A

RESEARCH PROPOSAL

FOR

GRAND PROJECT

ON

PERRFORMANCE EVALUATION OF MUTUAL FUND

SUBMITTED TO:

ATMIYA INSTITUTE OF TECHNOLOGY & SCIENCE

RAJKOT

Project Guide:

Mr. Abhay Raja

SUBMITTED BY:

Harshadkumar Chodvadiya

Kirankumar Rathod
 I. INTRODUCTION OF TOPIC

Mutual Fund industry today, with about 34 players and more than five hundred
schemes, is one of the most preferred investment avenues in India. However, with a
plethora of schemes to choose from, the retail investor faces problems in selecting
funds. Factors such as investment strategy and management style are qualitative, but
the funds record is an important indicator too. Though past performance alone can not
be indicative of future performance, it is, frankly, the only quantitative way to judge
how good a fund is at present. Therefore, there is a need to correctly assess the past
performance of different mutual funds.

There are two types of mutual funds schemes:

1-An open-ended mutual fund
A mutual fund that continually creates new shares on demand. Mutual fund
shareholders buy the funds at net asset value and may redeem them at any time at the
prevailing Net Asset Value.

2- A closed-ended mutual fund

A mutual fund that closes after the initial offering, and has fixed duration open for
subscription only during a specified period. Listing in a recognized stock exchange is
a basic feature of a closed-ended mutual fund. Existing investors/new investors can
exit from or invest in these funds at the quoted market prices subject to a specified
bid/offer spread.
 II. THEORETICAL FRAMEWORK

Performance evaluation will do with the help of different models like, Treynor,
Jenson, Sharpe, and Modigliani–Miller theorem .
Among the above performance measures, two models namely, Treynor measure and
Jenson model use systematic risk based on the premise that the unsystematic risk is
diversifiable. These models are suitable for large investors like institutional investors
with high risk taking capacities as they do not face scarcity of funds and can invest in
a number of options to dilute some risks. For them, a portfolio can be spread across a
number of stocks and sectors. However, Sharpe measure and Modigliani–Miller
theorem model that consider the entire risk associated with fund are suitable for small
investors, as the ordinary investor lacks the necessary skill and resources to diversify.
Moreover, the selection of the fund on the basis of superior stock selection ability of
the fund manager will also help in safeguarding the money invested to a great extent.
The investment in funds that have generated big returns at higher levels of risks leaves
the money all the more prone to risks of all kinds that may exceed the individual
investors' risk appetite.

III. RESEARCH PROBLEM

The major aims of Performance Evaluation are to:

The researcher intends to carry out research which would 1. Collect and disseminate
information related to performance aspects, 2. Promote interdisciplinary flow of
technical information among researchers and Professionals; and 3. Serve as a
publication medium for various special interest groups in the performance
Community at large.

Performance evaluation will be done with the help of different models like, Treynor,
Jenson, Sharpe, and Modigliani–Miller theorem .
IV. LITERATURE REVIEW:

Barua, Raghunathan and Varma (1991)[2] evaluated the performance of

Master Share during the period 1987 to 1991 using Sharpe, Jensen and Treynor
measures and concluded that the fund performed better that the market, but not so
well as compared to the Capital Market Line.

Sethu (1999)[5] conducted a study examining 18 open-ended growth schemes

during 1985-1999 and found that majority of the funds showed negative returns and
no fund exhibited any ability to time the market.

Arnold L. Redman, N.S. Gullett and Herman Manakyan (2000)[1] examines

the risk-adjusted returns using Sharpe’s Index, Treynor’s Index, and Jensen’s Alpha
for five portfolios of international mutual funds and for three time periods: 1985
through 1994, 1985-1989, and 1990-1994. The benchmarks for comparison were the
U. S. market proxied by the Vanguard Index 500 mutual fund and a portfolio of funds
that invest solely in U. S. stocks. The results show that for 1985 through 1994 the
portfolios of international mutual funds outperformed the U. S. market and the
portfolio of U. S. mutual funds under Sharpe’s and Treynor’s indices. During 1985-
1989, the international fund portfolio outperformed both the U. S. market and the
domestic fund portfolio, while the portfolio of Pacific Rim funds outperformed both
benchmark portfolios. Returns declined below the stock market and domestic mutual
funds during 1990-1994.

