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Should NPS managers invest in mutual funds?

LiveMint logoLiveMint 01-10-2017 Deepti Bhaskaran

The National Pension System (NPS) has dedicated fund managers, called pension fund managers (PFMs), to manage the money you invest in it. But did you know, when you choose to let your NPS money be invested in equity, they are allowed to invest it in mutual funds? For you, as an NPS subscriber, this means added costs because you pay an investment fee to the pension fund managers apart from bearing the underlying expenses of mutual funds. Among the eight pension fund managers that NPS currently has, one pension fund manager—Kotak Pension Fund Ltd—has taken the mutual fund route for its equity investments. How does it impact you and what is the regulatory view on this? We explain. 

Initially, equity investment from NPS could only be done passively, through index funds that replicate Sensex or Nifty 50. In 2013, the Pension Fund Regulatory and Development Authority (PFRDA) allowed pension fund managers to invest in stocks directly but the decision was reversed in 2014. In 2015, the G.N. Bajpai committee—set up to review investment guidelines for the private sector NPS—recommended moving from passive to active management. PFRDA then allowed the pension fund managers to invest directly in stocks and equity mutual funds. They can also invest in specified exchange-traded funds (ETFs). “The investment guidelines allow pension fund managers to invest in equity mutual funds, but the idea was to just offer flexibility and choice,” explained Hemant G. Contractor, chairman, PFRDA. 

For Kotak Pension Fund, mutual funds are not one of the investment strategies. They are the strategy. The pension fund manager says this offers better returns than direct equity investments: “At an equity portfolio size of Rs150 crore, it doesn’t make sense to incur huge infrastructural costs to actively manage the portfolio. We invest in mutual funds instead,” said Sandeep Shrikhande, chief executive officer, Kotak Pension Fund. “Since we invest in direct schemes, the total expense ratio is an average of 1.25%. Despite the costs, if we can beat the returns offered by direct equity investments (from other pension fund managers) then we see this as a good strategy and are unlikely to change going forward, unless we assume enough size,” he added.

As per the 31 August disclosures by pension fund managers’ websites, Kotak Pension Fund had invested almost 99% of its equity portfolio in 11 mutual funds. However, on 26 September, as per data from Value Research, its 1-year return was 13.44% and it ranked third. For 3- and 5-years returns, and since inception too, it doesn’t show on top (see the NPS table given below). However, if we were to look at its performance as on 22 September, the pension fund manager was right on top in 1-year, 3-year and 5-year categories. You can see these results by going to On that date, its 1-year return was 17.50%—ahead of the No. 2 by 2.3 percentage points. 

Looking at these results, Manoj Nagpal, chief executive officer, Outlook Asia Capital, said, “In effect, the pension fund manager is running a fund of funds. The positive is that the investors will get an average mutual fund return, but this does not guarantee a higher alpha even if the recent experience seems to suggest so. In the long run, the basket of 11 mutual funds is likely to give only market returns and customers should prefer fund managers who are willing to build their own capabilities.” 

LIC Pension Fund Ltd has also invested about 19%, of the Rs269 crore it has for equity investments, into mutual funds. 

“The sole purpose of pension fund managers is fund management but if that’s also sub-contracted through mutual funds, then it renders them redundant,” said Nagpal. Even the regulator has taken a view on the matter.

“Of course, the returns are little bit better but we are not very happy that there is double incidence of cost to the customers.... We have taken up the matter and hope the pension fund managers will change their strategy soon,” said Contractor.

According to Sundeep Sikka, executive director and chief executive officer, Reliance Nippon Life Asset Management Ltd, who also oversees the pension fund business, pension fund managers are reeling under low cost (their investment fee is currently 0.01%) and low traction of NPS.

“We will not invest in mutual funds as we don’t want to outsource fund management. But...we also realise that active management is not possible under the current cost regime. Passive management is the answer for a low-cost product like NPS; and ETFs are the best products in this space,” he added.  

Costs apart, allowing a fund management company to invest through other fund management companies doesn’t seem right.

However, the problem clearly lies in investment guidelines that allow 100% investment in mutual funds in letter but expect pension fund managers to not do so in practice.

As an investor, you can’t change the policy and rules. However, you can take steps to nurture your investment. What you can do is monitor the returns and change your fund manager if it is consistently underperforming. 

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