Passive fund story continued its growth in October 2023

13 Nov 2023 , 06:51 AM

Passive funds have been the big story in the last few years and that hardly needs any reiteration. What has changed is that, effective the start of FY24, the AMFI has started reporting all classes of passive funds in much greater details. The principal report may still give a very brief view on passive fund flow by categories, but there is the more detailed report that does the job quite well. That is what investors now need to focus on.

Against the previous classification of just 4 categories for passive funds, AMFI now provides classification of a total of 13 categories of passive funds. That enables you to get a much more granular picture of how specific categories of passive funds have shown growth and which funds have contracted; in terms of folios and in terms of the AUM. In the subsequent part of this article, we shall look at the growth in folios and AUM. The data points are short, so we will compare October with April 2023, to give an idea of how the growth has been in FY24 till date. Let us first look at a much finer aspect of passive funds and their take-off.

Needle in the haystack versus the haystack

Jack Bogle, the founder of Vanguard Funds, famously said, “Why look for a needle in a haystack, when you can buy the entire haystack.” To paraphrase, it means that when passive investing can deliver the goods, why stress yourself about active investing. Over the years, the US and other Western markets got to appreciate the importance of passive investing. In recent years, even India is gradually gravitating towards passive investing and the reasons are not far to seek. Investors buying active funds have two basic challenges. How to ensure that the fund you invest in is able to do the right stock selection? Secondly, how do you ensure that you select the right fund that is capable of doing the right stock selection. It is this dual challenge that makes active investing so complicated. Add to that, the costs in terms of total expense ratio (TER) are also higher in active investing. That does make a strong case for passive investing in India too. Here are some more reasons.

• Let us look at a global perspective first. According to a study by S&P, over the last 1 year, 85.07% of the active large cap equity funds in the US underperformed the S&P 500 index. You can argue that 1 year is too short a time frame for an equity fund, so let us look at a longer perspective. Over a 5 year period, 74.1% of the active large cap funds still did worse than the index. Ironically, if you look at a 10-year period, then still 83.07% of large cap funds underperformed the index. The evidence for passive is quite strong .

   

• In India, the growth in passive funds has been rapid in the last 5 years with most of the growth coming in the post COVID period. What is the linkage? COVID provide that a persistent approach to equities (like a SIP helps). However, most of the macro returns can be captured by the index at a much lower cost. That is what passives target.

   

• If you look at the last 5 completed calendar years in India, then in 4 out of the last 5 years, the large cap funds family has underperformed the Nifty TRI index. The only year these funds did better than the index was in 2021, when there was an all-out post COVID rally. Clearly, large caps have been struggling to justify their higher costs.

   

• Finally, let us look at the percentage of large cap funds that outperformed the Nifty TRI Index within the large cap fund family. If you leave out year 2021, then in the other 3 recently completed years, the percentage of funds outperforming the Nifty was less than 30% on an average. That means, even after paying high TER, investors would struggle to find such fund winners. In comparison, index funds have much less variation in returns.

Apart from all these fund level factors, there is also a customer level factor. What actually drove this passive trend was the rise of the millennial investor. Armed with a much better knowledge of technology, asset allocation and access to data and insights, millennial investors saw the merits of passive investing quite early. They have, therefore, naturally gravitated towards systematic investment approaches like passive investments, SIPs etc.

How passive fund folios grew in October over April 2023

There are actually 13 categories of passive funds, but we have ignored the category of “Other domestic ETFs”, as it has zero folios. The table below captures the actual folio numbers and the folio growth of the remaining list of 12 categories of passive funds where there are existing folios. Folios are the investor accounts, that are unique to an AMC, but not necessarily unique to an investor. However, folio growth captures the retail intensity quite well; in fact, much better than the AUM or rupee flows does. 

Passive Mutual Fund  Schemes (Folios)	Folios Oct-23  (in Numbers)	Folios Apr-23  (in Numbers)	Growth  (%)
Silver ETF	1,41,730	75,891	86.75%
Fund of funds investing overseas in Passive Funds	6,16,399	3,74,286	64.69%
Equity oriented Index Funds (Domestic Index Funds)	52,59,365	35,59,102	47.77%
Equity oriented ETFs (International ETFs)	3,36,916	3,21,986	4.64%
Income/Debt Oriented ETFs	19,38,357	18,67,689	3.78%
Equity oriented ETFs (Domestic ETFs)	1,02,06,783	98,45,185	3.67%
Gold ETF	48,33,807	47,12,199	2.58%
Income/Debt Oriented Index Funds (Other than TMIF)	15,514	15,613	-0.63%
Equity oriented Index Funds (International Index Funds)	2,36,575	2,38,189	-0.68%
Income/Debt Oriented Index Funds (TMIF)	1,41,832	1,49,954	-5.42%
Fund of funds investing overseas in Active Funds	8,31,817	9,41,061	-11.61%
Other Index Funds	37,792	57,565	-34.35%
Total Folios with growth	2,45,96,887	2,21,58,720	11.00%

Data Source: AMFI (TMIF is target maturity index funds)

What do we read from the table above. We have compared the folios at the end of October 2023 with the folios at the end of April 2023. This would give you a picture of FY24, since that is the period for which we have this granular data on passive funds. Here are some major takeaways.

