ETFs on Sensex and Nifty beat large-cap funds in returns

ET Intelligence Group: The exchange traded funds (ETFs) having the Nifty 50 and the S&P BSE Sensex as underlying indices have outperformed the large-cap funds according to the data from the Association of Mutual Funds in India (AMFI). In addition, they showed higher growth in folio accounts than the latter thereby underscoring their rising popularity among investors.A sample of ETFs each with more than Rs 1,000 crore worth of assets under management (AUM) outperformed the large-cap funds of similar AUM size by 2.1% over the past year. The outperformance widens when the returns from the March lows are considered. The sample has gained 72.6% during the period compared with the 64.1% return of the large-cap funds.Rising weight of a handful of stocks in the benchmark indices Nifty and Sensex is cited as one of the reasons why large-cap funds have been lagging behind the ETFs. This is because the mutual funds cannot exceed the weight of any stock in the portfolio beyond the regulatory threshold of 10% of the portfolio size. Therefore, when the weight of a stock in an index increases due to consistent gain in its price, mutual funds are not able to track the stock’s movement effectively. ETFs face no such restrictions and hence are more efficient since their underlying is the index itself.For instance, the weight of Reliance Industries (RIL) in the Nifty increased by nearly 320 basis points to 13.2% in October from the March lows. Given the cap on the exposure to an individual stock, incremental buying in RIL by the domestic funds remains subdued. The top five heavyweight stocks of the Nifty 50 have a cumulative weight of 44%, while the large-cap funds have 38-39% weight in these stocks.Another factor that has pulled down the return of large-cap funds is their higher expense ratio. ETFs typically exhibit an expense ratio one-fifth of the large-cap funds.The total AUM of the sample ETFs expanded to Rs 1.6 lakh crore in November 2020, a gain of 84.2% from March lows. The AUM of large-cap funds rose by 62% to a similar level. ETFs received a net inflow of Rs 20,630 crore in the seven months to October while there was a net outflow of Rs 11 crore from the large-cap funds.The ETF folios have risen by 50% in 2020 so far, while those for the large-cap funds have increased by 8%. The ratio of the ETF folios to the large cap folios rose to 30% in October compared with 15% at the beginning of the year.

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