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Many investment advisors review their clients’ portfolios around this time — just before the end of the financial year. They use the time also to weed out duds from the portfolio. One such dud that may be struck out is the Fund-of-funds (FoF) — mutual fund schemes that invest their corpus in other equity funds. According to Value Research, a mutual fund tracking entity, these schemes have marginally underperformed in the large- and mid-cap equity fund category in three- and five-year time frame. “These funds are taxed like a debt fund, which further dampens the post-tax returns offered by them. If you can engage a good advisor or you can spare some time to find out which funds to invest in, avoid these funds


While long-term gains on equity funds are tax free, long-term capital gains on equity fund of funds are taxed at 20.6% with indexation or 10.3% without indexation.


There are three FoF schemes — Kotak Equity FoF, Quantum Equity FoF and ING Optimix 5 star Multi-manager Fund — in the market and together they manage around . 26 crore for investors. The rationale behind these schemes was to offer professional help to retail investors to choose funds that were expected to do well. These funds managed to beat their respective scheme benchmarks, such as Nifty, BSE 200 by a good margin. But if one looks at the large- and mid-cap equity funds category performance, these funds lag.


When an expert chooses funds for fees, investors should be getting top quartile returns in three years time frame. Beating the market benchmark and category average is a must.


Investment experts attribute various reasons for the underperformance to category average. Building an equity portfolio and picking right equity mutual fund schemes that are expected to do well are two different skills.


Choosing competing fund managers, which may outperform the broad markets, is not the core competency of a fund house. There is a higher chance for going wrong on scheme selection as compared to a wealth manager, where choosing money managers is the core function. Another element that pulls down the returns of these schemes is the additional expenses charged by them.


However, some players still vouch for the long-term prospects of these schemes. Equity fund of funds can deliver in long term. One should judge a fund’s performance only when the fund sees at least couple of business cycles.


Also, one should take into account when the money was committed while analysing the performance of these schemes, say experts. For example, people who invested money closer to the peak in January 2008, have just started making money after a long gap.


However, many experts dismiss these schemes because they are not tax-efficient, something that has been haunting them since their inception. Even if these schemes manage to beat their benchmarks and category average in the long run, the tax treatment of a debt fund will pull down post tax returns.

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