How good is Reliance Long Term Equity Fund

The primary investment objective of the scheme is to seek to generate long term capital appreciation & provide long-term growth opportunities by investing in a portfolio constituted of equity & equity related securities and Derivatives and the secondary objective is to generate consistent returns by investing in debt and money market securities.

The fund shall primarily focus on the small and mid cap stocks. However depending on the views of the fund manager and market conditions in the interest of the investors, the fund manager will have the flexibility to select stocks which he feels are best suited to achieve the stated objective.

The fund will have the flexibility to invest predominantly in a range of Small and Mid Cap companies/stocks with an objective to maximize the returns, at the same time trying to minimize the risk by reasonable diversification. However there can be no assurance that the investment objective of the scheme will be realized, as actual market movements may be at variance with anticipated trends. *Source: Offer document

While a number of AMCs (Asset Management Company) have launched close-ended NFOs in the past, this is the first one for Reliance Mutual Fund. Reliance Equity Fund (launched in February 2006) was the last open-ended equity fund to be launched, before SEBI's (Securities and Exchange Board of India) clampdown on when and how entry loads could be charged.

Reliance Long Term Equity Fund (RLTEF) is a 3-Yr close-ended diversified equity fund with automatic conversion into an open-ended fund on maturity. The fund proposes to generate long-term capital appreciation by investing predominantly in small and mid cap stocks. It will also invest in debt and money market instruments in order to generate consistent returns.

Investments in small and mid caps hold above-average potential for risk-taking investors. If identified correctly at an early stage, these stocks can reap significant gains over the long-term. The oft-touted names by fund managers - Wipro, Infosys, HDFC Bank among others, were mid caps at one stage before blossoming into one of the most respected names in their respective sectors. Of course, it has taken them time to achieve that.

At the same time, investment in small/mid cap stocks is not free from risk; rather the risk is above-average. This is because for every Wipro, Infosys or HDFC Bank, there are some forgettable companies like Vikas WSP, Aftek Infosys, VisualSoft and HFCL to name a few that failed to graduate to large caps. In other words these companies lacked the mettle to join the big league. This only underscores that every small/mid cap is not necessarily a large cap in the making and therein lies the risk of investing in small/mid cap stocks.

Companies in the small/mid cap segment do not have established track records and data on them (which is critical for research) is not easily available. So, the chances of making a wrong investment decision are very high.

A word of advice - investors investing in small/mid caps need to be patient enough as it could be a while before these stocks unlock the potential that is expected of them. So flitting in and out of these stocks/funds may not be the right way to go about investing in mid caps.

With regards to Reliance Mutual Fund, we have not been able to get complete clarity on the investment proposition of some of their funds. For instance, Reliance Vision Fund until some years ago was predominantly invested in mid caps, while Reliance Growth Fund was the large cap offering. As things stand today, their investment mandates have reversed, which means Reliance Vision is a large cap fund, whereas Reliance Growth is a mid cap fund. The change in their mandates is inexplicable and given that they share the exactly same investment objective, we have no way to ascertain whether this change is only temporary or permanent.

In Reliance Growth Fund, Reliance Mutual Fund already has a fund that invests in mid caps in addition to large caps. RLTEF proposes to invest 'strictly' in small/mid caps; effectively closing the door on large cap investments.

In our view, the interests of risk-taking investors are better served by investing in well-established mid cap funds like Sundaram Select Midcap and Franklin India Prima Fund. Meanwhile, they can track RLTEF's performance over the 3-Yr period and then take a revised view on the fund.

Moreover, if in the fund manager's view, equity markets are unlikely to perform well and there is a dearth of investment opportunities, the fund can reduce its allocations to equities and instead invest in debt and money market instruments upto 30% of net assets.

It pays to invest in diversified equity funds with a long-term perspective, at least 3 years in our view. Investing for the long-term is particularly relevant for small/mid caps since, unlike well-established large caps, they take a lot more time to unlock their potential. In fact, we would recommend that investments in mid caps should be made with a minimum 5-Yr investment time frame. And over this period, investors should be prepared to witness above-average volatility.

RLTEF's fortunes will be closely linked to those of the small/mid cap segment. If anything, the fund may be exposed to higher risk levels since it plans to be invested strictly in small/mid caps and has a relatively low market cap ceiling of Rs 15 bn for that purpose. However, the flexibility to revise the market cap ceiling and invest in debt will prove useful.