question that we need to be asking as investors is when we look at a strategy that has obviously grown in size over the years, large caps, I mean, fairly liquid market cap stocks, high market capitalization. So, even if you are buying a couple of hundreds of thousands of crores through a fund in a largecap stock, you do not really own a very significant part of the company.

That is potentially not a problem with enough liquidity in the market. So for most largecap or flexicap funds that have a significant largecap allocation, that is not a problem in terms of the size we are at currently. When we come down the capitalization curve, that is something that you want to pay more attention to along with a couple of factors. One is obviously, when a fund manager is looking to construct a portfolio, let us take an example of a smallcap fund.

Suppose you are a Rs 20,000 crore smallcap fund and you want to buy companies with reasonable positions. Now, reasonable, even if I talk about 2%, now, 2% of a 20,000 crore fund is about Rs 400 crores. Now, Rs 400 crore of a company, if you are looking in the smallcap space and perhaps it's a Rs 5,000 crore company, that would be owning about 8% of the company, which could pose a couple of challenges.

One is, obviously, can you get that liquidity in the market because many of these companies could potentially have large promoter holdings so you will have to look for block deals and then try to get that stake. And b), when on the other side of the coin, like when you, your conviction has played out or maybe your conviction did not pan out as you expected, you want to sell the counter. And that typically tends to become the harder part, how quickly can you sell that kind of counter if you are holding a significant portion of the market.

So, those are the things that fund managers will look to balance. And the one thing that we have seen with a lot of managers, because like I said, the space is also growing. You used the example of the Nippon Small Cap, it is one of the larger funds, about Rs 43,000-44,000 crore in size. But remember, it has also built a pretty diversified portfolio north of 150 stocks now. So, they are taking bets which have to pan out. The question is have they delivered that with a diversified portfolio like this? I think the proof of the pudding is they have.

Maybe they did not have 150 stocks, but they have always had for a long period of time, north of 100 stocks. So, that is a good part. Like I said, there's enough playing field there. Plus, when you get larger AUM, the benefits of having access to better research, building your in-house research to continue to find newer smallcap companies are there. So, there are pros and cons to that.

The other important thing, which even Nippon has done in the past with their smallcap fund, is that when they believe that the size can potentially become a constraint for managing the fund in the way they wanted or intend to manage it, they tend to stop flows or limit flows, which is a very good move because in a way, you are trying to protect the existing investors at the cost of getting fresh, additional money, because if your fund is doing well, investors will gravitate towards it. But you are actually taking that judicious call of protecting investor interest.

So, that is the one thing that we have seen several fund houses do in either their smallcaps or some of their large and midcap funds. This I think is a good sign because that is kind of looking to protect investor interest and maintain the investment process and the mandate of the fund as close to what they intended it to.

The second question was how should an investor look at it? When you think about investors, you think about larger funds being safe havens. Investors tend to gravitate towards some of the larger funds or the more popular funds that have been doing well recently. Every investor’s perspective on needs is unique. The first thing is they need to think about what are their return objectives are and their investment time horizon.

We use the example of a small cap. If I am an investor with a three-year horizon, no matter how good a smallcap fund is or how large and well-managed it is, I will not buy a smallcap fund. I will move towards a largecap fund. So, that is the very important thing to keep in mind from an investor's perspective. When you are investing in funds, do not just look at large funds and invest. Think about the stability of the team, the stability of the way the portfolio is being managed and if you are holding a fund that perhaps has grown or you think has grown too large in size, the easiest exercise you can do is look at how the portfolio has moved over the last few years.

Does it look like it is being run in a similar style or has the style deviated? If the style is deviated, then you might want to question, do I hold the fund or do I exit? But if nothing has changed, the manager may take prudent steps to control flows or whatever. So you better stay invested because it still meets your investment objectives. That is one thing that an investor should keep in mind and not necessarily just purely filter funds on size.