Motilal Oswal mutual fund launches ETF and index scheme based on momentum index: Should you invest?

Mirae mutual fund recently concluded its new fund offers for Mirae Asset Nifty India Manufacturing ETF and Mirae Asset Nifty India Manufacturing ETF FOF. Last year, ICICI Prudential MF launched two fund of fund schemes ICICI Prudential Alpha Low Vol 30 ETF FOF and ICICI Prudential Nifty Low Vol 30 ETF FOF investing into units of ICICI Prudential Alpha Low Vol 30 ETF and units of ICICI Prudential Nifty Low Vol 30 ETF, respectively.

However, there are some fund houses that had index funds tracking a particular index and then chose to launch an ETF tracking the same index. For example, DSP Mutual Fund had launched DSP Equal Nifty 50 Index Fund in October 2017 and DSP Nifty 50 Index Fund in February 2019. It launched DSP Equal Nifty 50 ETF in November 2021 and DSP Nifty 50 ETF in December 2021. UTI Sensex ETF is around since August 2015. But UTI MF concluded new fund offer of UTI Sensex Index Fund on January 24, 2022.

While fund houses are busy expanding their passive products portfolios, Edelweiss MF converted its Nifty 50 ETF to a Nifty 50 index fund and its Nifty 100 Quality 30 ETF to a Nifty 100 Quality 30 index fund on October 7, 2021. On this backdrop Motilal Oswal MF has chosen to go with both index fund and ETF.

“Over a period of time we have realized that it is better to buy the underlying stocks than to buy units of ETF. Also the valuation of ETF can be tricky as the last traded price of unit of ETF may deviate from the net asset value. An index fund does away with such operational and valuations related issues and it is preferred by most investors,” says Pratik Oswal, Head of Passive Funds, Motilal Oswal Asset Management Company.

What’s on offer

Nifty200 Momentum 30 index (Momentum Index) aims to track the performance of 30 high momentum stocks across large and mid-cap stocks. The momentum score for each stock is based on recent 6-month and 12-month price return, adjusted for volatility. Both index fund and ETF aims to replicate performance of the momentum index. The index is rebalanced twice a year. Information technology, consumer goods and financial services sector account for 30.73 percent, 11.55 percent and 10.01 percent respectively and emerge as the largest allocation of the sector. Last rebalancing has taken place on December 31, 2021.

What works

Momentum factor based investing is preferred by many aggressive investors looking for outperformance. The momentum index offers a formula based approach to tap momentum stocks and does away the fund manager risk.

Since the fund picks up 30 stocks from the universe of top 200 stocks based on market capitalisation, the focus is on large and relatively large sized mid-cap stocks. An aggressive strategy such as momentum can be riskier if one applies to small cap stocks.

The index comprises only those stocks that are present in derivatives as well. This ensures efficient price discovery. Stock weights are capped at the lower of five percent or five times the weight of the stock in the index based only on free float market capitalization. This reduces stock specific risk.

Oswal feels a momentum strategy would work in the months ahead “as India scripts its economic recovery from the pandemic influenced disruption and businesses are seen planning capex led expansion and overall earnings are expected to be on upward trend.”

What doesn’t

Ravi Kumar TV, Founder of Gaining Ground Investment Services points out that momentum strategy focuses on buying stocks that are depicting high upward price moves. This may not necessarily backed by fundamentals. “Many fund managers do consider momentum scores along with other fundamental factors and valuations while building their portfolios. Investors may be better off investing in a well-managed actively managed large and mid-cap fund,” he adds.

The index also does not offer exposure to small cap stocks. The index rebalancing takes place twice a year. When the market is in consolidation phase and sector rotation is going on, the scheme may take some time to adjust portfolio. The index may take time to identify and include new leaders in a bull market. This may lead to periods of underperformance.

What should you do?

In the limited period since its launch (March 2021) UTI Nifty200 Momentum 30 index fund (UTI30) has done well. It underperformed in the recent market fall. In a bear market, a fund following an aggressive strategy such as this one, could fall faster. In the week ending January 21, 2022 UTI30’s NAV has declined 5.33 percent, versus the 3.51 percent average loss reported by large-cap equity funds, according to Value Research.

“If only a handful of large cap stocks are going up, then index investors may be better off investing in a Nifty50 Index fund. In case of a broad-based up-move, index investors may benefit from investing in a momentum index over a long term,” says Kumar.

A momentum-focused scheme should not be your first investment. This strategy requires the investors to sit through phases of volatility and under-performance. The scheme can be considered if you have seen a few market cycles and have a well-diversified portfolio and are looking for a newer investment strategy.

The NFOs close on February 4, 2022.