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THE EVALUATION OF MUTUAL FUND PERFORMANCE
IN PAKISTAN
By
ANEES KHAN
FAISAL USMAN
BACHELOR OF BUSINESS ADMINISTRATION
(FINANCE)
Department of Accounting & Finance
Faculty of Management Sciences
International Islamic University Islamabad
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THE EVALUATION OF MUTUAL FUNDS PERFORMANCEIN PAKISTAN
INTRODUCTION
Generally there are two ways of investment. One is direct investment and the second is
indirect investment. The direct investment is one in which the individuals itself invest andthe indirect is one in which the individuals gives his/her money to some institutions. Nowdirect investment is suitable for the person who has the knowledge, information and
expertise of investing the money. But those investors who want to invest his/her money and
want some return for their investment but they lack the information and dont have the
expertise to invest. So for those investors the mutual fund companies are the appropriate
option. Mutual fund is a pool of money created by the individual investors and gives it to the
professionals. Then the professionals manage these funds and create a portfolio of assets and
they define their objective whether to invest in equity market or in debt market. Currently in
Pakistan 25 asset management companies are offering different kinds of funds. The mutual
fund association of Pakistan (MUFAP) is the body that ensures the transparency and high
ethical conduct and is responsible for the growth of the mutual fund industry. In Pakistan the
first open end mutual fund was introduced in 1962 by the government. In 1966 the
government established the investment corporation of Pakistan (ICP) which offers a series of
closed end mutual funds. In the late 90s there was a growing trend of launching many
private mutual funds. In the period of 2001 to 2007 there was a tremendous increase in the
returns but in 2008 due to financial crises the net asset value decreased from Rs 390 billion
to Rs 187 billion in 2009.The mutual fund performance in 2008 to 2009 is in very worse
condition due to financial crises but after that the mutual fund industry again stand on his
feet and the fund size increases day by day due to the interest of people and high returns
offered by these mutual funds. The first eight month (jul-feb, 12), the mutual fund industry
has shown 44% increase and the fund size increase to Rs 250 billion in the month of June. InFebruary 2012 the fund size grow to Rs 360 billion from Rs 340 billion from the previous
month. Thus the mutual fund industry has the potential to grow further and provide best
opportunities for the investors and also very helpful for the whole economy of Pakistan.
MUTUAL FUND INDUSTRY SIZE
Open end mutual fund Rs 338 billions
Close end mutual fund Rs 22 billions
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TOTAL NUMBER OF FUNDS
Open end mutual fund 34
Close end mutual fund 22
MUTUAL FUND
TYPES OF MUTUAL FUNDS
By structure the mutual funds are classified as open ended fund and
closed ended fund.
Open-ended Funds
Open end funds are offer to public and there is no limit of authorize
capital and the shares are purchased and sold by the company outlet. If you want to sell these
shares than the daily prices will be calculated by Net asset value (NAV) and if you want to
INVESTORS
FUND
MANAGER
SECURITIES
RETURNS
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buy back these shares then you will buy it on the price as calculated through NAV. The net
asset value is calculated by subtracting the Fund liabilities from the total assets.
Net Asset Value = Total AssetsLiabilities / no of shares outstanding
Close-ended Funds
Close end funds offer shares through IPO (initial public Offering).This fund operates like
public limited company and the shares are traded in the secondary market. When you want
to divest then you go to the stock exchange. One difference from the open end fund is that in
close end fund there is limit of authorize capital approved by the ACCP.Here the prices of
the fund are determined by market forces (supply and demand).
Types of Mutual Funds (By Objective)
By objective the mutual fund is of various types,
Money Market Fund Income Fund Islamic Fund Asset Allocation Fund
Growth fund
Money Market Funds
These funds are invested in short term securities issued by the
government or by the corporations such as T-bills and commercial paper, whose life is less
than one year and these are the most liquid instruments.
Income Funds
The main objective of this fund is high incomedepending on the risk
means if the funds are invested in risky securities issued by the corporation than the return
will be high but if it is invested in non- risky securities issued by government than the return
will be low.
Islamic Funds
As the name suggests these funds are to be invested in the securities which are
according to the shariah, these funds are not invested in the securities which bear the
interest.
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Asset Allocation Funds
These funds are invested in various securities in order to diversify or minimize the risk. Such
type of portfolio is created in which the risk is minimum. These funds are suitable for the
investors who dont want to take maximum risk.
Growth Funds
The main purpose of these funds is to increase your principle amount and it is a long term
investment may be from 3 years to 5 years.
