Passive funds have seen a significant increase in activity recently, which has boosted investors’ confidence. This trend is mainly due to the consistent underperformance of actively managed funds compared to their benchmark indices. On the contrary, recent passive NFOs have shown substantial growth, driven by the uptrend in major indices.
As reported in the study ‘Where the Money Flows’ by Motilal Oswal Asset Management Company, passive funds’ assets under management (AUM) have reached Rs 10.2 lakh crore as of June 2024, while active funds’ AUM is at Rs 50.9 lakh crore. It is noteworthy that passive funds now represent 17% of the total AUM in the industry.
In recent times, there has been a notable increase in the launch of passive funds. Specifically, within the past seven months, a total of 63 new passive funds have been introduced. This figure surpasses the 51 passive funds launched throughout the entirety of last year, as indicated by data from Ace Equity MF. Notably, half of the 12 New Fund Offers (NFOs) introduced this month have been in passive mode, demonstrating a significant shift towards this investment approach.
Passive mutual funds are investment schemes that aim to follow the performance of a specific market index and are overseen in a passive manner by fund managers. These funds are favored by many investors due to their cost-effectiveness and simplicity. Interestingly, numerous active mutual funds struggle to outperform the benchmark consistently. Consequently, passive investment options are increasingly preferred by investors seeking stable returns.
What is working for passive funds?
In recent months, Tata Mutual Fund introduced 10 new passive funds by the end of July. This move was followed by HDFC AMC launching five funds, while Mirae Asset Management and ICICI Prudential each introduced four funds. These additions contributed to a significant growth in the number of folios under passive funds, which surged by 22% last month to 3.22 crore, compared to 2.64 crore recorded in January.
Conversely, the number of active fund folios also saw an increase of 19% during the same period, reaching 13.84 crore from 11.64 crore previously. The assets under management in passive funds exhibited a notable rise of 24%, totaling Rs 10.95 lakh crore compared to Rs 8.83 lakh crore previously.
Both demand and supply factors have played significant roles in driving the increasing preference for passive funds.
Vidya Bala, co-founder, PrimeInvestor, told Business Standard: “On the demand side, investors have felt the need for passive funds because active funds have struggled to outperform their benchmarks. As a result, investors have begun to seek more options that at least match the market returns.”
Equal weight investment in an index, a passive strategy, has garnered investor interest due to its potential benefits. On a similar note, focusing on the top-10 stocks of the Nifty index in pursuit of generating risk-free higher returns has become a popular trend among investors.
On the supply side, it is important to note that asset management companies (AMCs) have made adjustments to adhere to Sebi’s regulations. These regulations now permit AMCs to provide just one fund per category, with the exception of index funds and exchange-traded funds (ETFs).
Bala added that in these funds, Sebi allows Asset Management Companies (AMCs) to introduce numerous index funds or Exchange-Traded Funds (ETFs) on condition that each fund tracks a distinct index. As a result, several funds have been introduced based on a variety of newly created indices.
Kaustubh Belapurkar, Director-Manager Research, Morningstar Investment Research India, said most large AMCs rely on passive and thematic NFOs as their active product bouquet is already established. Belapurkur said: “Passive funds that focus on a particular sector/theme or factor typically carry greater concentration, sector or factor risk.”
Besides, passive funds may not always mirror benchmark indexes precisely. These funds come in various types, with some focusing on specific sectors or themes such as defense, consumer durables, or infrastructure, among others. In such cases, investors can gain exposure to these sectors or themes through passive fund investment vehicles.
“As more and more investors understand that generating alpha for a longer period from active mutual funds is not easy, they are more interested in passive mutual funds which are very cost-effective and a no-brainer for the investors. Mutual fund companies are applying new marketing strategies by offering sectoral/thematic passive funds,” says Preeti Zende, a SEBI-registered investment advisor and founder of Apna Dhan Financial Services.