Volatile rupee poses threat to offshore funds

With the rupee swinging wildly vis-a-vis most currencies, managing currency risk may be the most daunting task for Indian mutual funds as they queue up to launch offshore funds.

There are currently 2 feeder funds in India, the Franklin India International fund, which invests in the Franklin US Government fund, (investing in US Government or government-backed securities) and Principal Global Opportunities Fund (investing in PGIF Emerging Markets Equity Fund).

Several fund houses including Kotak Mutual Fund, Sundaram BNP, Fidelity, DBS Cholamandalam and Tata Mutual Fund have also launched offshore funds after the Reserve Bank of India hiked the total amount that domestic mutual funds could invest abroad to $4 billion, with a single fund cap of $200 million. The Franklin India International Fund has given negative returns of 7.17 per cent against the category returns of 6.60 per cent. While the parent fund has not performed as badly, returns given by Franklin India International fund have taken a hit as a result of the rupee appreciation.

"The strong appreciation in the rupee against the US dollar has impacted the fund's performance. The fund is ideal for both individual and institutional investors, who are looking for diversification not just across asset classes, but across currencies as well. Investors looking to hedge their future dollar expenses (overseas trips, children's education abroad) can also take an exposure. While the rupee has been appreciating against the dollar, the movement would not always be uni-directional," said Santhosh Kamath, chief investment officer-fixed income, Franklin Templeton Investments.

Funds investing in India typically did not attach too much importance to currency risk since it was felt that in the long run, all currency fluctuations add up to zero. "Returns given by the fund have taken a hit but we don't hedge against the currency risk since we don't see this as a material risk in the long run. We are not investing in the dollar, but in strong economies," said Rajat Jain, chief investment officer, Principal Mutual Fund.

The Principal Global Opportunities fund has notched up returns of 27.44 per cent vis-a-vis the category returns of 45.57 per cent. The fund uses the money collected to buy units in the parent fund, the PGIF emerging markets fund, which uses this money to buy stocks in a number of countries and across a number of currencies.

The rupee has appreciated vis-a-vis the dollar by up to 12 per cent in the last one year. "Attention is being placed, in the last couple of months, to managing currency risk. For instance, a multi-national real estate fund investing in India has asked us to help it to manage the currency risk. Currency risk is significant in the context of funds investing in exotic markets such as the Asian markets,"said Jamal Mecklai, CEO, Mecklai Financial.

Funds that directly invest abroad may have it better than the feeder funds that allocate all their assets to the parent fund. Templeton India Equity Income fund and Fidelity International Opportunities fund may be relatively insulated against the currency risks since their mandate is broader.

These funds directly invest in stocks in India and overseas. Templeton's India Equity Income fund has given annual returns of 38.57 per cent against category returns of 32.48 per cent. The Fidelity International Opportunities fund has also done fairly well since it was launched in April 2007.

"We do not explicitly hedge our portfolios. Our long-term perspective allows us to select securities based on fundamentals. This could present opportunities in the wake of short term fluctuation in the given currency. The costs associated with continuously hedging positions are also often prohibitive," said Chetan Sehgal, Director-research, Templeton Equity.

Sundaram BNP Paribas Global Advantage fund, DSPML World Gold fund, DWS Global Thematic Offshore fund and Kotak Global Emerging market fund have already hit the market. Others such as ICICI Prudential's Indo-Asia Equity fund,Tata MF's Indo-Global infrastructure fund and ABN AMRO's China-India fund are collecting money through their new fund offerings. More funds are also in the offing, with AMCs such as Standard Chartered having already filed its offer document with Sebi.