If you are an Indian investor weighing PMS against a mutual fund, it’s really a matter of flexibility versus the kind of efficiency you get from pooling. There is good to be had, but risk is part of the package. With more products on the table and rules changing, it comes down to how well a portfolio is in line with your aims, and the tax and discipline involved.
What is changing for investors
In some ways the distinction has been softened, though not when it comes to the underlying structure. You can now get factors, sectors and passive plays from a mutual fund. PMS firms, for their part, are having to focus in on specialist work where they can be nimble.
Nehal Mota from Finnovate figures we will see that pick up once the Specialised Investment Fund is here. With its Rs.10 lakh door and room for long-short, the SIF is a new variable. Mota’s take is that a PMS has to put in the work to make its Rs.50 lakh minimum worth it, rather than just offering a run-of-the-mill long-only equity book.
Then there is Aditya Agarwal of Wealthy.in, who puts it down to three things: new money will likely go to the SIF for the lower cost of entry; you will see a harder line drawn between real edge and a large-cap product that has become a commodity; and we will see more of the quant and GIFT City type of sophistication.
Where PMS can create an edge
It’s all about concentration. A mutual fund has to play by the rules on diversification – 10% in any one stock, a certain number of holdings per category. A PMS doesn’t have those restraints, so you can build a portfolio with some conviction behind it.
Agarwal will tell you a PMS can put 25 stocks in a bag and have 8-10% in one of them without a second thought. Some managers will even talk 15-20 stock mandates. You won’t see a mutual fund do that on a regular basis without running afoul of the rulebook.
The same applies to how they handle cash. While a mutual fund is kind of forced to stay in the market, a PMS manager can stand down. Some will say putting 30-40% in cash is a good move when the market is overdone, if you are willing to take the timing hit.
The scale trap and liquidity math
When it comes to micro-caps, you are dealing with the nitty-gritty of the market. Take the case Gurvinder Juneja of Fortuna Asset Managers makes: a firm with a Rs.600 crore cap and 45% in public hands has some Rs.270 crore you can actually trade.
A PMS of Rs.400 crore can put 3% in there, or Rs.12 crore. No problem. Do the same in a Rs.6,000 crore mutual fund and you are looking at Rs.180 crore, which is 67% of the float. You would be moving the stock and making your own job harder.
Agarwal concedes the point, with a but. It is the size of the operation that gives you the leg up, not the PMS name. If a micro-cap PMS starts to get too big, it runs into the same wall. Watch for a higher number of stocks, a drift to larger caps, and returns that are just tracking the benchmark.
Mota says every strategy has a limit. For micro or nano, you start to feel the friction at Rs.2,500-4,000 crore and the impact costs eat into your alpha. With special situations or arbitrage, you are done at Rs.3,000-5,000 crore because the profit in corporate actions is what it is and dilution is a factor.
You might be fine with a mid-cap mandate up to Rs.7,500-10,000 crore. After that, you are looking at 40 or more names instead of 15, and you have an index fund in all but name. The fees then start to look a bit much for the performance you are getting.
Costs, taxes and hidden frictions
The way it is set up can be a return-killer. Himanshu Pandya, an adviser who has been on both sides, says the tax regime is a built-in headwind for PMS. He would put it at 100-350 bps of underperformance for the very same strategy in a PMS compared to a mutual fund.
And he has a straightforward way of putting it: in a PMS, you turn over a position and the client has to pay. In a mutual fund, that churning is internal and you don’t have to worry about it. It is the vehicle, not the manager, that makes the difference in what an investor has left once the taxman has been paid.
Then there is the matter of structural freedom, which means fewer guardrails. With a mutual fund, you have limits you might not even be aware of: caps on any one stock, rules on breadth and style to keep tail risks in check. A PMS throws those out the window for a shot at more alpha. It can be a good thing or a bad one.
Why mutual funds still have a place
You can’t put a number on the size and liquidity of India’s mutual fund industry: we are talking over Rs.80 lakh crore in the hands of 50-odd asset managers and 2,000 schemes or so. It is built for scale and standardisation, and for a lot of people, that is exactly how they like it.
But the PMS sales pitch doesn’t ring true with everyone. Manish Bhandari of Vallum Capital Advisors will tell you a mutual fund is like a supermarket where the Nifty 50 is put in a different box and sold to you again and again. At the same time, he sees investors in a bull market asking for a portfolio of three or five stocks without a second thought about the risk.
PMS proponents have a counter. R. Pallavarajan of PMS Bazaar points to things a pooled product just can’t do: running a concentrated book, making a cash call when you need to, or tailoring a portfolio for a client with an eye on taxes and the sectors you want to avoid.
