Understanding the role of a fund manager in mutual funds

When you invest in mutual funds, the fund manager plays a crucial role in shaping investment outcomes. Fund managers are like pilots of an airplane – experts who understand the market dynamics and decide where and when to invest the funds to balance risk and optimise return potential.

While market forces play a significant role, the fund manager's skills and judgment are also essential, especially for actively managed mutual funds. They are responsible for selecting the securities held within a fund, and their investment strategy and trading decisions can greatly influence the fund’s return potential.

This article will give you an overview of the role and responsibilities of fund managers to help you make informed decisions on your investments.

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• Table of contents

1. What does a fund manager do?
2. Roles and responsibilities of a fund manager
3. Types of fund managers
4. Active vs passive fund managers
5. Things to consider while choosing a fund manager

What does a fund manager do?

A mutual fund manager is a financial expert who oversees the investment portfolio of a mutual fund. A skilled fund manager has a deep understanding of financial markets, economic trends, and investment strategies. A fund manager’s primary aim is to make sound investment decisions that align with the fund's stated objectives, ultimately aiming to generate favourable returns for the fund’s investors in the long term.

Fund managers are often seen as the face of a mutual fund house, representing its investment philosophy and expertise. Their track record, experience, and decision-making abilities are critical factors for investors when choosing a mutual fund.

To excel in this role, fund managers must have a combination of strong analytical skills, market knowledge, and the ability to make sound judgments. They are tasked with navigating the complexities of the financial markets, staying ahead of trends, and adapting to ever-changing conditions. Their success is measured by their ability to deliver consistent performance and potentially achieve the investment goals set forth for the fund.

Roles and responsibilities of a fund manager

A fund manager’s fiduciary duty is to safeguard investors’ interests and seek to generate optimum returns on investments from various investors. Their decisions should always prioritise this, even when pursuing profit opportunities. This commitment to prudence and risk management is essential for building trust and ensuring the long-term success of the fund

The responsibilities of a fund manager are multifaceted and may include:

• Portfolio construction: Carefully selecting the specific securities to be included in the fund's portfolio based on thorough research and analysis. The diverse range of securities includes stocks, bonds, or other assets that align with the fund's stated investment objectives. This selection process requires in-depth research and analysis of market trends, economic indicators, and individual company financials.
• Strategic decision-making: Continuously monitoring market conditions, economic trends, and geopolitical events, and making informed judgments about buying, selling, or holding specific securities. These decisions are based on a combination of quantitative analysis, qualitative assessment, and a deep understanding of the fund's investment strategy.
• Risk management: Implementing strategies to mitigate potential risks and safeguard the fund's assets. Fund managers must assess and mitigate various risks associated with the fund's investments, such as market volatility, credit risk, and interest rate risk. The aim is to safeguard the fund's assets while striving to achieve its stated return objectives.
• Performance monitoring: Tracking the fund's performance against benchmarks and other funds in the relevant category. They analyse the factors that contribute to the fund’s success or underperformance. Based on these learnings, fund managers make future investment decisions or adjustments to the portfolio for better return potential.
• Regulatory compliance: Ensuring that the portfolio construction and investment activities adhere to applicable regulations and guidelines. Fund managers must adhere to all applicable laws and regulations governing the investment industry, seeking to protect investors’ interests.

Types of fund managers

Fund managers can employ either active or passive management approaches, depending on the fund category. Managers of active mutual funds – which are a majority of mutual fund schemes – seek to outperform the scheme benchmark index over the long term. This benchmark is the stock market index against which the scheme’s performance can be gauged. Different schemes have different benchmark indices, which are identified based on their relevance to the scheme portfolio and regulatory guidelines.

Actively managed funds seek to outperform the benchmark in the long run by selecting stocks that have the potential to offer superior returns. They also have to adhere to regulatory guidelines on portfolio composition based on the scheme category (for instance, they may need to ensure a certain percentage is allocated to a specific asset class or market segment). Once the portfolio is designed, the fund manager has to monitor it and make changes whenever necessary in response to market movements to leverage opportunities and mitigate risks.

