Mutual funds ideal for investors


The mutual fund industry recently celebrated crossing Rs1.3 trillion (US$6 billion) in assets under management (AUMs). This in itself seems a remarkable number for a sector that has been plagued by economic uncertainty, a depressed stock market and the prevalence of undocumented wealth.

However, in comparison to other countries it is clear that despite a 90%+ growth in AUMs (since 2017) mutual funds are still in their nascent stage. As a percentage of bank deposits, funds stand at 6.1% compared to 22.7% in India and a staggering 148.1% in the US.

The number of accounts held by individuals is a paltry 206,869 while in India and the US it is estimated that 140 million and 115 million individuals respectively invest in funds.

Neither is mutual fund investing restricted to the affluent in these countries. About 70% of individual investors in India earn a monthly salary of less than INR 42,000 (and contribute 30% to the overall industry AUM) while 52%+ of US households have exposure to funds.

Much has already been written on why mutual fund investing has lagged in Pakistan so instead we will focus on why savers should consider funds as a practical option.

First of all what is a mutual fund? It is a pool of money collected from multiple investors and managed by licensed asset managers. This means that all investors in the pool, large or small, earn the same percentage returns.

In that sense, mutual funds are a great equalizer and ideal for retail investors who wish to access competitive returns.

Money market funds

Current AUMs of money market funds stand at Rs755 billion, or 3.4% of bank deposits. Of the Rs22 trillion in bank deposits, a staggering Rs10.4 trillion come from individual savers.

Banks, on average, are paying out just 7.7% on their deposits which means savers are leaving money on the table.

Within the universe of mutual funds, the money market fund is the lowest risk option as exposure is limited to high quality and liquid instruments (mainly bank deposits/ treasury bills). This means the risk of losing capital is next to negligible.

An investment can be started with just Rs5,000, there is no lock-in period or penalty on withdrawal, so you can invest today and redeem tomorrow. Most asset managers will honour a withdrawal request in one to three days so your investment remains liquid.

Money market funds may be low risk and liquid but what about returns? Well on that front too they beat a savings account.

The table below shows the percentage returns of the largest funds in Pakistan over the last one year. On average, these funds earned 14.1% for their unit holders. Compare that to the average minimum deposit rate (which is what you get on most savings accounts) of just 11.8% over the same period.

This is not a one off, as over the years funds have generated competitive returns compared to savings accounts. This can be verified from the websites of the respective asset managers and studying their fund manager reports.

You may be asking yourself why open a mutual fund account when the extra return is just 2-3% per year? While this may not seem like a lot, the effect on your savings after 5, 10 or 30 years becomes massive.

This can be seen in the graph below where Rs100 earning 7% becomes Rs761 after 30 years compared to Rs1,327 at 9%. The cumulative return of the 7% line is 661.2% and 1,226.8% for the 9% line. This is the magic of compounding and why small increments can lead to major gains in the long term.

For those earning more than Rs5 million a year from their bank savings, mutual funds are the more efficient option as the tax liability is 15% compared to bank deposits which can attract 30%+ tax depending on your income.

Some investors may be uncomfortable with the idea of earning interest from their savings. For them there is a whole category of Shariah-compliant funds to choose from. Their returns have also consistently been superior to the rates offered by Islamic banks to their retail depositors.

As always investors should do their research before investing and consult a financial adviser to ensure mutual funds are appropriate for them.

The writer is an economist and portfolio manager working in Pakistan’s capital markets for the past decade

Published in The Express Tribune, January 9th, 2023.

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