ADVANTAGES OF MUTUAL FUNDS
Diversification:
The most important advantage of mutual fund is diversification means to minimize
the risk. Mutual funds have this quality of diversification because the fund is invested in a
variety of assets.
Liquidity:
The second quality of mutual fund is its liquidity, because at any time you can sell
your shares at a net asset value (open ended) and get your money back.
Professional Management:
This is also one of the important advantages of mutual funds. Mutual funds have their
own experts who are professional and can manage your portfolio in a best way.
Low Investment:
Mutual fund is very helpful for those investors who have low amount for investment.
The mutual funds provide opportunities for those investors and they can invest a minimum
amount in these funds.
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Low Transaction Cost:
The transaction cost is low because the mutual fund collectively invests a large amount of
funds in the securities. If individual investors buy and sell the shares than the transaction
cost is high.
A BRIEF HISTORY OF MUTUAL FUNDS
The history of mutual fund industry is uncertain because some historian believes that the
close end mutual fund concept was started in Netherlands in 1822 by King William, while
other believe that it was started by the Dutch merchant Adriaan Van Ketwich who started his
first investment trust in 1774.he certainly gives the idea of diversification for the investors
who like minimum risk. He gives the name to his Ketwich's fund, Eendragt Maakt Magt
which gives a slogan of unity creates strength he gives these lines in a context that when
different investors pool the money at one place and invest in different kinds of securities
than it reduces the risk as he gives the idea of diversification. The modern mutual fund wasintroduced in Massachusetts in 1924.with the passage of time the number of mutual fund
was increasing day by day due to higher interest of investor to invest in these funds and
currently there are more than ten thousand mutual funds in the U.S market alone.
LITERATURE REVIEW
A lot of work has been done on the performance of mutual funds in the developed countries.
But in Pakistan the research work on this sector is not significant. (Amir Shah and TahirHijazi, 2005) conducted a research on the performance evaluation of mutual funds and he
concluded that the mutual fund overall outperform the market and have the ability to add
value.
(Roger Otten and Dennis Bams, 2002) conducted the research on the European mutual funds
and he concluded that small cap funds have the ability to add value due to positive alphas.
(George P. Artikis, 2003) evaluate the performance of balanced mutual fund and he finds
that the return of these funds is lower than the General Index of the ASE.
(Athanasios G. Noulas, John A.Papanastasiou, John Lizaridis, 2005) presented the article on
the Greek mutual fund performance of equity funds and he determine that there is a positive
relationship between risk and return and the betas calculated for these funds is less that than
one.
(Kanchan Chainani, Rounak Jhawar, Sagar Bavishi, 2009) conducted a study on Indian
mutual fund performance and found that the fund returns are highly correlated to the market.
If the stock market perform efficiently than the fund returns will also higher and Vic versa.
(William J. Bartin, Laurie Prather, 2008) present the paper on the fund performance of
mutual fund and this paper shows the increasing growth of the FOFs and suggest that the
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FOFs performance is good than the traditional funds means that they invest in funds of
mutual fund instead in individual securities.
(Rongly Yuan, Jason Zezhong Xiao, Hong Zou, 2007) conducted a study on mutual fund
ownership and firm performance and he found that there is a positive effect of mutual fund
on firm performance.
HYPOYHESIS
H^sub 0^: The mutual funds outperform the market in Pakistan.
H^sub 1^: The mutual funds underperform the market in Pakistan
SAMPLE
We have selected five close end mutual funds listed in Karachi stock exchange for
our project and use the data from 2005 to 2008 and we selected this limited data because the
most some funds are introduced in 2004 and their annual reports are not issued. The data has
been taken from the annual reports, Asset Management companies, mutual fund association
of Pakistan (MUFAP) and SECP.
METHODOLOGY
There are four methods used for the performance evaluation of mutual funds. From these
measures you can check the performance.
Sharp Measure Trey nor Measure Jenson Differential Measure Fama and French factor model
RETURNS OF FUND
SHARP MEASURE
In 1960, William Sharp extended the Markowitz Portfolio theory. The
Markowitz takes riskier portfolio and has some risk but William sharp also included risk free
security and introduces another theory of Capital Market theory. According to this theory
when the risk free securities are added to the riskier than the risk and return position will
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change and he introduces the capital market line to be the efficient frontier line. Sharp ratio
measure the required rate of return for the riskier securities. Higher the value of this ratio
higher will be the performance.
