Should you invest in this scheme that’s quietly topping the charts?

JM Mutual Fund is one of the earliest companies in India to secure a private mutual fund licence, in 1994, but had failed to make its presence felt until 2021. Even after operating for nearly three decades, it was managing only about ₹2,602 crore of assets, as of January 2021. In the 3.5 years since, though, its assets under management have skyrocketed to more than ₹7,500 crore.

What has caught investors’ attention is JM’s flexi cap fund, which was launched in September 2008. It hadn’t made a mark until JM Mutual Fund roped in Satish Ramanathan as chief investment officer in August 2021. At the time, the JM Flexicap was handling about ₹187 crore in assets under management. The latest available figure for May shows its assets under management (AUM) was just shy of the ₹2,500-crore mark.

The JM Flexicap fund has generated 64% returns in the past 12 months. It is currently the best-performing fund in the category after Quant Mutual Fund in terms of returns over the past five years, according to Morningstar data.

It has registered an average return of 26% over five years, and 15.85% since inception. But does this mean investors should start investing in the JM Flexi cap fund?

Riding the small- and mid-cap wave

To understand why the scheme has outperformed in recent years, we need to dig deeper and find out the stock bets that worked in its favour. Underlying portfolio data trends reveal the true picture.

A large part of the alpha stems from increasing allocation to small- and mid-cap stocks since the beginning of 2022. JM Flexicap’s exposure to small- and mid-caps has increased from 6.7% and 18% of its overall portfolio, respectively, in January 2022 to 39.7% and 21.4%. During the period under review, its large-cap exposure declined from 75.3% to 38.9%.

“The fund gradually increased its allocation to mid- and small-caps during the correction phase when Nifty Midcap 150 indices declined by approximately 22% and Nifty Smallcap 250 indices corrected by about 29% from January to June 2022," said Nirav Karkera, head of research at Fisdom, an online trading and mutual fund investment platform. “This timing allowed the fund manager to capture opportunities at more favorable valuations."

Public sector exposure

Another key factor that contributed to the scheme’s outperformance was its exposure to public sector undertakings. The fund had identified beneficiaries of capital expenditure spending in sectors such as industrials, railways, manufacturing, and financials. Furthermore, the fund’s exposure to public sector banks worked in its favour thanks to the ongoing rally.

“Most active funds missed out on the PSE rally. However, JM Flexicap had exposures to PSE, which helped the performance," said Alekh Yadav, head of investment products at Sanctum Wealth.

The fund manager is overweight on sectors such as industrials, real estate, and consumer cyclical vis-a-vis the Nifty 500 benchmark, according to Morningstar data. JM Flexicap has a 17.57% allocation (vs 10.17% benchmark) in consumer cyclical, 15.98% (vs 9.57% benchmark) in industrials, and 3.01% (vs 1.05% benchmark) in real estate. These sectors combined contributed nearly half (31.62%) of the 64% gains it achieved in the past 12 months. Choosing the right stocks within this sector also benefited them.

“The fund was underweight in financial services and consumer defensives, (which also) helped the performance," added Yadav of Sanctum.

Is it all good?

Investors need to look at the long-term performance of the fund before getting too stoked. Top performers keep changing. For instance, in 2021, JM Flexicap was in the 9th position in terms of 5-year performance. It’s only recently that it has become the second-best fund.

Also, this recent performance has come on the back of increased allocation to mid- and small-cap companies, which are considered to be riskier and more volatile than large companies. Hence, the fund’s outperformance might have come from taking more risk than other schemes in the category.

Also Read: Retail investors and the fixation with equity MFs

The long-term track record of Tattva Capital, the previous venture of JM Mutual Fund’s CIO Ramanathan, is not available.

“Tattva Capital was a private fund and the track record is not available for distribution, as it belongs to the fund investor," JM Mutual Fund said in an emailed reply to Mint. “ However, the fund outperformed on a consolidated basis during the life of the fund and at peak was close to $180 million, which was about ₹1,100 crore."

JM Mutual Fund has said in a presentation on the flexicap scheme that it follows the ‘GeeQ Model’ for picking stocks. The ‘Ge’ stands for ‘growth of earnings’ and ‘eQ’ for earnings quality. Additionally, it says it follows a growth-oriented investment approach and considers earnings quality for stock selection, apart from other qualitative factors.

Analysts Mint spoke with said the fund house is not able to communicate its investment philosophy convincingly.

“While the fund philosophy is GeeQ (which is another way to say growth at the right price), however, by looking at the portfolio it appears the portfolio is a blend of everything. It has a few companies which could be categorised as GARP while a few which can be categorised as value," said Yadav of Sanctum Wealth Advisors.

GARP, which stands for ‘growth at a reasonable price’, focuses on investing in companies with promising growth as well as reasonable valuations.

“If you don’t know what’s the underlying strategy when it goes out of favour, you will not be able to stay invested as you don't understand why it's happening," said Arun Kumar, head of Research at FundsIndia. “Even legendary fund managers like Prashant Jain went through temporary underperformance (former CIO of HDFC AMC) but we knew the reason why he was underperforming and all fund managers with similar styles were also underperforming."

What should you do?

There is no clear-cut answer to whether investors should buy or sell. Investors need to gauge whether the investment philosophy of the fund house suits them. This criteria extends to existing investors as well. That said, investors should not invest on the basis of just the returns.

“Considering how the fund is being managed by a team that has started managing it only recently, there is not enough foundation to assess the fund management style and results across full market cycles," said Karkera of Fisdom.

Yadav said such outperformance is usually followed by normalization. “Flows that have come in recently may not have the best experience."

Also Read: Mutual funds bet big on manufacturing: Is it time to invest?