Mutual Fund NFOs – Why you should stay away

Promotion

New Fund Offer (NFO) is done by a mutual fund house when they launch a new scheme/fund. Investopedia describes NFO this way:

Promotion
Promotion

What is a 'New Fund Offer - NFO'
A new fund offer (NFO) is the first subscription offering for any new fund offered by an investment company. A new fund offer occurs when a fund is launched, allowing the firm to raise capital for purchasing securities.

A mutual fund company launches a NFO after getting requisite permissions from SEBI. Many NFOs are widely pubclicised and promoted. In this article we look at the reasons for NFOs and why most investors can give them a miss.

Reasons for NFOs

Any new fund house (AMC) has to start with New Fund Offers. This is obvious. There are many situations that require NFOs.

  1. As seen before, when a new AMC starts its operations
  2. Launch of a closed-end fund
  3. Launch of an Exchange Traded Fund (ETF)
  4. An existing AMC launching a new open-end fund

In this article, we would focus on the last category.  (Fixed Maturity Plans – FMPs – are launched as closed-end funds and are one exception to the guideline of avoiding NFOs.)   

In the past, AMCs launched new open-end funds for a variety of reasons. Many of them – gathering more AUM, providing incentives to distributors, etc. – are not helpful to the investors. Occasionally, a good fund house would launch a new fund with a rare investment mandate. This would be helpful to the investors looking for such funds.  An example that I can think of is the now discontinued DSP BlackRock Treasury Bill fuun which invested in 1-year gilts; this was the first and only such fund.

NFOs in 2018

The major categorization exercise carried out by SEBI in 2018 had a major impact on NFOs. (Article here)  A fund house can have only one fund in any category. The only exception is for sextoral, thematic and index funds – there can be a fund for each theme/sector/index.  This put a stop to AMCs launching multiple funds in the same category. 

The corollary of this is that  many AMCs have a few or more categories ‘not covered’ – i.e. they don’t have any funds in that category. AMCs are then motivated to fill these ‘gaps’.  This definitely makes business sense to the AMCs.  Without commenting on the merits of the launches, some of the recent ones are:  Large-and-midcap fund from Axis. Small cap fund from Invesco, etc.  

Some of the NFOs are widely promoted and create buzz among the investors. They need not be in the interest of the investors.

Existing equity funds in India

The table below gives the number of funds at the end of 2016 in some of the popular categories.

Category Number of funds as of end 2016
ELSS 39
Large Cap 28
Large and Mid Cap 25
Multi Cap 30
Value 14
Hybrid Aggressive 26
Equity Savings 19
Arbitrage 17
Small Cap 11

For an investor in 2018, these funds provide a large enough choice pool. The investor can look at the performance over time and make an informed decision. The table does not include information on thematic and sectoral funds. Some of the popular themes and sectors – Banking, Pharma, IT, Consumption, etc. – have a large number of funds.

What should an investor do?

This is simple. You can just not get lured by the publicity and buzz around NFOs. Based on your goals, select the appropriate fund categories and then select the better funds in them. These articles can help.

Best Mutual Funds – Selection Guide

Best Mutual Funds – Selection using ValueResearch

 

I hope that you found this information useful. Please leave a comment.

 

 

 

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