Tata Equity Management Fund (TEMF) is a close-ended diversified equity fund whose mainstay is to exploit the opportunity in the derivatives segment. TEMF has a close-ended investment tenure of 18 months; subsequent to which, it will be converted into an open-ended fund. The fund offers the proposition of using derivatives to hedge its portfolio with a view to minimise risk and maximise returns.
The fund house has indicated that TEMF will make use of stock and index-oriented derivatives for hedging the portfolio. By taking positions in futures, calls and options, the fund can minimise the downside risk to its investments. However, it should be understood that while theoretically derivatives can aid in protecting investments on the downside, they can also cap the returns which the portfolio could have otherwise clocked.
Conversely, TEMF is also mandated to go "short" in stock-specific and index-oriented derivatives for enhancing returns. Shorting is a speculative activity, wherein the fund manager takes a position in the derivatives segment, when a fall in the price of a security seems imminent; however, he does so without holding the security in the portfolio. As is the case with any speculative activity, in the event of volatile markets and an incorrect reading of markets, such a move can prove to be detrimental.
Another factor that investors should be aware of is the costs involved while dealing in derivative instruments. These costs (which could be significant depending on how right or wrong the fund manager has been with his calls), eat into the fund's returns; this is something that most funds fail to disclose.
The fund's 18-Mth close-ended time frame is rather baffling. At Personalfn, we believe that the investment horizon for equity/equity-oriented products should be at least 3-5 years. It is over such a time frame that equities can truly unlock value and deliver growth.
Investors should realise that simply investing in derivatives is no sure-fire method to clock attractive returns. While the usage of derivatives for hedging a portfolio would qualify as a sound strategy, using the same for speculative purposes can expose the fund's performance to turbulence. Also the presence of schemes like Reliance Equity Fund means that TEMF's investment proposition is far from unique.
We recommend that investors give TEMF a miss and instead invest in conventional, well-managed, diversified equity funds to achieve long-term capital appreciation.
