Hello friend, I am Laxman Sonale, In this article, we see Mutual Funds: an idea of when time has gone from chapter 9 of the book Stock to riches. In this Parag Parikh Explain the mutual fund industry and also the fund manager problem, as well as the destroyer environments. So let’s understand the most famous industry in finance.
Chapter 9: Mutual Funds: an Idea where time has Gone
In this starting author explain the real meaning of Investing, If you think investing or stock market is some magical place and those take the risk on that they win and become very rich in overnight. then you can ignore this article right now.
But if you invest in mutual funds without knowing about them, and their behavior/psychology, then this article helps you most to understand this industry.
you want to learn about investing and avoid the big mistakes of financial life/in mutual funds then you must read with understanding.
so hope you get the notification. so let’s start this chapter 9
At the start, the author says, ” Investing is a game of patience, and investors get rewarded if they invest for the long term. the longer one stays invested the greater are the rewards. Buy a value, sit on it, and left time to do the rest.
In today’s changing time’s investors shun the age-old wisdom of Long term investing and chase the illusion of short-term quick profits. Keynes is often quoted – ” In the long run we are all dead” – to justify the speculative urge of Short-term quick profit.
the strategy of short-term is to time the market rather than invest in good sustainable business. sometimes you go night and make a quick buck. (Mutual Funds:- Honest Review)
But the game of Timing can be very difficult and it is hardly advisable when it concerns one’s hard-earned money. Everything changes but there are certain principles that do not change. the power of principles is that they are universal timeless truths. if we live our life based on these we can quickly adapt and apply them anywhere world, we cling to practices, structures, and systems for some sense of predictability in our lives. we forgot the principles and we are headed for trouble.
Investment management is a profession but it is being run like a business. So the rules of sound investment take a back seat and the rules of business dominate.”
then the author explains the beginning of the Mutual funds
The Beginnings of Mutual funds:-
In this point, the author explains the history of mutual funds, and how this industry is born.
the author says, ” This industry was created to channel the savings of a vast number of small investors into the capital markets. it Is a vehicle to safeguard the interests of the small investors who are assumed to be incapable of taking investment decisions on their own.
The Mutual fund industry provides the basic infrastructure for professional investors, in the form of professional fund managers investment research, business analysts, stock market analysis, and system to cater to the huge pool of investors. the aim is to fulfill the long-term investment needs of retail investors.”
the rule of the Game of mutual funds
- Long term Investment Strategy
- Investor friendly: Exit Within 24 hours
- Professional fund managers with strong market expertise.
- Backed by strong Research Analyst.
You also know about these rules, when you start investing in mutual funds, in the form of SIP. so this is the main rule, let’s see the deep game, from the fund manager side, to understand this, the author explains The Paradox concept
the author says, ” Most mutual funds talk about long-term investment strategy. however, they are open-ended and the investor can exit whenever he wants.
The paradox is that on the one hand it talks about a long-term investment philosophy but on the other, it does not encourage the investor to be a long-term player. (Mutual Funds:- Honest Review)
this is because the normal practice in the mutual fund industry is to have open-ended funds and the principle of long-term investment takes a back seat, the game is that of timing the market and looking for short-term gains.
In Fact, it would be wrong to assume that investors do not want their money looked in for long periods. If that were true then people would not invest in RBI bonds, or past savings schemes for five to seven years, or in the public provident fund, for 15 years.”
then author blames this industry, for many reasons, let’s see one by one reason
the author says, ” The industry itself needs to be blamed for nurturing and nursing the culture of open-ended schemes. As the industry grew so did the competition leading to high marketing costs.
Money comes when the markets climb as the net asset values start going up. there is a scramble to get in and fund managers are pressured to invest in a rising market at inflated asset prices.
However, pull-out(taking out money from mutual funds) forces fund managers to sell the portfolio at depressed prices to meet the redemptions.
the basic principle of buying when prices are depressed and others are selling, and selling when prices are high and others are buying is not workable. fund managers are forced to act in a way that does not conform with the basic investment principle.
fund manager’s decisions are being controlled by the environment.”
then author talk about the Fund managers Behaviour, if you invest in a mutual fund, then you should this following paragraph carefully to understand fund manager behavior
Fund Manager’s Behaviour:-
the author says, ” Because of the pressure to perform in the short run, fund managers chase each other’s net asset values rather than follow sound investment strategies.
When the information, communication, and entertainment (ICE sector) moved up in 1999, fund managers chased those stocks, and prices rose steeply. (Mutual Funds:- Honest Review)
Most of them had the same ICE stocks among their Top holdings. at the time of the rise of the public sector understanding in the oil sector, most of them had ONGC, BPCL, and HPCL as their top holdings.
then when the fed passed, they competed to sell and depressed the prices. it is obvious that the herd mentality is what drives them to make decisions.
newspaper and financial journals report quarterly performance of funds. Influenced by this news, investors enter and exit funds forcing fund managers to change strategies midway. they are thus forced to keep up with market trends and this affects their performance.
