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Why CPSE ETF FFO 3 Is Not The Right Investment

In Mar 2014, the Govt. of India had launched a New Fund Offer (NFO) of a mutual fund scheme — in the form of an Exchange Traded Fund or ETF — comprising certain specific PSUs i.e. Public Sector Units in its portfolio. It was one of the methods of disinvestment. [See Is CPSE ETF NFO a worthy investment opportunity? for more details.]

Subsequently, it made two additional public offers under the scheme viz. CPSE ETF FFO (Further Fund Offer) in Jan 2017 and CPSE ETF FFO 2 in Mar 2017.

The Govt. now proposes to launch the 4th public offer of the same, namely CPSE ETF Further Fund Offer 3 (CPSE ETF FFO 3).

Let's explore the salient aspects of this CPSE ETF FFO 3 and whether you should invest in the same.

What is CPSE ETF FFO 3?
CPSE ETF FFO 3 is 
- a Further Fund Offer (FFO) 
- in the form of an Exchange Traded Fund (ETF)
- whose scheme objective is to invest the corpus proportionately in the companies that constitute the Nifty CPSE Index

What is Nifty CPSE Index?
Nifty CPSE Index has been constructed by including companies that meet the following criteria:
a. Among the list of Central Public Sector Enterprises or CPSEs, published by the Department of Public Enterprise
b. Listed on the NSE
c. Govt. holding more than 53% equity capital
d. Large PSUs with more than Rs.1000 crores as free float market capitalization (for 6-months period ended Aug 2018)
e. Consistent dividend payment record

Which Public Sector Companies constitute the Nifty CPSE Index?
The 11 blue-chip PSUs which meet the above criteria, and their weightages as on Oct 31, 2018, are listed below:
- NTPC Ltd. (19.55%)
- Coal India Ltd. (19.13%)
- Indian Oil Corporation Ltd. (18.94%)
- ONGC Ltd. (18.89%)
- REC Ltd. (6.18%)
- Power Finance Corporation Ltd. (5.49%)
- Bharat Electronics Ltd. (4.94%)
- Oil India Ltd. (3.45%)
- NBCC (India) Ltd. (1.66%)
- NLC India Ltd. (0.95%)
- SJVN Ltd. (0.64%)

[Note: This is the restructured list with exclusion of Gail (India) Ltd., Container Corporation of India and Engineers India Ltd. The new companies added to the list are NTPC, NLC, SJVN and NBCC.]

cpse-etf-ffo-3
Beware! CPSE ETF is a high-risk theme-based concentrated fund.

In terms of industry, the allocation works out to
- Oil (22.34%)
- Power (21.14%)
- Minerals / Mining (19.13%)
- Petroleum Products (18.94%)
- Finance (11.67%)
- Industrial Capital Goods (4.94%)
- Construction (1.66%)

Corpus collected under the CPSE ETF FFO will be invested in the above companies as per the given weightages. Hence, subject to the tracking error and expenses, CPSE ETF returns will closely correspond to the Nifty CPSE Index returns.

Who will manage the CPSE ETF FFO?
This scheme is conceived by the Central Govt. as a means to dis-invest a part of its holding in Central Public Sector Enterprises and would be managed by Reliance Nippon Life Asset Management Company.

What are the details of the Further Fund Offer?
Offer Dates: Open from November 28 to 30, 2018.

Issue size: Total Rs.8000 crores (70% of the same is earmarked for preferential allotment to Retail Investors and Retirement Fund Qualified Institutional Buyers)

Investment Limit: Retail Investor is one who invests Min. Rs.5,000 and Max. Rs.2 lakhs.

FFO 3 Allotment Price: Based on the NAV of the Scheme 1 working day prior to the FFO 3 Allotment Date

Discount: As an incentive, Govt. of India is offering a discount of 4.5% on the market price of the underlying shares comprising the Nifty CPSE Index.

Annual Fund Management Charges: Comparatively very low at just 0.07%

Entry / Exit Load: Nil

Listing: CPSE ETFs are already listed on NSE and BSE.

Should you invest in CPSE ETF FFO 3?
The companies, in which your corpus will get invested, are all large and profitable Govt. companies.

With a PE Ratio of just 9.37 and Dividend Yield of 5.25%, Nifty CPSE Index appears to be highly attractively priced as compared to the broader market (which has a PE Ratio of 25-26 and Dividend Yield of just around 1.25% for Nifty 50 and Nifty 100).

Plus, you get a discount of 4.5%.

Despite these positive factors, you SHOULD NOT invest in CPSE ETF FFO 3.

Why? Because:

a) With just 11 companies in the portfolio, this is a highly concentrated fund. In fact, the allocation across companies is extremely skewed, such that almost 80% of the corpus is invested in FOUR companies only.

b) Even within this small universe, the sector allocation too is extremely narrow. Oil/Petroluem, Power and Minerals corner more than 80% of the funds.

c) All these companies are under Govt. control. Hence, political considerations often override the economic interests of such enterprises. This can hurt the profit potential of these companies.

d) CPSE ETF has delivered a return of -18.51% and 5.97% in last 1 year and 3 years respectively. As compared to this, Nifty 50 has delivered a far superior performance of 1.91% and 10.22% over 1 year and 3 years. Since inception the CPSE ETF returns are 8.17% compared to 11.47% by Nifty 50. In short the performance has been terrible.

e) Plus, in general, one should ideally spread out one's investment in equity (by way of SIP). Lump sum investment in NFOs/FFOs/New Issues etc. increase the volatility risk and hence is preferably avoidable.

In short, this is nothing but a very high-risk theme-based fund.

Therefore, it would be prudent for aam investors to avoid such a concentrated bet.

[By the way, CPSE ETF had collected Rs.3000 crores in its NFO in 2014, Rs.6000 crores in FFO in Jan 2017 and Rs.2500 crores in FFO 2 in March 2017. This adds up to a total of Rs.11,500 crores. Yet, the corpus today is a mere Rs.3800 crores... i.e. 2/3rd of the amount has been redeemed by the investors.]

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