Fund managers adopt various strategies to achieve the fund’s investment objective and generate attractive returns for investors. Among these styles, one is contrarian investing. The risks involved in this strategy are high but there is also an opportunity to create excellent returns. 

As per regulations of SEBI contra funds are required to invest a minimum of 65% of total assets in equity and equity linked instruments.

In this article, we will explore contra mutual funds and points to know before you start to invest in contra funds.

What are contra mutual funds?

This is a type of equity mutual fund where the fund manager invests in the type of companies which are not performing well currently. The fund manager usually believes that the reasons for the underperformance of the company are short term and going forward business performance will improve and they will outperform the market.

And in doing so he will be able to generate good results for unitholders. Fund managers usually sell their contrarian investments when the investment thesis has completely unfolded or they find a better risk to reward investment opportunities. 

In short, this is a contrarian approach where stocks are bought at low prices with anticipations of a turnaround of companies and generating good returns in future. 

Risks associated with contra funds

Risks associated with contra funds are as below:

Time horizon

These funds can go through a phase of underperformance for a long period because it takes time for a company to turn around its business. They usually do better when the broader markets are falling. So investors should be able to wait for a long time usually in years if they want good returns from these funds. 

It is important to remember that these funds are often high-risk investments, so investors must be aware of the potential for losses as well as gains. Additionally, investors should research the fund’s performance history, the manager’s experience and the fund’s strategy before investing. Finally, it is important to ensure that the fund’s goals and objectives match the investor’s own investment goals.

Failure of turnaround

In contra funds, there is always the risk of failure of the investment thesis which must be taken into consideration by investors. If the problems of the company are not going away. If this happens then the fund manager has no other way but to book loss and look for other opportunities.

There is a chance that the fund manager may have to invest in other companies in order to make up for the losses incurred due to the failed thesis. Therefore, it is important for investors to understand the risks associated with contra funds before investing in them.

Risk capacity

Before selecting contra funds you must understand your risk capacity. You must ask yourself the below questions to assess your risk tolerance.

• Are you able to hold the fund for a long period of time? 
• Are you comfortable with seeing the fund underperforming the market for 3-4 years’ time?
• Do you take ‘buy or sell’ decisions based on panic and greed?
• Do you trust the fund manager and his stock selection process?
• Is the fund right for your current financial situation?
• Will you have to withdraw the money from the fund if an emergency arises before 5 years’ time?

After carefully examining these questions you can analyze your current risk-taking ability and only then you should decide whether you want to invest in contra fund or not. 

Are contra funds for you?

Investing in contra funds is not as difficult as it might seem. If you want to make the most of available opportunities through contra funds you can certainly do so. But first, you should know your investment goal and you must be prepared to go through all the points discussed in the Risk capacity section. 

Currently, only three AMCs in India offer contra mutual funds:

1. SBI Contra fund

Inception Date	Jan 01, 2013
Benchmark Name	S&P BSE 500 Total Return Index
Fund Manager	Dinesh Balanchandran
Expense Ratio	1.62%

2. Kotak india EQ contra fund

Inception Date	January 01, 2013
Benchmark Name	NIFTY 100 Total Return Index
Fund Manager	Shibani Kurian
Expense Ratio	1.04%

3. Invesco India contra fund

Inception Date	January 01, 2013
Benchmark Name	S&P BSE 500 Total Return Index
Fund Manager	Taher Badshah
Expense Ratio	0.56%

Before investing be sure to check the overlap level between mutual funds so that you don’t end up with similar stocks in different mutual funds. 

Taxability of contra funds

Any fund investing more than 65% of AUM in equity markets is classified as an equity fund, hence contra funds are a sub-category of equity mutual funds. They are taxed as equity mutual funds. 

Any short term gains will be taxed at a tax rate of 15% and long term gains (after exclusion of gains up to Rs. 1,00,000) will be taxed at a tax rate of 10%.

Any dividends received from funds will be taxed as per applicable slab rates. 

Summary

Contra mutual funds are a type of equity mutual fund in which the fund manager invests in companies that are currently underperforming in the market. This is done in the hopes that the company will turn around and outperform the market in the future. Although this strategy has the potential to generate attractive returns, it also carries with it a certain amount of risk.

These include the time horizon needed for the investment to turn around, the potential for the investment thesis to fail, and the risk capacity of the investor. Additionally, contra funds are taxed as equity mutual funds, with short-term gains being taxed at a rate of 15% and long-term gains (after exclusion of gains up to Rs. 1,00,000) being taxed at a rate of 10%. Therefore, before investing in contra funds, an investor should carefully assess their risk capacity and make sure the fund is right for their current financial situation.

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