Switch NPS fund manager only if underperformance persists across mkt cycles

Check whether weak returns reflect the market cycle before changing your pension fund manager

National Pension System (NPS) investors reviewing performance on NPS Divas will find that returns have been weak over the past year. Category E (equity) schemes delivered an average return of –4.53 per cent, category C (corporate bonds) 4.60 per cent, and category G (government bonds) 2.60 per cent. Investors should assess whether this weakness calls for a change in fund manager or patience with their existing choices. 

Why returns were weak 

Weak equity markets explain the disappointing returns from NPS equity funds. The Bombay Stock Exchange (BSE) Sensex fell 9.81 per cent over the past year. The 10-year bond yield rose from roughly 6.56 per cent a year ago to 7.16 per cent. “Rising bond yields have affected fixed-income returns,” says Deepesh Raghaw, Securities and Exchange Board of India (Sebi)-registered investment adviser. 

 

Investors should not worry unduly about one year’s poor returns. “An underperformance of up to two–three years can happen in a retirement product like NPS that is meant to be held for 25–30 years,” says Arnav Pandya, founder, Moneyeduschool.  

Avoid knee-jerk reactions. “If asset allocation remains appropriate for retirement goals and risk tolerance, a weak one-year return alone may not warrant action,” says Saurabh Bansal, founder, Finatwork Investment Advisor. 

Only four out of ten equity fund managers beat the benchmark over the past year. Experts say a year is a short period for evaluating a pension fund manager. “Five- or 10-year performance provides a more meaningful picture,” says Bansal. 

Consistent underperformance against the benchmark, however, warrants attention. “In that case, investors may want to look at other, more consistent fund managers,” says Pandya. 

DSP’s fund was the worst performer over the past year, with a return of –7.25 per cent. Investors should not attach too much significance to a single weak year. “It just reflects that the strategy the fund manager was following did not work out during that period,” says Raghaw. 

DSP Pension Fund also has a short track record. “The limited history makes it difficult to draw a strong conclusion,” says Bansal. Investors should monitor the fund’s performance.  

Return gap narrows 

The gap between the best and worst equity fund performers is 4.77 percentage points over one year but narrows to 1.36 percentage points over 10 years. Greater short-term volatility in equities leads to wider differences in performance, which tend to narrow over longer periods. 

Kotak’s fund ranks ninth over one year but second over seven years. The narrowing return gap and changes in rankings argue against switching based on short-term performance alone. 

“Be patient with the fund house, manager and strategy. Repeated switches based on one-year performance can produce negative surprises over the long term,” says Raghaw. 

“Instead of focusing on investing in the fund with the highest return, focus on being in a consistent fund,” says Pandya.

Assess performance through rolling returns rather than point-to-point returns. If you use point-to-point returns, consider a period of at least five years. “Failure to recover over five years suggests a problem with the manager’s approach,” says Raghaw. Such persistent underperformance may warrant a switch to a more consistent fund. 

Assess strengths across asset classes 

A fund house may manage its equity fund well but lag in corporate bonds or government securities fund, or vice versa. “Each asset class requires different skills,” says Abhishek Kumar, Sebi-registered investment adviser and founder, SahajMoney.com.

Examine each pension fund manager’s performance across schemes to identify its strengths. “Do not select a pension fund manager solely on equity or debt returns,” says Kumar. Raghaw suggests choosing a different manager for E, C and G to tackle this issue.  

Understand category G performance 

Only one category G fund outperformed the benchmark over the past year. “Many of these funds may be holding longer-dated securities. When the market falls, longer-dated securities are impacted more than shorter-dated ones,” says Pandya. Longer-dated securities fit in category G of a pension fund because NPS is a long-term product. 

Investors need not act on this underperformance. “Performance is likely to improve once the rate cycle turns,” says Pandya.

When should you switch? 

Use rolling returns or calendar-year returns to decide whether to switch. “Consider switching within a category only if the pension fund manager consistently underperforms the benchmark and peer group over a multi-year period. Poor risk management or a persistent shift in investment style that does not align with the investor’s risk profile may also justify switching,” says Kumar. 

Avoid frequent switches because historical performance does not guarantee future results. Relative performance can reverse after you move from one manager to another. 

Allocation, fund selection  

Financial planners say the importance of selecting the right funds may be overstated. “Asset allocation matters more than fund selection, so make informed decisions in this regard. Moreover, asset allocation is within your control, while fund performance is not,” says Raghaw. 

When selecting a fund, focus on its long-term track record rather than recent returns. “Consider expense ratios. Assess consistency across different market cycles. Choose a pension fund manager that has demonstrated steady risk-adjusted returns over five to 10 years,” says Kumar..