Srisuchart (2001)[6] measures Thai mutual fund performance regarding to

selectivity and market timing ability. He applied several models which were Jensen
model (1968), Treynor and Muzay (1966), Henriksson and Merton model (1981), Kon
and Jen model (1979), and Kon model14 (1983) to 144 funds from Jan 1990 to May
2000. He discovered that for market timing ability, equity funds showed better
performance than fixed income funds but for selectivity ability, fixed income funds
showed better performance than equity funds. For overall abilities, fixed income
funds still showed better performance from fixed return. The reason is that the period
of study includes recession period where the fixed return is a good investment
strategy while market returns are highly volatile and continuously declining.

Muthappan, P. K., Damondharan, E. (2006)[4] The objective of this paper is to

evaluate the performance of Indian Mutual Fund schemes in the framework of risk
and return during the period April 1, 1995 to March 31, 2000. Performance measures
used are Sharpe ratio, Treynor ratio, Jensen measure, Sharpe differential return
measure and Modigliani–Miller theorem 's components of performance. The results
indicate that the risk and return of mutual fund schemes are not in conformity with
their stated investment objectives. Further sample schemes are not found to be
adequately diversified. The funds are able to earn higher returns due to selectivity,
however the proper balance between selectivity and diversification is not maintained.
The analysis made by the application of Modigliani–Miller theorem 's measure
indicates that the returns out of diversification are very less. Based on the empirical
investigation, it is observed that the Indian Mutual Funds are not properly diversified.

Guha (2008) focused on return-based style analysis of equity mutual funds in

India using quadratic optimization of an asset class factor model proposed by William
Sharpe. The study found the “Style Benchmarks” of each of its sample of equity funds
as optimum exposure to 11 passive asset class indexes. The study also analyzed the
relative performance of the funds with respect to their style benchmarks. The results
of the study showed that the funds have not been able to beat their style benchmarks
on the average.

Bessler, Wolfgang, Zimmermann, Heinz (2009)[3] investigate the conditional

performance of a sample of German equity mutual funds over the period from 1994 to
2003 using both the beta-pricing approach and the stochastic discount factor (SDF)
framework. On average, mutual funds cannot generate excess returns relative to their
benchmark that are large enough to cover their total expenses. Compared to
unconditional alphas, fund performance sharply deteriorates when we measure
conditional alphas. Given that stock returns are to some extent predictable based on
publicly available information, conditional performance evaluation raises the
benchmark for active fund managers because it gives them no credit for exploiting
readily available information. Underperformance is more pronounced in the SDF
framework than in beta-pricing models. The fund performance measures derived from
alternative model specifications differ depending on the number of primitive assets
taken to calibrate the SDF as well as the number of instrument variables used to scale
assets and/or factors.

V. OBJECTIVES OF THE STUDY

With a view to find out the solutions for the problem raised above, the following
objectives have been framed.
1. To find out the Performance of different schemes of different companies in
relation with market performance.
2. To identify investment of funds which have generated high returns and low
risk.
3. To analysis the risk involved in the selected scheme of different companies
and
4. To analysis the performance of selected scheme of different companies using
different models of performance evaluation.
VI. RESEARCH METHODOLOGY:

SAMPLE:-
Top 10 companies of mutual fund ( as per /www.itrust.in/forum/mutual-funds/list-of-
top-10-mutual-fund-companies-in-india)

1. HDFC Mutual Fund

2. Tata Mutual Fund
3. SBI Mutual Fund
4. Reliance Mutual Fund
5. DSP BlackRock Mutual Fund
6. Kotak Mutual Fund
7. Principal Mutual Fund
8. Sundaram BNP Paribas Mutual Fund
9. Franklin Templeton Mutual Fund
10. Birla Sun Life Mutual Fund

For the research purpose different schemes of above companies will take into
consideration. The schemes will be ELSS fund, Indexed fund and Balanced Fund.

Time Horizon:

The time horizon of an individual will also influence the performance measures
he/she will look at more closely. If you are investing for less than four years, you need
a fund with consistent performance, so all your money will be there when you need it.
You also do not have time to earn back a large commission charge on the front end.

Conversely, if you plan to invest your money for more than four years, neither
consistency nor load is very important: you have plenty of time for the market to
recover. With a long-term horizon, we are conducting research for time period of last
5 years i.e. Feb. 2006 to Feb. 2011.
DATA COLLECTION:
We shall use secondary data from following sources for research.
 Websites:
www.moneycontrol.com
www.mutualfunsindia.com
www.valueresearch.com
www.amfiindia.com

 Magazines:
Mutual Fund Insight.