SHARP RATIO =
Where
Rp = the average return of portfolio
RF = Risk free return
S.Dp = standard deviation of portfolio
This above table gives the return against risk. We calculated the ratio of taking five close
end mutual funds listed in Karachi stock exchange by taking data from 2005-2008 .The
sharp ratio indicates that these funds perform better than the market because the sharp ratio
of market is (0.56) which is less than the ratio of these funds. All the funds have positive
returns it means that it is well diversified by the fund manager.
TREYNOR MEASURE
There are two types of risk, one is called systematic and the other is called
unsystematic risk. The systematic risk is one which is related to the system and which
cannot be diversified or controlled and it measured through (Beta), while the unsystematic
risk is related to the company and it is diversifiable and controlled.Treynor take only
systematic risk and assume that the unsystematic risk is controlled by the company. Higher
this ratio higher will be the performance.
MUTUAL FUNDS (CLOSE END) SHARP RATIO S.D
ATLAS FOF 0.125217 11.5
FIRST CAPITAL M.F 0.493985 13.3
MEEZAN BALANCED FUND 0.379508 12.2
PICIC GROWTH FUND 0.71068 10.3
PICIC INVESTMENT FUND 0.6839 10.6
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TREYNOR RATIO =
Where
Rp = the average return of portfolio
RF = average risk free return
= measure of systematic risk
BETA =
The above figure shows that the beta of all the funds is lesser than the market because the
beta of market is one while the funds beta is less than one. This indicates that the fund takes
minimum risk and gives higher returns than the market. The ranking of sharp and trey nor
ratio is different because the funds are not diversified in a same manner.
JENSON DIFFERENTIAL MEASURE
In 1969, Jenson calculated alpha () in the CAPM model
which is the difference between the portfolio return and the predicted return of CAPM.it
shows whether your portfolio is outperforming or underperforming. If the value of alpha is
positive it means your portfolio is outperforming and if negative than underperforming.
MUTUAL FUND (CLOSE END) TREYNOR RATIO BETA
ATLAS FOF 0.026667 0.55
FIRST CAPITAL M.F 0.091111 0.72
MEEZAN BALANCED FUND 0.073492 0.63
PICIC GROWTH FUND 0.08044 0.91PICIC INVESTMENT FUND 0.066514 1.09
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Where
Rp = the average return of portfolio
RF = average risk free return
& = parameters of the modelRm = market return
The Jensen differential ratio indicates whether the portfolio is outperforming or not. The
above table shows that only one fund that is ATLAS FOF which is underperforming because
its alpha is negative, while the other funds outperform the market because their alphas are
positive.
FAMA AND FRENCH FACTOR MODEL
We are not using this model because for this model we need book to market ratio
from 2005-2009 which is not available.
RELATIVE PERFORMANCE
The relative performance is another method of comparing the performance of mutual fund
in its category for different time periods. In this paper we selected Islamic Balanced Fund,
Equity Fund and Fund of Fund. So we only compare the performance of equity fundsbecause in this category the funds are more, in the case of fund of fund and Islamic balanced
fund, there is no other peers in this category listed in KSE, therefore we cannot compare the
relative performance of these funds. We first compare the funds managed by the PICIC
Asset Management Company Limited and then the others which are managed by Safeway
Mutual fund, First Capital Investment Limited and AkD Investment Management ltd. We
have invested Rs1 because the value of this Rs1 is used as a measure of the relative
performance in order to standardize the returns of these investments that have different
trading prices. On Y-axis in the graph we have taken the value of Rs1 and on X-axis we
have taken the months 2005-2008.
JENSON DIFFERENTIAL RATIO ALPHA
ATLAS FOF -1.43
FIRST CAPITAL M.F 2.73
MEEZAN BALANCED FUND 1.28
PICIC GROWTH FUND 2.47
PICIC INVESTMENT FUND 1.42
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The graph shows that the overall performance of these two funds are similar but there were
deviation in the start of 2005 and this graph shows that the funds invested in these funds are
managed well because these are managed by the same investment management company
and their performance is also the same trend from 2006 to 2008 except in the start of 2005
there is some difference in the performance of these two.
This graph shows the performance of different equity funds managed by different
investment management companies. The Golden Arrow selected stock fund and the First
Capital mutual fund performance is in the same manner and they perform same and their
performance is higher than the golden Arrow Selected Stock Fund.
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 43 45 47
PICIC INVESTMENT VERSUS PICIC GROWTH FUND
Value in PICIC I.F value in PICIC G.F
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 43 45 47
Golden Arrow Selected Fund, First Capital M.F and SafewayM.F
Value in G.A.S.S.F Value in S.M.F Value in First C.F
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Now we are going to explain the overall relative performance of the equity funds. The above
graph shows that all the funds perform better and they have the ability to add value. In the
mid of 2007 the performance of Safeway mutual fund and first capital mutual fund is higher
than the others. Thus the equity funds performance is good and all the funds perform better
in this category.
