FUND FULCRUM

September 2020

 

August 2020 turned out to be a better month for the Mutual Fund industry compared to June 2020 and July 2020. The month has witnessed an addition of 5 lakh new investors. Gross redemptions in the industry came down to Rs.5.71 lakh crore in August 2020 compared to Rs.9.54 lakh crore in June 2020 and Rs. 6.21 lakh crore in July 2020. The industry’s average AUM reached Rs.27.78 lakh crore in August 2020 compared to Rs.25.46 lakh crore in August 2019.

 

In August 2020, the mutual fund industry has added 4.65 lakh new investors. However, addition in new investors fell marginally from last month as the industry had added 5.64 lakh in July 2020. Mutual Fund industry has witnessed 17% growth in debt fund folios during April – August 2020 to reach 72 lakh in five months. Currently, the Mutual Fund industry has 9.26 crore folios and 2.12 crore unique investors. Total folio count has increased marginally in both T30 and B30 cities since March 2020. Overall, the total folio count in T30 and B30 has increased by 2% and 5% to 5.40 crore and 3.86 crore, respectively. B30 and T30 cities have seen healthy growth in direct plan folios. While the MF industry has added 60 lakh new folios under direct plan in B30 cities, it added 51 lakh direct plan folios in March 2020. Similarly, the industry has added 80 lakh folios in August 2020 compared to 72 lakh in March 2020 under direct plans. Industry has seen a marginal rise in regular plan folios in both T30 and B30 cities.

 

Overall, the MF industry manages Rs.22.91 lakh crore (83%) in T30 cities and Rs.4.58 lakh (17%) crore in B30 cities. AUM in B30 cities has risen by 29% to Rs.4.58 crore in August 2020 from Rs.3.55 crore in March 2020. Similarly, AUM in T30 cities has grown by 22% to Rs.22.91 crore from Rs.18.71 lakh crore in March 2020. Average AUM per folio of retail investors has increased 19% to Rs.1.58 lakh in August 2020. While average AUM per folio of retail investors in B30 cities has increased 20% from March 2020 to Rs.92,300 in August 2020, it has grown by 18% to Rs.2.04 lakh in T30 cities.

 

Recent AMFI data shows SIP inflows in debt funds has gone up. However, declining SIP inflows in equity schemes dragged down the overall numbers. The MF industry has witnessed an increase in the number of SIP accounts even as the inflows through SIPs has dried up over the past two months i.e. July 2020 and August 2020. Total number of active SIP accounts increased to 3.31 crore in August 2020 as against 3.27 crore in July 2020 and 3.23 crore in June 2020. Meanwhile, SIP inflows have slowed down to Rs 7,792 crore in August 2020 as against Rs 7,831 crore in July 2020 and Rs 7,917 crore in June 2020, according to AMFI data. This can be attributed to the rise in the number of accounts to online digital platforms that have cashed in on retail interest in mutual funds. As a result, many accounts with smaller ticket size have entered the Mutual Fund industry. On the other hand, many investors who were facing financial constraint due to coronavirus pandemic have paused their SIP contribution. Many salaried and small-scale businessmen have paused their SIPs because they are facing financial constraint during the pandemic and the slowdown. Most of the SIPs paused were in equity schemes. AMFI data shows that SIP inflows through equity schemes have gradually slowed down to Rs 6,656 crore in August 2020 from Rs 6,710 crore in July 2020 and Rs 6,798 crore in June 2020. Meanwhile, SIP inflows in debt schemes have increased recently but not enough to push the overall SIP inflows. SIP inflows in debt schemes have risen to Rs 214 crore in August 2020 from Rs 208 crore in July 2020 and Rs 193 crore in June 2020. This can be attributed to the ‘flight to safety’ trend, which has encouraged many investors to pull out money from their equity schemes and route it to safer short duration debt funds. Overall, SIP AUM increased to Rs3.36 lakh crore as at the end of August 2020 from Rs 3.01 lakh crore at the end of June 2020. The rise in SIP AUM was largely due to the mark to market gains following the recent rally.

                                                                                                                                                                                                                                       

Piquant Parade

 

Registrar and transfer agent CAMS issued its initial public offering (IPO) on September 21, 2020 and closed on September 23, with a price band of Rs.1229-1230 per equity share. The company will float 1.82 crore equity shares. Of these shares, the company has reserved 35% of net IPO offerings for retail individual investors. The company has capital sponsorship from Great Terrain (an affiliate of Warburg Pincus), HDFC Limited, HDFC Bank and NSE Investments. Kotak Mahindra Capital, HDFC Bank, ICICI Securities and Nomura Financial Advisory and Securities (India) are the lead managers to the issue.

