Don't be lured by weak rupee effect on international MFs

The domestic equity market is up 2% in last three months, but international mutual funds have gained up to 16%. The average scheme return for this category is a neat 7%. In fact, the last one-month period, global MFs are the best performer as a category among all. Apart from the appreciation of underlying assets held by international funds, a weak rupee has helped lift these schemes. With the rupee having plummeted to 16-month lows against the US dollar, should investors tread with caution or buy more into such global MFs, which have had a chequered history in terms of performance. DNA Money spoke with mutual fund experts to decode this interesting trend.

Dime a dozen

According to Value Research data, there are more than three dozen international mutual fund schemes. They can be grouped into a few buckets based on their investments - commodity stocks, real estate stocks, diversified international equities, European shares, energy stocks, gold shares, US stocks, emerging markets, Asian/China/Japan shares, and exchange-traded funds. While they offer different global plays, the truth is international funds have had a mixed run. In years like 2009, 2012 and 2016 they have delivered moderate to great returns. Some themes like Brazil did not work in 2015. Gold funds were lacklustre in 2017.

In 2018, international mutual funds have generally had a great run. In the last three months when small-cap, mid-cap and even multi-cap funds have struggled, most international funds have done well. During the same period, the rupee against the greenback has dropped from 64 levels to 68.

According to Nilesh Shah, managing director, Kotak Asset Management Company, typically when the rupee depreciates these funds do very well. But the underlying also should do well over a period of time for investors to make consistent returns. “These are all specialised products meant for High Networth Individuals, rather than retail investors. My advice would be - don’t chase performance, don't chase returns. Look at your investment objective and see if you have the ability to handle the volatility of global products,’’ he said.

International equity MFs invest mostly invest in foreign stocks. "Although their NAV is declared in rupees, the value of their underlying assets is determined by the value of the relevant foreign currency, not the Indian rupee. Hence, a weak rupee will generally mean a rising NAV for international equity MFs," explained Neil Borate, personal finance analyst, RupeeIQ.

For example, assume that an international fund focused on the US market has an NAV of $10 (in US dollar valuation) and the US dollar is trading at Rs 68 today. "Hence, the NAV of that fund in rupee for today would be Rs 680. If the US dollar trades at Rs 70 tomorrow, the NAV of that fund in Indian rupee will simply increase to Rs 700 even if its NAV in US dollars remains the same tomorrow," said Manish Kothari, director & head of mutual funds, Paisabazaar.com.

What should investors do

With the rupee having depreciated quite a bit already, it is important for investors to decide what strategy they will take from hereon. International mutual funds can buy shares of Facebook, Walmart, Amazon Microsoft, Tencent and Alibaba --- these are wealth-generating stocks, but not directly available to investors.

According to Vijai Mantri, chief mentor, and co-promoter, Buckfast Investment Advisory, investments in international MFs should be done when currency runs the course on appreciation. "Weakness in rupee may show immediate returns, but over medium to long term, it becomes sub-optimal," he said.

However, according to Borate if investors expect the rupee to weaken further, international MFs is one method of reducing this risk. But investors should also consider the prospects of the underlying market such as the US or European market, as this will also affect the value of their international MF significantly.

Since international funds invest in overseas assets, currency plays an important role in international funds investing. Hence, the currency risk is an added factor to consider, cautioned Mantri. Other experts say that international funds are meant for relatively sophisticated investors only.

International MFs will also be useful for those who frequently travel abroad or go abroad for study or work. These activities often involve expenditure in foreign currency and hence, investing in the same currency through international MFs can reduce the currency risk of these investors to some extent. "Currency risk is a major factor in international MFs, but this can also be a positive element. A portfolio diversified across currencies can reduce risk in the long term rather than one that tied completely to the Indian rupee," Borate added.

The returns registered by international MF schemes is a combination of the returns generated from overseas investments and movements in foreign exchange rates. If rupee strengthens, any optical gains in global MFs may go. "Any increase in rupee valuation would pull down the overall returns from the international fund," argued Kothari.

TO INVEST OR NOT

• Weak rupee can increase returns from international funds
   
• International funds are good only for portfolio diversification
   
• Opt for them only if you can stomach the volatility of global products
   
• For consistent returns check if underlying investment is strong