Mutual Fund Versus Index funds

(Last Updated On: July 6, 2017)

Index funds or Index mutual funds are essentially mutual funds in which investments are made in stocks which track a particular index in the stock market. An index like Nifty 50 or BSE 100. So in a way, they replicate underlying Index.  To know more about index funds review our detailed post on Index funds.

Differences Between Mutual Funds and Index Funds.

  1. Index funds can generally come in two forms Index mutual funds or ETFs
  2. Index mutual funds are simply mutual fund schemes whose mandate is to invest in underlying index stocks so in a way it is a passive investment in underlying index
  3. Similar to Mutual funds, Index mutual funds have a daily NAV and can be brought or sold to the Fund house
  4. Mutual funds, on the other hand, depending on it stated scheme goals have greater flexibility in changing their portfolio and hence are actively managed
  5. ETF ( Index funds) are nothing but ETFs which track one of the stock indices and are actively traded on the exchange. The price of ETFs hence varies dynamically. ETFs can be bought and sold on the exchange

Index Funds versus Mutual Fund Performance: A case study

So we have been getting quite a few queries from investors looking to invest in Index funds. So I  decided it be worthwhile to some analysis to compare how Index funds have performed vis a vis some of the top mutual funds.

Here is how I structured my analysis.

  1. Pick up top performing Index funds in the market and create a portfolio of Index funds
  2. Using Bodhik algorithm to create an aggressive portfolio of  Equity Mutual funds
  3. Run backtesting analysis on the 2 portfolios
READ  Kotak Mutual fund fact sheet

Index funds selected for the analysis

  1. ICICI Nify 50 Index fund – 25 %
  2. IDBI Nifty Fund Growth- 25 %
  3. Franklin India Index plan- 25%
  4. SBI Nifty Index Funds -25 %

View complete list of Index funds 

You can also look at best index funds in India below

Best Index Funds in India

Mutual funds portfolio selected for analysis

  1. SBI Bluechip Fund – 16 %
  2. Mirae Asset Emerging Bluechip – 16%
  3. Birla Sunlife Frontline Equity –
  4. SBI Multicap Fund
  5. Mirae Asset India Opportunities fund
  6. HDFC Balanced Fund

Results

Below table captures the backtested results for an Index Mutual fund portfolio and Bodhik Recommended Equity Portfolio


Next Step what I did was make a slightly more balanced portfolio by including some safer debt funds in the portfolio. So we included 3 debt funds in the portfolio

  1. SBI Ultra short-term debt  fund
  2. Birla Dynamic Bond debt fund
  3. UTI Dynamic deft fund

Below table captures the combined backtested results.

 

So an  aggressive equity portfolio can give up to 8 % higher return than then index portfolio similarly a balanced equity portfolio can also outperform index mutual fund portfolio by more than 5 %.

Now let’s have a look at How do these percentages translate into actual money for you. Let’s assume a Rs 10000 SIP in Index funds and Aggressive active portfolio.

Wealth creation with Index fund portfolio

  • Total Investment: 6 lacs
  • Corpus at the end of 5 years: 8.91 lacs
  • Wealth created: 2.91 lacs
                                                          Source :  SIP Calculator
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Wealth creation with Mutual fund portfolio

  • Total Investment: 6 lacs
  • Corpus at the end of 5 years: 11.29
  • Wealth created: 5.29 lacs

 

So with an active mutual fund portfolio, you end up creating almost double the wealth than an Index portfolio ( please note these projections are based on past returns)

What happens if you have a balanced equity portfolio, below is the SIP wealth creation chart for balanced equity portfolio.

Conclusion

  1. Actively managed equity portfolios tend to outperform passive index funds
  2. Outperformance can vary over time period and decreases with large time intervals of more than 10 years
  3. But over intermediate time horizons like 5 years equity mutual funds will outperform handsomely
  4. So for now its worth paying higher expense ratio for actively managed mutual funds as they end up giving the bang for the buck

 

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