 

Axis Mutual Fund has enabled mutual fund transactions through WhatsApp for investors. Investors need to save Axis Mutual Fund’s WhatsApp number 7506771113 and send a simple ‘Hi’ from their registered mobile number to start the conversation. Investors can use WhatsApp to invest in any schemes of Axis MF either via SIPs or through lumpsum. Registered investors can find more information about the scheme that they are interested in. The entire process will take just a few minutes. Further, the WhatsApp service will enable investors to check the NAV, portfolio valuations and generate account statement. In addition, investors can use this number to raise a query or file a complaint with the fund house.

 

Tata Mutual Fund has launched video KYC facility through which the distributor can do a completely paperless onboarding of a new client. To avail this facility, the distributor will have to upload KYC documents of his clients like PAN card, address proof, photograph, a cancelled cheque and signatures on AMC website. Once he uploads these documents, his clients are required to start real-time video recording using the front camera on their smartphone or computer and read aloud the dynamic OTP displayed on the screen. On successful completion of this process, the AMC personnel will verify them and the investor will receive an intimation to initiate investments.

 

Regulatory Rigmarole

 

SEBI has asked mutual funds to disclose details of debt and money market securities transactions, including inter-scheme transfers, on a daily basis with a time lag of 15 days. Earlier, fund houses were required to disclose such transactions with a time lag of 30 days. Further, SEBI has prescribed a new format for such disclosures. In this format, fund houses will have to mention the name of the security, type of security, most conservative rating of security at the time of transaction, name of the rating agency and transaction type. Moreover, the listed status of security, scheme name, type of scheme, residual days to final maturity, deemed maturity date, quantity traded, face value per unit and value of such trade are among the details that need to be disclosed by fund houses. The revised disclosure requirements pertaining to debt and money market securities transactions in MFs is another measure by SEBI to further enhance transparency in debt funds. After the Franklin Templeton episode, many fund houses faced redemption pressure in their credit risk funds. In such a situation, some fund houses identified and transferred some of the illiquid debt paper from credit risk funds to other funds within the same asset management company (AMC). With the current disclosure norms, investors will be able to get to know these details in advance and can assess if they are holding higher risk than they desire. The new framework will come into effect from October 1, 2020.

 

Fund houses can now create segregated portfolio through side pocketing in debt funds having exposure to high rated companies opting for debt restructuring due to covid-19. Earlier, fund houses were allowed to create side pocketing in debt schemes only in case of a credit event, which includes downgrade to below investment grade and subsequent downgrades in credit rating by the SEBI registered Credit Rating Agency. However, fund houses can do side pocketing only if one of the higher-rated companies opts for debt restructuring. Segregating such securities that go for restructuring would give fund houses some comfort. Currently, fund managers have to sell these securities at a steep discount. Instead, they can create side pocketing in the troubled scheme and ensure that only those investors who were invested in the fund before the announcement of the debt restructuring plan get the benefit from the recovery. The modification to side pocketing rules comes into effect immediately and will remain in force until December 31, 2020.

 

Nominee or legal heir of a deceased MFD (Mutual Fund Distributor) will have to obtain ARN (AMFI Registration Number) within six months to continue to get trail income. Simply put, AMFI gives six months to nominee or legal heir of a deceased mutual fund distributor to obtain ARN to get trail commission. If a nominee or legal heir decides not to obtain ARN, AMCs will transfer the assets of deceased ARN holder to other distributors or direct plans. There was confusion among industry players about what happens if a nominee or legal heir decides not to obtain ARN. Before August 1, 2020, nominee or legal heir of deceased MFDs used to receive trail commission on assets built before death of an ARN holder for lifetime. In order to transfer AUM of a deceased MF distributor to the ARN of nominee or legal heir, the ARN of deceased distributor has to be valid on the date of demise and his trail commission not suspended. In addition, the nominee or legal heir must have a valid ARN and be KYD compliant as on the date of request of such a transfer. The new distributor will have to submit his annual declaration of self-certification (where applicable) due as on the date of request of transfer of AUM.

The other key points include

·         Only valid assets can be transferred to the legal heir or nominee

·         The new distributor has to submit an application for cancellation of ARN of deceased distributor to CAMS-AMFI unit within 6 months of date of demise. CAMS will send a confirmation to the new distribution on receipt of such requests

·         CAMS will have to cancel the ARN and intimate all AMCs and RTAs

·         The new distributors will have to individually approach all empaneled AMCs and make an application for transfer of assets to his ARN

·         The new distributors will have to intimate all clients of change in ARN through letter or email. He will have to highlight that if the clients have any objection for the change in distributor code, they must write to the respective AMCs directly

·         The transfer application must have reason for transfer supported by evidence and certification that letters/emails have been sent to all existing clients intimating them of change of distributor. You will have to attach a sample of such communication along with a list of clients with PAN and folio numbers

