When investing in mutual funds, it’s essential to have a clear understanding of how performance is measured. This is where benchmark indices come into play. One of the most reliable benchmarks for assessing mutual fund performance is the Total Return Index (TRI).
In this article, we’ll break down what is Total Return Index, how it works, and why it is a better benchmark compared to traditional indices like the Price Return Index (PRI). The goal is to help you make smarter and more informed investment decisions.
Understanding Benchmarking in Mutual Funds
A benchmark in mutual funds is like a standard or yardstick used to compare a fund’s performance. For example, if a fund is benchmarked against Nifty 50, it means the fund’s returns are compared to the returns generated by the Nifty 50 Index. This comparison helps investors understand whether their chosen mutual fund is outperforming or underperforming the market.
Traditionally, most benchmarks used the Price Return Index (PRI), which only measured capital gains or losses. But that changed in 2018 when the Securities and Exchange Board of India (SEBI) mandated the use of Total Return Index (TRI) instead. So what’s the difference, and why does it matter?
What Is Total Return Index?
The Total Return Index (TRI) is a version of a market index that not only tracks capital appreciation (price movement of securities) but also includes all income generated from those securities—such as dividends or interest payments. In simple terms, TRI shows the total return an investor would receive if they had reinvested all dividend earnings back into the index.
So, while PRI only shows changes in stock prices, TRI in mutual fund includes those gains plus any income that investors would have earned. This gives a more accurate picture of actual earnings.
Why Did SEBI Mandate the Use of TRI?
In February 2018, SEBI made it compulsory for all mutual funds to benchmark their schemes against the Total Return Index instead of just the Price Return Index. This decision aimed to improve transparency and provide investors with a clearer idea of how their funds were truly performing.
By including dividend income in the benchmark, TRI helps investors understand whether their fund manager is genuinely adding value or if the returns are just keeping pace with the broader market.
Key Features of the Total Return Index
- Includes dividends and interest: TRI reflects income such as dividends from shares and interest from bonds—factors that are ignored in PRI.
- Reinvestment assumption: It assumes that all income is reinvested, which helps provide a more accurate long-term view.
- SEBI compliance: Since 2018, mutual fund houses must use TRI for performance disclosure.
- Greater transparency: TRI offers a fair and transparent benchmark, helping investors see the real performance of mutual fund schemes.
- Long-term suitability: TRI is more suited for long-term investments where income accumulation matters.
Total Return Index vs Price Return Index
| Aspect | Total Return Index (TRI) | Price Return Index (PRI) |
| Measures | Price + dividends/interest | Only price changes |
| Accuracy | High as it shows true gains | Moderate as it misses dividend earnings |
| Transparency | Greater transparency | May overstate fund’s outperformance |
| SEBI Mandate | Mandatory since 2018 | No longer the standard benchmark |
| Use Case | Ideal for mutual fund comparison | Suitable for historical price tracking |
How Is the Total Return Index Calculated?
The Total Return Index (TRI) calculation involves factoring in both price movements and income (like dividends) generated by the index components. Here’s a simple breakdown of how it is calculated:
Step 1: Calculate the indexed dividend: First, determine the dividend per index point using this formula: Indexed Dividend (Dt) = Total Dividends Paid ÷ Base Market Capitalisation of the Index
Step 2: Adjust the Price Return Index (PRI): Next, adjust the PRI by including the dividend component: (Today’s PRI + Indexed Dividend) ÷ Previous PRI
Step 3: Calculate the TRI: Now, apply this adjustment to the previous day’s TRI to get today’s TRI: TRI = Previous TRI × [1 + {(Today’s PRI + Indexed Dividend) ÷ Previous PRI – 1}]
This formula assumes that any dividends or income received from the index constituents are reinvested back into the index, providing a complete picture of returns.
Why TRI in Mutual Fund Evaluation Matters
Consider this example: A mutual fund posts an 8% annual return, and its benchmark index (using PRI) shows 7%. At first glance, it looks like the fund has outperformed the market.
But, if you factor in an additional 1.5% dividend yield (which TRI accounts for), the actual benchmark return becomes 8.5%. In that case, the mutual fund actually underperformed its benchmark by 0.5%.
This example illustrates the importance of using TRI in mutual fund comparisons. Without TRI, investors could be misled into thinking that a fund is outperforming when it’s not.
Benefits of the Total Return Index for Investors
- Accurate return measurement: TRI offers a complete picture by including both capital gains and income. This is especially useful for investors relying on dividend-paying stocks.
- Realistic benchmarking: It levels the playing field. Fund managers cannot claim outperformance unless their fund genuinely exceeds total returns of the benchmark.
- Better long-term evaluation: TRI gives a more realistic sense of how investments perform over extended periods—making it ideal for long-term goal planning like retirement or education.
- Informed investment decisions: With a more transparent benchmark, investors are better equipped to evaluate fund performance and make decisions aligned with their financial goals.
Total Return Index in Different Asset Classes
- Debt mutual funds: TRI accounts for interest payments received on bond instruments.
- Hybrid funds: Since these funds invest in both equity and debt, TRI captures both dividend and interest components.
- ETFs and index funds: These passively managed funds benefit from TRI as it reflects reinvested income, offering more accurate tracking.
Conclusion
The Total Return Index (TRI) has revolutionised the way mutual fund performance is measured in India. By accounting for both capital appreciation and reinvested dividends or interest, TRI gives a fuller, more accurate picture of returns. Thanks to SEBI’s mandate, investors can now make better, more informed comparisons across schemes.
If you’re serious about building wealth through mutual funds, understanding what is Total Return Index and how it differs from the Price Return Index is essential. It helps in aligning your investments with realistic expectations and choosing funds that truly add value over time.
FAQs
What is the Total Return Index (TRI) in mutual funds?
The Total Return Index (TRI) tracks both the price changes of stocks and any income earned from them, like dividends, giving a complete picture of investment returns.
How is TRI different from the Price Return Index (PRI)?
TRI includes dividends and interest, while PRI only reflects price movements. This makes TRI a more accurate benchmark for evaluating mutual fund performance.
Why did SEBI mandate the use of TRI for mutual funds?
SEBI made TRI mandatory in 2018 to improve transparency and help investors assess true fund performance, including the impact of reinvested income.
How does TRI affect mutual fund comparison?
TRI ensures fund performance is measured against the total market return, making it clear if a fund is genuinely outperforming or just keeping pace.
Is TRI used only in equity mutual funds?
No, TRI is also used in debt and hybrid funds, as it captures interest and dividend income, making it a useful benchmark across asset classes.
Is TRI useful for long-term investing?
Yes, TRI is highly beneficial for long-term investing as it reflects both price gains and reinvested income, offering a clearer view of a portfolio’s true historical performance.
