In recent times, there has been some buzz around merger of funds in the mutual fund industry. This is hardly surprising given that a typical asset management company (AMC) seems to have way too many funds in its arsenal. Merging one or more funds may seem like a rational solution to the problem. On the surface, the event of merging funds seems like a simple one. However, it can have far-reaching implications for investors.
Hence, it is important for investors to understand the effect of such an event and be equipped to deal with it. To begin with, let’s take a simplistic example to understand how a merger takes place.
How a merger takes place
Say, an AMC has two funds – fund A and fund B. Now assume that it decides to merge fund B into fund A. Effectively, fund B will cease to exist, on a stipulated date i.e. the merger date. Investors in fund B have the option of either transferring their investments to fund A, at the prevailing net asset value (NAV) on the merger date i.e. they end up becoming investors in fund A. Else, they can redeem their investments during a specified period before the merger date at the applicable NAV, without bearing the exit load (if any).
What causes the urge to merge?
Now why would an AMC consider merging one or more of its funds? There can be several reasons. For instance, perhaps the AMC believes that the investment proposition of a given fund is rather weak and it has reservations about the fund’s ability to deliver over the long-haul. Hence, it feels the need to merge the fund into another one.
Maybe, the AMC believes that some of its funds have similar characteristics. Hence, it would be prudent to merge them and run a single fund with a larger asset size, rather than run multiple smaller funds. Let’s not forget that a larger asset size brings with it benefits like economies of scale i.e. lower expenses, which can help the fund’s cause. Then again, this state begs the question: why does the AMC have so many similar funds? But let’s leave that discussion for another day.
A merger can also be triggered by scarcity of resources in the investment team. Say, the AMC finds itself in a situation wherein it is left with many funds to be run, by too few managers.
Finally, even the need to hide poor performing funds can prompt a merger. For example, a fund with a mediocre track record is merged into one that has delivered a superlative performance. In the world of mutual funds, ‘out of sight’ becomes ‘out of mind’. And what better way to sweep a mediocre performer under the carpet, than to merge it with an exceptional performer.
These are only some of the situations that may prompt an AMC to merge funds. In any case, the merger does offer some insight into the AMC’s practices and policies, and perhaps even its plans for the future.
What investors must do
For investors whose funds are being merged into another fund, a choice needs to be made between liquidating their investments and getting invested in a new fund. Investors should evaluate if the new fund will make a suitable fit by asking themselves the following questions:
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Is the new fund an apt replacement for the earlier fund?
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Can the new fund play the same role in my portfolio as the earlier fund?
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Does the risk/return profile of the new fund match my risk appetite?
If the answer is yes, on all counts, then it probably makes sense to migrate to the new fund. Of course, there might be tax implications to deal with; then again, that holds true for the other option i.e. liquidating the investment as well. Investors, who are not convinced about making a transition to the new fund, have the option to liquidate their investment without bearing an exit load, and looking for an alternative fund.
Investors have little say when it comes to the funds being merged. But they would certainly do well to make an informed choice and make the most of the situation.