·         There will be no need to accept written consent from clients on such transfers

·         AMCs will have to effect changes to ARN after cooling period of 15 days. In case of any objection, AMCs can hold such a transfer

 

SEBI has tweaked exposure norms in multi cap funds – the second largest category in the equity funds after large cap funds. In a circular, the market regulator has asked fund houses to invest at least 75% of the total corpus across market capitalization with at least 25% exposure each to large cap, mid cap and small cap stocks. SEBI has directed fund houses to align their existing portfolio within one from date of publication of the next list of stocks by AMFI. Since AMFI will be publishing its next list in January 2021, fund houses can rebalance their existing portfolio by February 2021. AMFI in consultation with SEBI and the exchanges (NSE and BSE) publishes a list of stocks on a half-yearly basis. After the release of this list, fund houses have a month’s time to rebalance their portfolio. Currently, many fund houses run a diversified portfolio in multi cap funds with large cap bias or mid and small cap bias. In addition, fund managers frequently rebalance portfolio depending on market situation in multi cap funds.

 

From January 1, 2021, purchases of units in a mutual fund scheme below Rs 2 lakh will get NAV on the day that money reaches the fund house, not on the day investors place the order, according to a SEBI circular. However, the regulation will not be applicable to liquid and overnight funds. "It has been decided that in respect of purchase of units of mutual fund schemes (except liquid and overnight schemes), closing NAV of the day shall be applicable on which the funds are available for utilization irrespective of the size and time of receipt of such application. The existing provision on NAV applicability for liquid and overnight funds and cut-off timings for all schemes shall remain unchanged," SEBI said in the circular. Further, the market regulator said that AMCs will have to put in place a written down policy which among other things detail the specific activities, role and responsibilities of various teams engaged in fund management, dealing, compliance, risk management, back-office, etc., with regard to order placement, execution of order, trade allocation amongst various schemes and other related matters. For orders pertaining to equity and equity related instruments, AMCs will now have to use an automated Order Management System (OMS), wherein the orders for equity and equity related instruments of each scheme will be placed by the fund managers of the respective schemes. In case a fund manager is managing multiple schemes, the fund managers have to necessarily place scheme wise order. All regulatory limits and allocation limits as specified in SID has to be in-built in the OMS to ensure that orders in breach of such limits are not accepted by the OMS. AMCs may further place soft limits for internal control and risk management based on their internal policy. Further, any change in limits specified in OMS shall be subject to the approval of Compliance and Risk Officer. All orders of fund managers will be received by dedicated dealers responsible for order placement and execution. The internal policy of AMC may also provide certain scenarios within the regulatory limits, wherein, prior approval of Compliance or Risk Officer would be required through OMS before the order is received by the dealer.

 

Further, the market regulator has placed certain restrictions on the conduct in the dealing room.

·         All conversations of the dealer will be only through the dedicated recorded telephone lines

·         No mobile phones or any other communication devices other than the recorded telephone lines will be allowed inside the dealing room

·         Restricted access to internet facilities on computers and other devices inside the dealing room. It shall be used for activities related to trade execution only

·         No sharing of information by dealer through any mode, except for trade execution under the approved internal policy".

 

SEBI has increased the proposed cap on fixed fee for registered investment advisers (RIAs) from Rs.75,000 to Rs.1.25 lakh per annum per family. The market regulator has also allowed RIAs to follow percentage on AUA model where they can charge up to 2.5% on AUA irrespective of asset class from a family. However, RIAs may have to demonstrate AUM with supporting documents like demat statements, unit statements and so on. In addition, the rate of fees is applicable at family level. This means, RIAs can charge either Rs.1.25 lakh per family or 2.5% of AUA per family. Family includes individual, spouse, dependent children and dependent parents. RIAs can follow any one model on an annual basis. Also, RIAs can charge fee only after 12 months of advisory services. In addition, RIAs can charge advance fee for up to 2 quarters with an option of refund if investment advisory service is discontinued. RIAs can retain fee of up to one quarter from clients in case of termination of contract. 

Here are some other key changes to RIA regulations.

