Though the recent erosion in the scheme's reserves has been explained away as being the result of accounting policy changes, a study of the US 64 portfolio suggests that the scheme is highly skewed: its performance depends to a large extent on 50 scrips as almost 40 per cent of the fund's total corpus is concentrated in these scrips. These 50 scrips also account for 87 per cent of the value of the scheme's total equity holdings.

Brokers and fund managers feel that the fund needs to be actively managed in order to avoid pitfalls of the kind witnessed in the current market.

Though in terms of popular perception the US 64 is perceived to be a balanced fund, the truth is it is heavily tilted towards equity: about 64-65 per cent of its corpus is invested in equities. The equity holding of US 64 are spread over 450 shares which had a total market value of Rs 7,840crore as of September 10, 1998--assuming there have been no major portfolio changes since June 30, 1998.

Over 87 per cent of the equity holding is concentrated in 50 shares, most of which are in the A group of the Bombay Stock Exchange. These 50 shares account for nearly Rs 6,800 crore of the total market value of the scheme's equity holdings.

The result: the performance of US 64's equity portfolio has seen a substantial erosion as most of these 50 scrips hit new lows in the recent market slide. The value of the scheme's equity holding has seen a sharp slide from around Rs 9,961.28 crore as of December 31, 1997, to Rs 8,718.24 crore on June 30, 1998, and further to Rs 7,840.62 crore on September 10.

Moreover, four of the top five equity holdings are concentrated in heavy-weighted Sensex stocks. The value of US 64 holdings in ITC, Reliance Industries, Mahanagar Telephone Nigam and Hindustan Petroleum, which have a combined weight of 30 per cent in the Sensex, is Rs 2,900 crore. Put simply, this meansthat the US 64's fortunes depend on the Sensex.

While the four heavyweight stocks are bluechips which have long-term potential, they display a greater degree of volatility which can disturb the stability of the scheme. In fact, stability is provided to the US 64 scheme by the 36 per cent non-equity holdings which include bonds, debentures and real estate.

The US 64 has an exposure of 10.7 per cent in Reliance Industries and 11.5 per cent in ITC. Its exposure to Reliance in particular has doubled (due to the 1:1 bonus) from 3.37 crore shares on June 30, 1997, to 7.07 crore shares on June 30, 1998. But the value of the Reliance scrip (bonus adjusted) has slid from Rs 186 to Rs 143 during the same period. Today Reliance is quoting around Rs 121. Though the Reliance scrip has recovered from its low of Rs 105, it is still 35 per cent lower than the June 30, 1997 price. To a large extent, Reliance holds the key to US 64 performance. But for the better performance by ITC on the stockmarket, the value of US 64'sholdings would have seen an even sharper erosion. During the one year, ITC has risen from Rs 562 to Rs 652, up 16 per cent.

The other one to drag US 64 down was MTNL which has seen a slide of 41 per cent from Rs 303 on June 30, 1997, to Rs 178 on June 30, 1998. The scrip has now recovered to Rs 210.

For a fund of this size, the choice itself is limited in the equity markets, where hardly 500 scrips are traded regularly and have adequate liquidity. Of the 450-odd stocks in its portfolio, over 50 stocks are either not traded at all or are traded once a year.

The real problem with the scheme, however, is not its underlying equity exposure, but its public perception as a debt fund and its non-NAV based pricing. This makes it imperative for the scheme's managers to sometimes pay more than what they earn. As one fund manager quips, for US 64, it has become a social objective to pay a dividend of 20 per cent. In 1996-97, the fund had drawn from its reserves to fork out the dividend of 20 per cent. This year,the fund ate into its capital to pay dividend.

It is not clear how actively the fund is managed. With such a large exposure to equity, active management would have meant booking profits when the market peaked in April this year with the Sensex crossing the 4000-mark. This would have helped generate cash-surplus to meet the dividend outgo. ``They have not been quick enough to churn their portfolio and reduce their exposure to commodity stocks,'' says a Mumbai-based broker. But since the fund is so huge, even the slightest movement will affect the market, he adds.

In a situation where sales exceeds repurchases, cash flows are not much of a problem for the scheme even if the equity portfolio is not managed actively.

US 64 will either have to gradually increase exposure to debt or make realistic payouts, which could also mean skipping dividend in the event of adverse market conditions. ``The fund is hardly maneuverable due to its size and has a clear conflict of objectives and investment strategy which isnow beginning to show on its performance. While a number of funds have sank because of faulty strategies, the fall of US 64 could have widespread implications,'' says a Chennai-based fund manager.

If the scheme had been ``NAV-driven'' the sale and repurchase prices announced by UTI would have been lower than what they were, say, a year ago or in April, says another broker based in Mumbai.

Can 36 per cent of the corpus (non-equity portfolio) make good the losses in the equity holdings? What will happen if the outflows exceed inflows? Will the sale and repurchase prices continue to be fixed artificially?

With an inbuilt instability in the form of heavy exposure to equity, these and many more questions will keep cropping up again and again.