Mutual Funds: Taking The Masses To The Markets

There are two very interesting observations about mutual funds made by American writer, journalist, historian and biographer Ronald Chernow. According to Chernow, “Mutual funds give people the sense that they’re investing with the big boys and that they’re really not at a disadvantage entering the stock market”. But there was also a counter view that he held about mutual fund investing, where he said, “Those who invest in mutual funds want someone else to do the thinking for them. But the fact that they can move the money around the family of mutual funds just through a phone call lets them feel that they can play tycoons”. 

While the first observation provides a true perspective on why mutual funds as an asset class are a good vehicle for investors (particularly retail investors), the second tells you how investors have been disregarding the actual utility and potential of this product. The result of this, at least in the Indian context, seems absolutely clear. Neither has the industry been able to grow as it could have, nor have investors been able to make the best of mutual fund investing.

Industry players, however, have a different take on this. Nimesh Shah, Managing Director & CEO, ICICI Prudential AMC is of the firm opinion that the funds industry, the way it is, is in a very good shape today. But Shah promptly caveats this by saying, “This probably might be a contra view from what you may be hearing in the market”.

Where The Industry Stands

The Indian mutual funds industry has matured a great deal from where it began its journey. Even if you consider the past 18 years since the industry was opened up to private players, the journey has been quite an interesting one. From newly emerging players to multiple market cycles, it has seen it all and yet survived the test of time. 

Shah explains that the principal reason behind this has been the strong product that is on offer combined with a good regulatory regime in place. He maintains, “When I say a strong product, what I mean is that it is a very good product for the final investor. Whether the middlemen including the AMCs or the distributors like it or not is a different issue, but as far as the customer is concerned, he is getting a very fair deal when he is buying a mutual fund”.

Jaideep Bhattacharya, Managing Director, Baroda Pioneer Mutual Fund adds his tuppence saying, “If you look at the fund management industry, essentially the idea is how it can cope with the volatility in the markets. We have seen two major events in the recent past. One was the Black Swan event that happened in 2008, and the other was one which we saw in the month of July this year. What we find is that the fund management industry has a better strategy to cope up with such situations now, as compared to what we have seen in the past. The situation has been handled in a much better way. The credit goes not only to the fund management industry, but also to the regulators, who have provided the required support in making the transition smooth”. 

A fair deal here means that the costs are minimal and the deals have a high degree of transparency. Investors today know exactly what they are paying for and what they are getting in return. The performance of the industry has been good enough. “If we are beating the benchmarks on a consistent basis, the industry is doing the job it has been given”, Shah opines. 

Today, the mutual funds industry stands at around Rs 850000 crore, which is an all-time high in terms of the Assets Under Management (AUM). What’s more, beyond equity it has been able to get money into duration products too. Business on the money market side has also been pretty good. 

The biggest strength of the industry right now is that the market risk has been completely passed on to the customer. One very interesting observation that Shah makes in this context is about the near-crisis situation seen in mid July that the industry stepped over with consummate deftness. Liquid funds gave negative returns for two days in the past quarter, but that was seamlessly passed on to the customer”, he says. Almost Rs 80000 crore was redeemed out of this industry in a span of just 15 days, yet there was no impact because it is extremely well regulated. The market risk and liquidity risk are taken care of. Functionally speaking, it is emerging as among the best asset classes today.
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What The Stats Say

In the 18 years of its existence, the mutual funds industry has managed to garner many more customers than the equity markets have seen in so many years. The statistics speak for themselves. As mentioned earlier, the industry manages funds to the tune of Rs 850000 crore. This is held in 4.28 crore folios across various types of schemes. 

Let’s narrow this down so as to make a meaningful comparison with direct equity participation. There are a total of 3.65 crore folios for schemes related to the equity markets. These broadly include investments in Equity-Oriented Schemes, Balanced Schemes, Gold ETFs and ETFs (other than gold). Now, contrast this with a total of 2.15 crore demat accounts held by investors in both the CDSL and the NSDL, the two main depositories. Clearly, the numbers look completely skewed in favour of the funds industry. Even if were to account for a 50 per cent margin for duplications, the funds industry still clearly stands out as compared to direct equity investments.

Where Are The Retail Investors & HNIs?

Almost 99 per cent of the folios that are presently a part of the mutual funds investment space belong to the retail and HNI class of investors. Over the last one year, three major areas where investors have been keenly investing include the Liquid & Money Market space, Gilts and Debt. HNI participation went up 79 per cent in the Gilt space, 36 per cent in the Debt space and 20 per cent in the Liquid & Money Market space. On the other hand, retail investors’ participation went up by as much as 97 per cent in the Gilt space, 14 per cent in the Debt space and three per cent in the Liquid & Money Market space. 

