Planning for your child's future

Planning for your child's future has assumed some relevance mainly because of the uncertain and volatile investment climate that we are witnessing today.

Earlier parents had the comfort of investing in assured return schemes offering 10-12 per cent rates. Since then, these rates have halved and even then the future of 'assured return schemes' as they exist today is suspect.

So what should parents be doing? Investing in mutual fund plans for children is one way to alleviate interest rate blues.

Often investors are too preoccupied with investing per se and clocking a 'return' is uppermost in their minds. They ignore the real investment objective, i.e. saving for retirement, saving to buy a house, saving for child's education and the like. Ideally, all these must be looked at in isolation, as there is no one-size-fits-all solution.

For instance, to an individual saving for retirement, there is a pension plan that has a clear mandate to invest with the objective of helping investors save for retirement. Likewise we have children plans/schemes that have a mandate to invest with the objective of creating wealth over the long-term for the child's future.

To cautious parents who would think twice about surrendering their hard-earned money to a fund manager; the explicit investment objective of a mutual fund child plan is particularly comforting.

For instance, Principal Child Benefit Fund 'seeks to generate capital appreciation with the aim of giving lump sum capital growth to the beneficiary (child) at the end of the chosen period'.

HDFC Children's Gift Fund also seeks to provide capital appreciation to the investor (the child in this case).

Even more explicit is UTI Children Career Plan's investment objective of 'providing the child on maturity a means to meet the cost of higher education and/or to help them in setting up a profession, practice or business or enable them to set up a home or finance the cost of other social obligation'.

From the parent's perspective having an investment option that works with the sole intent of creating wealth over the long-term for the child is a big plus.

Of course, we have a gamut of diversified equity and balanced funds that seek to provide long-term capital appreciation for their investors; but there is a subtle difference between these funds and child plans.

When a diversified equity fund or a balanced fund declares that it wants to post long-term capital appreciation the fund manager does not really have the liberty to make equity investments over the long-term. This is because his fund witnesses daily redemption pressure and investors (existing as well as potential) are constantly monitoring his fund's performance.

This tends to force the fund manager's hand and at times he makes investments purely to clock short-term gain to keep investors satisfied and go one up on his peers. Consequently we witness a mismatch between the stated investment objective (of providing long-term capital appreciation) and the actual investment approach (investing to clock short-term gains).

Tushar Pradhan (HDFC Child Gift Fund manager) asserts: "Child plans are similar to balanced funds. However, the differentiating factor is the selection of stocks and the churn in the portfolio. Typically the (child plan) fund manager selects companies that display long term potential as opposed to short term upsides, which any other balanced fund is free to exploit."

Child plans have a lock-in period (minimum 3 years in most cases). If the investor (parent) wishes to exit before that, he will incur a load (as a percentage of his investments), which is a deterring factor for most investors.

The child plan fund manager is able to plan his investments relatively better because he has a fairly good idea about the redemptions his fund is likely to witness. This affords him a lot of freedom while investing and he can take some serious bets that may be unrewarding over the short term, but can really spruce up growth over the long-term. So there is harmony in what he seeks to do (provide long-term capital growth) and his actual investment style (long-term stock bets).

This point is well highlighted by Tushar Pradhan, 'the child plan fund manager endeavors to narrow his investible universe only to such companies that display superior opportunities for growth in the long-term and have capable management that trade at reasonable valuations. While handling a child plan extra care is taken to ensure that the churn in the portfolio is kept low and very large volatility is avoided. Most parents aspire to see an NAV that is slowly but steadily growing as opposed to a sharply volatile NAV.'

But is this actually translated into action? Do child plans actually churn lower and witness lower volatility vis-à-vis balanced funds? We have taken a sample of four leading child plans in the country with a minimum 3-year track record and have compared them to balanced funds from the same fund houses.

Returns at a comfortable pace

In our sample, Principal Child Benefit Fund leads the 3-year ranking, followed by HDFC Child Gift Fund and Tata Young Citizen's Fund. Principal Child Benefit has even outperformed Principal's Balanced Fund. Likewise, HDFC Child Gift has done marginally better than HDFC Balanced.

Performances of child plans appear particularly attractive when you consider that they have come at relatively lower risk. Only Principal Child Benefit Fund has an equity component exceeding 60 per cent.

Particularly noteworthy is the lower volatility in child plans vis-à-vis balanced funds. Principal Child Benefit and HDFC Child Gift have seen lower volatility than their respective balanced fund counterparts. And when you combine this with superior performance, you have two child plans that have performed better with lower volatility than their own balanced funds. This clinches the investment argument that a lock-in enables the fund manager to invest the way he wants to, rather than the way he has to.

From the investor's perspective, a lock-in instills discipline and gives him that much more chance of clocking superior growth at lower risk.

Higher returns come at a price

What you need to look at before investing in a child plan:

1. More equities should not be looked at with apprehension even if you are risk-averse. Remember this is an investment for your child and not for you. In fact, for a child, a higher equity component is better given that he/she has age on her side.
   
2. The child plan's track record is important. Performance of other equity/balanced funds from the same asset management company is a pointer towards the fund's competence in managing the child plan. And when you look at the child plan's performance, look at long term i.e. 3-year/5-year, not 6-month/1-year.
   
3. The child plan's corpus is not necessarily an important factor. Remember child plans are retail products so even if the fund's net assets are small, you can safely assume most investors are retail just like you, which is unlikely to have a significant bearing on the performance.
   
4. While comparing child plans across AMCs, make sure you are comparing apples to apples. Across the board, child plans have varying equity components, which is what gives a push to the returns of the plan at the end of the day. So make sure you are comparing returns of child plans with the same equity component so as to make an intelligent decision.

While mutual fund investing was always meant to be for the long-term, greed and fear force investors to realign their investment objectives at regular intervals. This in turn forces fund managers to realign their investments.

With the result, the return generated by the fund assumes more importance than it should, and the end objective (house, car, child's education) is forgotten. With the lock-in in child plans, the discipline is enforced and investors are compelled to look at the big picture.

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