Also, the practice of offering bonuses and rewards for turning in short-term profits rather than for following a sound investment strategy forces them to adopt short-term strategies. as a result, it is the investors who lose.
For if making short-term money was so simple in the market he would not be a fund manager. he would be busy making money for himself playing the market.
This is not to say that all fund managers are mediocre. the Indian capital market does have some very good talent and we need to create the right environment for such talent to flourish and at the same time reap benefits for the mutual fund holders.”
after this, the author explains the destructive environment for mutual funds.
In this point, the author talks about the mutual fund environment.
the author says, ” the mutual fund manager manages the money of investors whom he has not even seen. it is the sales team and third-party distributors who bring in the investors. In a situation where fiduciary responsibility is very important, not knowing the investor whose money he is managing can call his commitment into question.
Mutual fund managers have a file of cash to be invested in the stock markets. naturally, broker company managements and other operators chase them with quick money ideas. with so much attention being showered on them,
there is a danger that they could overestimate their abilities and performance. Sometimes the rewards for performance could also make them overconfident. (Mutual Funds:- Honest Review)
It is true that we can not blame the fund manager but the point is when there are so many good professionals in the field, they should not be forced to operate in less than conducive environments.
The business of a broker depends upon the number of resources he is able to mobilize for the fund. hence brokers may try to sell a fund to investors not because it is a good investment but in order to generate business from the purchase and sale of stocks.
The fund manager and the broker please each other for their own benefit and in the process, it is the investor who suffers.
the development of the mutual fund’s concept was perfect for its time. the idea was to pool together the resources of investors and invest them in the stock markets.
Professional fund managers backed by strong research would handle the investments. thus the investor was assured of the services of professionals. but times have changed.
The level of education has improved. information flow has increased. The Internet enables the exchange of information in real-time. Online trading enables real-time execution.
Chat sites ( like our blog) help investors discuss their views and seek opinions. the power of knowledge has shifted from the hands of a few to those of the masses.
We now have a web of smart professionals with new ideas knowledge and operations as compared to a handful who are working for the mutual fund industry.
in fact, the concept of mutual funds has become outdated. mutual funds are competing with millions of traders. and with so much volatility and pressure on performance, they have also become weekly traders, if not day traders.
our belief that mutual funds are good is getting another example of a mental heuristic.”
then the author talks about mutual funds as a profession or business.
Mutual funds: A profession or A Business
in this point author puts both scenarios of the profession and the business
author says, ” Money management is a profession. the professionals who make it are validated by their performance. unfortunately, the advent of mutual funds has turned it into a business where the goal is to increase the assets under management.
today, funds compete for the size of assets, chasing a benchmark of relative returns. the aim is to beat the top-performing fund. Even a poor two percent becomes a benchmark.
On the other hand, a professional like a portfolio manager will benchmark against absolute returns because in most cases has fees are linked to his performance.”
then lastly the author gives the solution of mutual funds.
Mutual funds solution:-
in this author explain the different types of mutual funds, and which one is best, let’s see
the author says, ‘ Open-ended mutual funds are the main cause of the volatility in the markets today. I believe that close-ended mutual funds(is a type of mutual fund that issues a fixed number of shares of their own fund) are the best vehicles for a long-term investor.
it allows the fund manager to be disciples, which in turn reaps substantial rewards for investors. no doubt the choice of such funds is limited. (Mutual Funds:- Honest Review)
In this case, the price of the fund could fluctuate according to the net asset value, but when the units change hands they go from one investor to another and there is no redemption on the fund.
the fund manager, therefore, is free to make long-term decisions because the environment does not control him. for the healthy growth of the mutual fund industry, more such close-ended funds need to be floated.
however, the irony is that close-ended mutual funds quote at a premium prior to listing and at a discount to the net asset value after listing. This discount may be viewed as an expensive monument erected to the inertia and short-sightedness of the shareholders.
The price movements of close-ended funds display the fickle behavior of investors as investor sentiment varies over time.
When noise traders are optimistic, the price of the net asset value narrows. when noise traders are pessimistic, the price of close-ended funds declines, and the discount to the net asset value widens.
Investors in close-ended mutual funds are subject to two types of risk: firstly, the fundamental risk of the net asset value going down, and secondly, the noise trader risk of widening the discount due to pessimism. The opportunity arises in the second scenario.
However, the investor would need the patience to benefit from such an opportunity. But isn’t investing a game of patience after all!
then the author talks about the future of open-ended mutual funds,
you can read this in the book, by ordering on the following image link.