The conviction link: alignment and control
Take a 70-stock mutual fund and your manager’s top idea is only 3 or 4 per cent of the mix. Put it in a 15-stock PMS and that same high-conviction pick is 8 to 12 per cent. “The real value is in the alignment,” says Juneja. “You can put the manager’s best work and the client’s goals in a position of some size.”
There is also the question of who owns what. In a PMS, the client holds the securities in his own demat; in a mutual fund, you have units. That direct ownership is what allows for the kind of tax harvesting and customisation you can’t get from a fund at this level.
Managers also like the option to go where it is less liquid. They can make a play on a micro cap or a special situation that would be impossible for a large fund to touch without moving the price. But you have to be disciplined about it. If you are running a Rs.5,000 crore book and want to put 5 per cent into a name, you are looking at Rs.250 crore – enough to skew the pricing of a thin trade.
What a PMS can do that a mutual fund can’t
There are some approaches you won’t find in a regular fund. You have ETF-driven PMS for a tactical edge, or ones that use mutual funds as building blocks but with an active hand on the tiller.
Some are all-in on REITs and InvITs for yields you don’t see in a mutual fund. Others are after the SME space where the liquidity filters of a pool would bar them. On the fixed-income side, you can have a portfolio made to order for your duration, credit and tax profile.
Equity is no different. You can have a mandate with under 20 stocks. There is no equivalent in the mutual fund world. The advantage is in being able to put an idea to work without the friction of scale.
How to evaluate: reasons and red flags
So if you are on the fence between a PMS and a mutual fund, look at the structure first, then see how the incentives and capacity line up. Here is a way to run it down before you put pen to paper:
– Can they put 8-10% in a stock in a 15-20 name portfolio?
– Do you get to the micro caps, the special situations, the real assets?
– Will they sit on 30-40% in cash if valuations are too rich?
– Is the portfolio tax-smart, factoring in your ESOPs and the like?
– Are you in control of the demat?
And know where the traps are. You’ll hear a number of pros put their finger on some red flags in the market right now:
– Portfolios that are little more than mutual funds with steeper fees.
– More stocks in the mix and less active share as time goes on.
– AUM in micro-cap or SME plays that is just too big.
– An absence of any hard-and-fast rules on size or capacity.
– Hype around a strategy that doesn’t match what’s in the vault.
Crowding, stories and when to put on the brakes
There is some concern even among PMS devotees about how things are multiplying. Mota sees it with the overcrowding in some of the more popular thematic products. You have strategies that will keep on raising money even when they are at capacity, which inevitably alters their character. There is a world of difference between a small-cap book of Rs.10,000 crore and one of Rs.1,000 crore.
Then you have Agarwal, who has run the numbers. His stress-tests indicate the big small-cap funds could be looking at weeks to offload half their positions. When you get to that scale, you are holding up a good chunk of what is out there and your returns will hew to the index – for a fee. It’s not a lack of skill, it is a matter of physics.
Juneja puts it down to three kinds of misalignment. You have the momentum play that is a bit of a veneer over something plain. Thematic offerings that come out when the story is hot and the price is such that you can’t make it work. And then the managers who have put on weight and are using their clients’ money to underwrite a distribution-heavy operation.
Don’t be fooled by exclusivity; it isn’t a moat. Juneja would put it at 35-40% of PMS buyers who are in for the wrong reasons, be it a nudge from a distributor or the notion that a Rs.50 lakh entry fee guarantees you something of value. Cost is not an edge.
What comes after?
George Heber Joseph of ASK Investment Managers is of the view that PMS is heading for a more grown-up, institutional model for the well-heeled. Think of it as a way to mix some public-market idiosyncrasies with private-market opportunities for UHNIs, making it a long-term plan rather than a short-term fix.
Pallavarajan has a way of putting it: the point of PMS is no longer to find the next new thing, but to do what a pooled fund can’t – handle a concentrated bet, a niche theme, or tailor-made allocation for the client. The upside is there, but it is very much of the moment.
In the end, you have to make a choice. PMS gives you the room to line up with an investor’s aims, but it also means you are exposed to the manager and the limits of his capacity. Mutual funds have the scale, the tax benefits and some guardrails, but you give up a bit of the fine print.
So it is not so much PMS or mutual fund. It is whether the approach is right for you. Go with PMS and make sure there is some discipline on size and you can see the process for yourself. With a mutual fund, look for a steady hand and low overhead.
Before you put pen to paper, though, consider this: is this the right way for the manager’s best thinking to actually show up in your results? In a market where the bottom line is made or broken by liquidity and incentives, that is what you want to be after.