On the other hand, managers of passive mutual funds, such as index funds and Exchange-Traded Funds (ETFs), aim to replicate the performance of a specific index such as the Nifty 50, subject to tracking error, which is the difference between the scheme’s performance and that of the benchmark index. The fund’s portfolio mirrors that of the benchmark index, comprising of the same securities and in the same proportion.

Active vs passive fund managers

Here are the broad differences between active and passive fund managers:

• Objective: Active fund managers are driven by the objective to outperform a specific benchmark or market index over the long term. They leverage their expertise and insights to meticulously select individual securities, such as stocks, bonds, or other assets that they believe hold the potential to surpass the overall market's performance. Passive managers have a more hands-off approach, aiming to replicate the performance of a chosen benchmark or index (subject to tracking error). For this, they construct a diversified portfolio that mirrors the composition of the index, whether it's the Nifty 50, the BSE Sensex, or another stock market index.
• Portfolio management: Active managers need to continuously research, analyse, and make tactical decisions to capitalise on emerging opportunities and mitigate potential risks. They often adapt their strategies to the prevailing market conditions, making adjustments to the portfolio as necessary with an aim to achieve their goal of exceeding benchmark returns over the long term. Passive managers, meanwhile, only need to alter the portfolio when the benchmark index undergoes a change or change in the percentage of components in the portfolio.
• Expense ratios: Actively managed funds tend to have higher expense ratios compared to passively managed ones to compensate for the increased fund manager responsibilities.

The choice between active and passive management depends on your preferences and risk tolerance. Active fund management offers the potential for higher returns but also comes with greater risk and potentially higher fees. Passive fund management entails lower costs but does not typically offer the potential to outperform the market.

Things to consider while choosing a fund manager

The fund manager's expertise can be a significant factor when choosing a mutual fund. Here are key considerations to help you evaluate a fund manager's capabilities:

• Experience: A fund manager who has seen various market cycles is likely to possess a deeper understanding of market dynamics. This knowledge can help them navigate challenging situations better.
• Track record: Check the fund manager's historical performance and their ability to consistently achieve or exceed benchmark returns. Consider their performance across different market cycles to gauge their resilience in both bull and bear markets. Do note, however, that past performance may or may not be sustained in the future.
• Investment philosophy: Look at the investment philosophy of the mutual fund house and the scheme you are interested in. Check if the fund manager’s investment style aligns with your own risk tolerance and financial goals. A manager with a conservative approach may not be the ideal choice if you're seeking aggressive growth, and vice versa.
• Decision-making criteria: Understand the factors that influence the fund manager’s investment decisions. Do they prioritise fundamental analysis, technical analysis, or a combination of both? Is there anything unique they are seeking to do that sets them apart from their competitors? Knowledge of their decision-making framework can help you assess whether it aligns with your investment philosophy.

Conclusion

Selecting a fund manager is not merely a transactional decision. It's a partnership in your financial future. A skilled fund manager can optimise the return potential of your investments while balancing risks, resulting in a favourable investment experience. So, when considering a mutual fund investment, understand the fund manager and whether their track record, investment philosophy, experience, research methodology, and risk management approach align with your aspirations.

FAQs

What is the primary role of a fund manager in mutual funds?

The primary role of a fund manager is to manage the mutual fund's portfolio and strive to achieve its investment objectives. This involves making strategic investment decisions -- such as selecting securities, monitoring performance, and mitigating risk – within regulatory guidelines and limits.

How do fund managers decide where to invest?

Fund managers of actively managed funds conduct extensive research and analysis, including studying market trends, economic indicators, company financials, and industry reports. Passive fund managers replicate the performance of specific indices by holding similar portfolios of securities.

How do I choose a fund manager for a mutual fund?

Consider their experience, past performance, investment philosophy, and strategy when investing.

What is the success rate of fund managers?

The success rate of fund managers varies significantly, depending on their economic conditions as well as their investment strategy and portfolio management decisions. Moreover, market conditions often play an outsized role in a scheme’s performance. It’s crucial to research individual fund managers and their track records before investing. However, past performance may or may not be sustained in the future.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully. This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.