One interesting aspect has been the participation of both these classes of investors in Gold ETFs. While HNI participation has gone up by 10 per cent in this segment, retail investors have taken an even keener interest in Gold ETFs, with their participation up 20 per cent over the past one year. 

This shows the maturity of the Indian investors in putting their money where it would really grow. The interest rate cycle has been pretty much in favour of products other than equities. Surely, India cannot sustain such high levels of interest rates and if the rates go down, investors will make good money by investing in debt funds than by investing in bank FDs. So, it is not surprising that investors have been flocking to these segments.

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Invest In MFs When The Going Is Good?

This is probably the most natural conclusion one could draw from what has been discussed so far. But is it the whole truth? Shah differs, saying, “I will like to challenge the common notion that funds do well only in up trending markets and suffer the most when the markets go down”. According to him, any fund which can protect its downside better than trying to capture the upside will do better. 

For example, if the market falls 20 per cent and if a fund falls by say 15 per cent, then statistically speaking, that fund is much better placed to catch up and do better when the market goes up. So, in a way, it is completely the other way round. This especially holds true on a long-term basis.

The Way Forward For Investors

I nvestors get jittery in volatile markets. But should they really be worried? It is a given that economies and markets will go through ever-changing cycles. Remember that very famous statement by the legendary economist John Maynard Keynes – “The market can remain irrational longer than you can remain solvent”? To avoid getting stuck in such a situation, investors need to strictly follow some discipline when investing in mutual funds. 

The first thing to remember is that mutual funds are a long-term product. One has to select a fund house which will be able to sustain performance over a long period of time. Shah concurs with this thought. According to him, “Only sales and distribution based companies will not survive in the market. If you see the US or the European experience, only the investor- and investment-centric companies will survive in the market”. 

Fund houses, on their part, must remember that their job is to invest, not to sell. Sales will happen as a natural corollary. At times, much more aggressively than warranted. It is obvious that fund houses are running a business, not engaged in philanthropy. But it is amply clear that the only way to do this business and to do it well is to be completely investor-centric and of course, investment-centric.
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How Are Equities Faring?

The participation of HNIs in equities has dipped by five per cent over the past one year, while that of retail investors has come down by as much as 12 per cent. Even on the Balanced Funds side, while HNIs have seen a three per cent hike, retail participation is down by five per cent. This is probably because investors have seen a good amount of wealth erosion in equity funds. But the question here is, who is to blame for this? What is the underlying assumption in putting money into others’ hands? Obviously, better returns. But have mutual funds really delivered on investors’ expectations? 

According to Shah, mutual funds are a derivative product. They tend to fare as well as the main product does. What is the main product? The main product is this country. The second product is the equity market or the debt market. So, they fare as well or as badly as the country or the equity markets do. For some time now, the equity markets have not given good returns. How then will the mutual fund industry give returns, asks Shah.

The Fund House As Educator

There is an equally urgent need for the fund houses themselves to step into the role of educators so as to facilitate smoother and more profitable growth of the industry. Fund houses have been often seen talking more to the distributors of their products than to the investors. There is a need to change that approach. 

How does one ensure this? Shah says, “We have to engage with investors through the distributors and the media. We also try to touch base with the customers directly and communicate with them on a regular basis. We have huge investor education budgets with which we go around the whole country educating customers on what needs to be done. We also coach them on how to convert savings into investments. But this is not scalable. How many customers will a fund house be able to go and meet? Talking through distributors is more scalable, and talking through the media is the most scalable way of reaching out to the customer. We should be doing more of that”. 

As a media house which has been trying to bridge the divide between investors and providers of financial products and services, DSIJ has been doing this for over 27 years now. In fact, our experience with the Investor Awareness Programmes conducted by us throughout the country has been a big lesson on what investors want and how they perceive the financial markets and various products and services. 

We believe that the mutual funds industry is an integral part of the over-all financial market ecosystem. Shah remarks that, “The mutual fund industry today is a completely sanitised one, thanks to the good regulatory regime that we have. The changes that have come in have been excellent for the mutual fund industry and the investors.” Now, there is a pressing need to bring the investors closer to the realities associated with the expectations of returns from this asset class. Unless that happens, the real benefits of having such a vibrant industry will not percolate down to the last level.