TOOLS USED FOR ANALYSIS:

1. Standard Deviation:-

It is measure of the value of the variable around its mean or it is as squire root of the
sum of the squared deviations from the mean divided by the number of observance
The arithmetic mean of the return may be same for two companies but the returns
may vary widely.

2. Treynor’s performance index:

Treynor (1965) was the first researcher developing a composite measure of portfolio
performance. He measures portfolio risk with beta, and calculates portfolio’s market
risk premium relative to its beta:

( RP −Rf )
Treynor=
Where:
βP
Ti = Treynor’s performance index
Rp = Portfolio’s actual return during a specified time period
Rf = Risk-free rate of return during the same period
βp = beta of the portfolio
 3. Sharpe’s Performance index
Sharpe (1966) developed a composite index which is very similar to the Treynor
measure, the only difference being the use of standard deviation, instead of beta, to
measure the portfolio risk, in other words except it uses the total risk of the portfolio
rather than just the systematic risk:

( R P−R f )
Sharpe=
σP
Where:
Si = Sharpe performance index
σp = Portfolio standard deviation
This formula suggests that Sharpe prefers to compare portfolios to the capital market
line(CML) rather than the security market line(SML). Sharpe index, therefore,
evaluates funds performance based on both rate of return and diversification (Sharpe
1967). For a completely diversified portfolio Treynor and Sharpe indices would give
identical rankings.

4. Jensen’s Alpha:
Jensen (1968), on the other hand, writes the following formula in terms of realized
rates of return, assuming that CAPM is empirically valid:

Jensen=α P=R P−[ R f +β P ( R M −R f ) ]

Jenson's model proposes another risk adjusted performance measure. This measure
was developed by Michael Jenson and is sometimes referred to as the Differential
Return Method. This measure involves evaluation of the returns that the fund has
generated vs. the returns actually expected out of the fund given the level of its
systematic risk. The surplus between the two returns is called Alpha, which measures
the performance of a fund compared with the actual returns over the period.
Higher alpha represents superior performance of the fund and vice versa. Limitation
of this model is that it considers only systematic risk not the entire risk associated
with the fund and an ordinary investor can not mitigate unsystematic risk, as his
knowledge of market is primitive.
5. Modigliani–Miller theorem

The Modigliani–Miller theorem (of Franco Modigliani, Merton Miller) forms the
basis for modern thinking on capital structure. The basic theorem states that, under a
certain market price process (the classical random walk), in the absence of taxes,
bankruptcy costs, and asymmetric information, and in an efficient market, the value of
a firm is unaffected by how that firm is financed. [1] It does not matter if the firm's
capital is raised by issuing stock or selling debt. It does not matter what the firm's
dividend policy is. Therefore, the Modigliani–Miller theorem is also often called the
capital structure irrelevance principle.
Required return can be calculated as
Si
Ri=Rf + (Rm−Rf )
Sm

Where, Sm is standard deviation of market returns. The net selectivity is then

calculated by subtracting this required return from the actual return of the fund.
References:

1. Arnold L. Redman, N.S. Gullett and Herman Manakyan, 2000, THE

PERFORMANCE OF GLOBAL AND INTERNATIONAL MUTUAL
FUNDS, Journal of Financial and Strategic Decision, Volume 13.

2. Barua, S. K., Raghunathan, V. and Verma, J. R.(1991). Master Share: A

Bonanza for Large Investors. Vikalpa, 17, 1: 29-34.

3. Bessler,Wolfgang, Drobetz, Zimmermann, Heinz, 2009, CONDITIONAL

PERFORMANCE EVALUATION FOR GERMAN EQUITY MUTUAL
FUNDS, European Journal of Finance; Vol. 15 Issue 3, p287-316, 30p, 10
Charts, 1 Graph.

4. Muthappan,P.K., Damondharan, E., 2006, RISK-ADJUSTED

PERFORMANCE EVALUATION OF INDIAN MUTUAL FUNDS
SCHEMES, Finance India; Vol. 20 Issue 3, p965-983, 19p, 9 Charts.

5. Sethu, G. (1999). The Mutual Fund Puzzle, International Conference on

Management, UTI-ICM, Conference Proceedings: 23-24.

6. Srisuchart, S. (2001), Evaluation of Thai mutual fund performance (market

timing ability investigation), Master Degree in Economics, Thammasat
University, Bangkok, Thailand.