Shall you go for Portfolio Management Services (PMS)?
Some of us like to shun common and simple choices as we grow wealthy. The clothes we wear, the car we drive, the food we eat, the vacations we take and the houses we live undergo a change to reflect our wealth. When this attitude creeps into our investment habits, we choose products that come with an ‘exclusivity’ label. Portfolio management services (PMS) to my mind, are targeted at such vanity. Investors, who think a pooled portfolio such as a mutual fund scheme is for the commoner, choose PMS which seems more exclusive, evolved and sophisticated. Let us see why that may not be the case.
First, it’s true that each investor in a PMS is required to have a separate bank and demat account in which his securities are held. Also, the pooling principle, where the fund as a whole is impacted by inflow and outflow of investor money, does not apply to PMS. In a PMS, cash brought in by an investor is held in his account before it is deployed and withdrawals too only impact his portfolio holdings. That however, does not mean that each portfolio is being managed exclusively. What a PMS does is manage a portfolio centrally and use an algorithm to allocate securities and cash across investor accounts.
Second, transaction in a PMS is done on behalf of the investor. Earlier the transactions were carried out in a pooled bank and demat account. Now, the regulatory requirement is to have bank and demat accounts for each investor in a PMS. This does not fundamentally change the fees, cost, frequency or number of transactions. All transactions in a PMS are done on behalf of the investor in his accounts and are therefore taxable as if they were undertaken by the investor. So, there’s no pass-through benefit as in case of an MF. Investors will incur broking and transaction fees, apart from short-term capital gains, on transactions over which they have no direct control. PMS is tax-inefficient as compared to an MF.
Third, the PMS portfolio does not have restrictions that a MF portfolio has, in terms of percentage limits per security. The portfolio can be concentrated and can hold various asset classes—gold, derivatives, debt and equity. While this seems like a good thing, it places higher onus on the manager to deliver performance, since he has higher flexibility. But what it does in effect is makes performance evaluation tough. It is difficult to seek benchmarks that correctly capture a portfolio's performance given wide changes to allocation and composition. The fund manager may be delivering returns with risks that are not measurable or comparable with his peers.
Fourth, PMS allow greater flexibility to the manager and the distributor in terms of 
charging fees and expenses. Regulation requires that performance-linked fee can be charged only based on high-watermark principle. This means unless the portfolio value exceeds its earlier highest level, it cannot charge variable fees for outperformance. What this regulation has achieved is higher fixed fee to clients. The low profitability in selling MF products has also resulted in distributors pushing PMS to clients. What investors hold are higher-cost products that hurt long-term investments the most.
Is investing in a PMS worthwhile? Yes, if the manager has demonstrated excellent performance leveraging the flexibilities he has, and if the investor thinks the expertise is worth the cost and taxes. Not if the investor is uninformed about the functioning of PMS and is lured by the ‘exclusivity’ tag. The low entry level of Rs 5 lakh brings in several such investors who like to graduate from a simple MF, only to find that they have been hit by a higher fee and expense ratio, and left staring at higher tax outgo on a portfolio with average performance.
Source: Economic Times
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