Relative returns refers to returns as compared to a benchmark index or the market index of the country. It is the difference between the absolute return and the Market Index return. Mutual funds aim to produce a returns which beats the benchmark.
Relative Return % : Absolute return% – Benchmark Index return %
For Example : If the Nifty Index goes up by 20 % and a certain mutual fund goes up by 25% then the relative performance of the mutual fund 5 per cent (25%-20%)
Importance of Relative returns
1. Can Measure the performance of a fund in a bear and bullish market
2. Help in identifying the funds that are providing returns better than the Index
3. Ease in investor Decision Making
4. Heavy reliance on Market trends
5. Mostly Long term time horizon
6. Goal is to provide the returns better than the benchmark index
When to Use The Relative Return Analysis
Relative returns help investor understand which funds are outperforming the market. Hence when an investor wants to know the correct time to move to a new mutual fund this analysis will help him derive the fund.
For Example – When a fund manager leaves and takes up another fund then he/she can tell if the gain or returns are more than the old fund.
Absolute return is the return that the mutual fund house has given over a certain period of time. What ever returns/ gains/ losses that the mutual fund provides is the absolute return without comparing to any benchmark Index
Here the fund managers are also called as the hedge fund managers who aim to maximise the return using various strategies in the market for the investors irrespective of the market trends.
Absolute Returns % : (Current Value – Investment Value)/Investment Value
For Example – If a mutual fund provides current value is Rs 10000 and Investment value is Rs 8000 then the absolute return is (10000-8000)/8000 which is 25%
Importance of Absolute Returns
1. Diversified portfolio for better returns
2.Short term time horizon for faster returns (long term is also an option)
3.Enabling less impact by volatility of the markets
4.Dynamic risk management
5.Goal is to always provide positive returns
6.Simple to calculate
When to Use Absolute Return Analysis
For an investor who is willing to take risk for short and long term gains absolute return analysis can be used for choosing the mutual fund. Market may outperform this fund for some period but then the in the long run this mutual fund if invested in proper stocks will provide good returns to the investor.
Example of Absolute and Relative Returns
|Sr No||Scheme / Category Name||3 Month||1 year||3 years||5 Years|
|1||Axis Long Term Equity Fund – Growth||0.5%||21.6%||9.1%||22.8%|
|2||SBI Magnum Taxgain Scheme 1993 – Regular Plan- Growth||-2.0%||16.4%||7.1%||17.1%|
|3||Aditya Birla Sun Life Tax Plan – Regular Plan – Growth Option||-0.4%||25.8%||11.3%||21.1%|
|4||ICICI Prudential Long Term Equity Fund (Tax Saving) – Growth||0.3%||12.5%||7.6%||17.8%|
|5||HDFC TaxSaver-Growth Plan||-3.5%||16.8%||8.9%||18.2%|
|6||Nifty Index 50||0.4%||16.3%||5.8%||12.2%|
1. Sr no 1-5 mutual funds and the return per cent mentioned are basically the absolute returns of the mutual funds (annualized return %) over the time period mentioned – 3 months , 1 yr, 3 Yr & 5 yr
2.Relative Returns: Relative return of the mutual funds will be calculated as below :
Relative return for Axis long term Equity Fund and Nifty index
Relative return 3 months : (0.5%-0.4%) = 0.1%
1 year : (21.6%-16.3%) = 5.3%
3 years : (9.1%-5.8%) = 3.3%
5 years : (22.8%-12.2%) = 10.6%
Here we see that the Axis long term Equity has outperformed the Nifty over all the period of time and hence can be considered a good investment fund.
Similarly, for SBI magnum Tax gain scheme which has underperformed for 3 months and has been at par for 1-year returns % can be considered a long term bet with 5.2% (17.1%-12.2%) relative return over 5 years on Nifty and 4.3% (17.11-12.8%) on BSE 100 Index.