While investing in mutual funds we make it a point to ensure that we’ve checked the past performance of the fund manager or know about the fund as to where will the money be invested and many other things. But after investing in it, we get confused as to how to know that whether the fund is doing well or not. Mere good returns will not do any benefit when you are not aware as to what to compare it with. So there has to be a benchmark against which one can measure the scheme performance. Most of us do not understand the significance of using a benchmark for the purpose of effective comparison.

What are benchmarks?

Benchmarks are points of reference that conveys how the mutual fund has performed compared to its peers and the market as a whole. SEBI (Securities and Exchange Board of India) has made it mandatory for fund houses to declare a benchmark index.

Benchmark returns will give you a standard by which to make the comparison. It basically indicates what the fund has earned against what it should have earned. One can say that the benchmark’s returns are the MF schemes target and the scheme is expected to have done well if it manages to beat its benchmark.

The benchmark for a scheme is decided by the AMC in consultation with the trustees. Some well-known benchmarks are the BSE Sensex and NSE Nifty for funds that invest in large-company stocks.

Some mutual fund research houses compare mutual fund schemes with a benchmark which is the average returns by all schemes in the category or the best performer in the category, i.e. the performance is benchmarked against the peer group. For example, the performance of a diversified equity fund is benchmarked against the average returns of all diversified equity funds in the market or the best performer in the category.

Mutual fund performance and Benchmarks

Let’s say there is a mutual fund scheme which considers Sensex as its benchmark. Now suppose the Sensex rises by 20% over a year and the fund rises by 30% over the same time period, then it would mean that the fund has outperformed. And if an opposite situation occurs where Sensex rises by 20% over a year and the fund rises by only 10% over the same time period, then it would mean that the fund has underperformed.

Benchmarks are not only relevant when the market is positive but also when the market is negative. Suppose a fund has lost 20% as compared to the 30% fall in the benchmark, then it would mean that the fund has outperformed.

An important point to note here is that the duration to judge the benchmark should be at least one year. Also, the difference between the fund and benchmark performance should be considerable. You can’t say that a fund has underperformed its benchmark just because its returns were 10%, while the benchmark rose 9.8%. The difference between the fund and benchmark performance is not considerable.

Checking whether the fund has outperformed its benchmark is not the only criterion to select the scheme. But it is one of the important factors to invest in mutual fund schemes. You should verify if a mutual fund has outperformed its benchmark over several years with considerable difference

Benchmarks for equity schemes

Following are some of the benchmarks for equity schemes, which most of the mutual funds use.

• Nifty 50
• S&P BSE 200
• S&P BSE 100
• S&P BSE 500
• Nifty 500
• Nifty Free Float Midcap 100
• S&P BSE Sensex
• Nifty 100
• S&P BSE Small Cap
• S&P BSE Mid Cap
• CNX Bank
• Nifty 200

Benchmarks for debt schemes

These are some of the benchmarks which debt schemes use:

• CRISIL CompBEX – Composite Bond Index
• CRISIL LiquiFEX – Liquid Fund Index
• CRISIL STBEX – Short-Term Bond Index
• CRISIL Debt Hybrid Index – 60:40
• CRISIL Debt Hybrid Index – 75:25
• NSE’s MIBOR (Mumbai Inter-Bank Offered Rate)

Benchmarks for other schemes

• Hybrid funds – these are those funds which invest in both equities and debt. For instance, a hybrid scheme with asset allocation of about 65% in equity and balance in debt, can use a synthetic index that is calculated as 65% of S&P BSE Sensex and 35% of I-Bex.
• Gold ETFs – Gold price
• Real estate funds – A few real estate services companies have developed real estate indices. These have shorter histories and are yet to earn the wider acceptance that the equity indices enjoy.
• International funds – the benchmark would depend on where the scheme proposes to invest. A scheme seeking to invest in China might have the Chinese index, Hang Seng as a benchmark. S&P 500 may be appropriate for a scheme that would invest largely in the US market.