• Overall, the number of folios of passive funds have growth by 11.00% between April 2023 and October 2023, showing a sharp investor intensity in the last 6 months. The total folios of passive funds stand at close to 2.46 crore, which is 15.41% of the total folios of the mutual fund segment as a whole at 15.96 crore folios as of October 2023.

   

• The leader of the pack in terms of folio growth was silver ETFs, a recent addition, which saw folios growing by 86.75% in the last 6 months. That is fantastic growth in a span of just 6 months, but it comes on a low base and the rise of silver ETFs as a product alternative for customers. In addition, ever since the silver ETFs were introduced, there have been several NFOs that have added sharply to the folio numbers.

   

• The other two categories of fund that saw good traction were Passive Overseas Fund of Funds (FOF) that has grown folios by 64.69% in 6 months while equity oriented domestic index funds have also seen growth of 47.77% in this 6-month period.

   

• On the downside, the miscellaneous index funds category saw a sharp fall in investor folios of  -34.35% while actively managed overseas fund of funds (FOFs) also contracted folios by -11.61%. Clearly, the move against discretionary investing is visible across.

As of October 2023, out of the 12 categories of passive funds with live folios, 7 categories saw accretion in folios over April 2023 while 5 funds saw contraction in folios in that period.

How the passive fund grew in terms of AUM

The table below captures the actual AUM of the entire list of 12 categories of passive funds where there are existing folios. Here, again, the one category with zero folios has been avoided. Unlike folios, the assets under management (AUM) are a mix of fresh flows and accretion in value of the portfolio due to market appreciation. AUM may not be a good measure of retail intensity, unlike folios, but that is the proof of the pudding and AMCs and fund managers prefer to evaluate on overall AUM, since their fees depend on the AUM.

Passive Mutual  Fund Schemes	AUM Oct-23  (₹ in crore)	AUM Apr-23  (₹ in crore)	Growth  (%)
Silver ETF	2,844.76	1,785.73	59.31%
Equity oriented Index Funds (Domestic Index Funds)	68,586.48	54,355.39	26.18%
Fund of funds investing overseas in Passive Funds	6,251.66	5,427.23	15.19%
Gold ETF	26,162.72	22,949.98	14.00%
Equity oriented ETFs (Domestic ETFs)	4,51,337.42	4,08,915.17	10.37%
Income/Debt Oriented ETFs	90,129.72	83,483.85	7.96%
Equity oriented ETFs (International ETFs)	8,548.67	7,975.68	7.18%
Equity oriented Index Funds (International Index Funds)	3,539.36	3,396.94	4.19%
Income/Debt Oriented Index Funds (Other than TMIF)	14,400.32	14,385.82	0.10%
Income/Debt Oriented Index Funds (TMIF)	94,350.77	95,319.83	-1.02%
Other Index Funds	3,361.40	3,635.52	-7.54%
Fund of funds investing overseas in Active Funds	15,168.12	17,211.62	-11.87%
Total AUM with growth	7,84,681.40	7,18,842.76	9.16%

Data Source: AMFI (TMIF is target maturity index funds)

What do we decipher from the table above. We have compared the AUM of various categories of passive funds at the end of October 2023 with the relevant AUM at the end of April 2023. The share of passive funds in AUM at over 16% is almost the same as the overall share of folios. Here are some key takeaways.

• Overall, the AUM of these passive funds have growth by 9.16% between April 2023 and October 2023, with the growth being subdued compared to the previous month due to the sharp fall in the markets which depressed overall valuations. The total AUM of passive funds stand at close to 7.85 trillion. Equity oriented domestic ETFs at Rs4.51 trillion, accounted for over 57% of the AUM of all passive funds. Other significant contributors to the AUM of passive funds in September 2023 were debt oriented target maturity funds, debt oriented ETFs and domestic index funds. ETFs appear to be dominating AUM within passive funds, due to their intrinsically low-cost structure.

   

• The leader of the pack in terms of AUM growth was, once again, silver ETFs, a recent addition, which saw AUMs growing by 59.31% in the last 6 months. That is fantastic growth in a span of just 6 months, but it comes on a low base. Also, ever since it was introduced, there have been several NFOs that have added sharply to the folio numbers.

   

• The other categories of passive funds that saw good traction in the last 6 months were domestic index funds at 26.18% growth, FOFs investing in overseas passive indices at 15.19% and surprisingly gold ETFs at 14%.

   

• On the downside, active overseas fund of funds (FOFs) saw AUM contract by -11.87% while the miscellaneous index funds saw AUM contraction of -7.54%.

Out of the 12 categories of passive funds with live folios, 9 categories saw accretion in AUM over April 2023 while 3 funds saw contraction in folios in the same period. Passive funds have come of age, and the granular data also tells where the passive flows are gravitating.