CONCLUSIONThis project gives a brief introduction of Pakistani mutual funds and analyzes the
performance of mutual funds against the risk by using different models of evaluation.
Survivorship bias data is used of balanced fund, fund of fund and equity fund. The mutual
fund industry has the potential to add value because this industry is growing day by day and
the public take keen interest to invest in the mutual funds. The performance of these mutual
funds as we calculated by using different models shows that they outperform the market by
overall, only one fund have negative alpha and the reason is diversification means that this
fund is not well diversified. The returns of these funds are also positive and they outperform
the market, their Betas are also less than one. This shows that by taking low risk and givesmore return. The mutual fund industry in foreign countries is of very large size and capital as
compared to Pakistan. Pakistani mutual funds need some improvement in rules and
regulation provided by SECP.Currently the economic structure of our country is not so good,
but the mutual fund also in these situations provide better returns as compared to market. In
short the mutual fund industry outperforms the market.
REFERENCES
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 43 45 47
Over all Performance of Equity M.F
Value in PICIC I.F value in PICIC G.F Value in G.A.S.S.F
Value in S.M.F Value in First C.F
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William J. Bertin, Laurie Prather. Management Structure and the Performance of funds of
mutual funds. Journal of Business Research 62 (2009) 1364-1369.
Naim Sipra (2006). Mutual Fund Performance in Pakistan, 1995-2004 (CMER WORKING
PAPER No. 06-45.
Ming-Ming Lai, Siok-Hwa Lau. Evaluating Mutual Performance in an emerging Asian
Economy: the Malaysian Experience (Journal of Asian Economics 21 (2010) 378-390).
Talat Afza and Ali Rauf. Performance Evaluation of Pakistani Mutual Funds (Pakistan
Economic and Social Review volume 47, No.2 (Winter 2009), pp. 199-214).
Roger Otten, Dennis Bams. European Mutual Fund Performance (European Financial
Management, Vol. 8, No. 1, 2002, 75-101.
Muhammad Amir, Arslan Qayyum, Adeel Nasir, Shabir Hussain, and Sehrish Butt Close
Ended Mutual Fund and Stock Market Growth: A study of KSE Pakistan (European Journal
of Social Sciences Volume 24, Number 1 (2011).
Roger Otten, Dennis Bams. How to measure mutual fund Performance: economic versus
statistical relevance (Accounting and Finance 44 (2004) 203-222).
Athanasios G. Noulas, John A. Papanastasiou, John Lazaridis.Performance of mutual
funds(Managerial finance, Vol. 31 Iss: 2 pp. 101- 112).
S.M Aamir Shah and Syed Tahir Hijazi. Performance evaluation of mutual funds in pakistan
(The Pakistan Development Review 44: 4 part II(winter 2005) pp. 863-876.
`
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MUTUAL FUNDS 2005 2006 2007 2008
ATLAS FOF
NET ASSET VALUE PER CERTIFICATE 10.5317 11.9745 12.31 11.2799
RETURN PER CERTIFICATE 0.53166 1.94432 1.83551 0.56995
RETURN OF FUND 0.05048 0.16237 0.14911 0.05053
FIRST CAPITAL M.F
NET ASSET VALUE PER CERTIFICATE 9.50743 11.7362 12.676 11.2535
RETURN PER CERTIFICATE 1.60631 3.21796 3.8133 -1.4225
RETURN OF FUND 0.16895 0.27419 0.3008 -0.1264
MEEZAN BALANCED FUND
NET ASSET VALUE PER CERTIFICATE ------ 12.61 13.3181 11.864
RETURN PER CERTIFICATE ------ 2.38807 2.7080 0.14598
RETURN OF FUND ------ 0.18938 0.2033 0.0123
PICIC GROWTH FUND
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NET ASSET VALUE PER CERTIFICATE 57.4416 41.9716 47.58 39.804
RETURN PER CERTIFICATE 17.004 11.4276 6.311 -2.1128
RETURN OF FUND 0.29602 0.27227 0.1326 -0.0531
PICIC INVESTMENT FUND
NET ASSET VALUE PER CERTIFICATE 20.7047 19.3241 22.081 17.8293
RETURN PER CERTIFICATE 4.28614 6.07848 3.8252 -0.8855
RETURN OF FUND 0.20701 0.31455 0.1732 -0.0497