·         Existing clients cannot avail distribution services offered by the corporate RIAs and vice versa

·         New clients will have to decide if they want advisory services or execution services from their RIA

·         Client will be segregated at PAN level

·         Individual RIAs are not allowed to offer execution services to their clients

·         Have to recommend direct plans only to fee based clients wherever available. This means, even if a product class does not offer direct plan, RIAs will have to ensure that they do not make any money out of it

·         Non-individual RIAs i.e. advisory firm/ company can offer both – advisory and distribution depending on their clients

·         RIAs will have to enter into a formal agreement with clients before offering any services

·         Net worth requirement for individual RIAs and non-individual RIAs is Rs.5 lakh and Rs.50 lakh, respectively

·         Individual RIAs or principal officer of advisory firm/company should have minimum qualification of post-graduation in relevant subject and 5 years of experience in relevant field. Existing RIAs will also have to meet this eligibility criteria to continue their advisory business

·         Such criteria are relaxed for RIA employees to having 2 years of relevant experience, post graduate and NISM qualification. Existing RIAs who are 50 years of age and above are exempted from complying with revised rules

·         Individual RIAs having more than 150 clients have to compulsorily re-register as corporate. This means, they will have to increase their net worth from Rs.5 lakh to Rs.50 lakh

·         Existing RIAs will have to apply for corporate RIA license latest by April 01, 2021. In addition, RIAs having over 150 clients will have to report this to SEBI latest by October 15, 2020

·         RIAs will have to maintain records of interactions with clients in physical or electronic form. Such records have to be maintained for at least 5 years

·         RIAs will have to get their business and accounts audited half yearly

·         RIA website should contain complete name of investment advisor, type of registration (individual or non-individual), registration number, complete address with contact details and corresponding SEBI regional office address

·         Mutual fund distributors are no longer allowed to use nomenclature like ‘independent financial advisers’ (IFAs) and ‘wealth managers’ without registering with SEBI as RIA

 

The Securities and Exchange Board of India (SEBI) is planning another set of reforms, where it might revamp the mutual fund (MF) risk-o-meter. The market regulator will expand MF risk-o-meter to include a "Very High" risk category. The five existing categories of MFs are - low, moderately low, moderate, moderately high and high. The proposal comes shortly after SEBI on September 13, 2020 modified norms on asset allocation by multi-cap funds. The risk in equity funds will be assessed on the basis of three parameters - market capitalisation, volatility, and impact cost. Equity funds will be reclassified into the high and high risk categories. All credit risk funds will be moved to the new very high risk category. Credit risk funds will be judged on the basis of quality, duration, and liquidity of bonds. The new risk classification will be scheme-specific, and not category specific. Asset management companies (AMCs) will be required an annual timeline of how the risk has evolved in each fund. Any change in a scheme's underlying assets should reflect in the scheme's risk classification.

 

While the MF industry has grown at an outstanding pace over the last few years reflecting the confidence of investors in mutual funds, there is a need to continue upholding this confidence for the benefit of the industry and the investors. Protecting the interest of investors is the primary duty of mutual funds and thus all decisions that funds take on behalf of investors should be taken keeping in mind the best interest of the investors. Fund houses need to practice prudent risk management. Fund houses should keep their scheme portfolios true to their label. He said if a scheme portfolio is not true to its label, it might be giving very different risk return exposure to the unit holders of the scheme than what they have signed up for. SEBI norms for categorization of mutual fund schemes have two objectives – the scheme portfolio should reflect the name of the scheme; and that the scheme performance can be compared against an appropriate benchmark. Summing up, the three mantras for mutual fund houses are - protect interest of investors, follow prudent risk management process and remain true to label. 

 NFONEST

September 2020

After a lone New Fund Offer (NFO) made its appearance in June 2020, July 2020 and August 2020 had just two NFOs open in view of the ongoing COVID-19 pandemic. In September 2020, there has been a tremendous improvement in the situation with five NFOs open at present.   

SBI Magnum Children’s Benefit Fund – Investment Plan

Opens: September 8, 2020

Closes: September 22, 2020

SBI Mutual Fund has launched SBI Magnum Children’s Benefit Fund – Investment Plan, a solution oriented open-ended predominantly debt-oriented fund to enable parents to invest for future education and career of their children. The scheme has a lock-in for at least five years or till the child attains the age of majority whichever is earlier. This scheme will predominantly invest in equity and equity-related instruments including equity ETFs with a minimum of 65% going up to 100%, debt including debt ETFs and money market instruments up to a maximum of 35%, Reits and InvITs up to 10% and up to 20% in gold ETFs. The fund will be benchmarked against CRISIL Hybrid 35+65 -Aggressive Index. The fund managers are Mr. R Srinivasan, Mr. Dinesh Ahuja and Mr. Mohit Jain.

Invesco India Focused 20 Equity Fund

Opens: September 9, 2020

Closes: September 23, 2020

Invesco Mutual Fund has launched Invesco India Focused 20 Equity Fund, an open-ended equity scheme investing in a maximum 20 stocks across market capitalization. A large portion of the portfolio will be invested in large-cap stocks i.e. between 50% - 70%, 30% to 50% in mid cap stocks and 0-20% in small cap stocks. Taher Badshah, who has over 26 years of experience in the Indian equity markets, will manage the fund. The scheme will benchmark its performance to S&P BSE 500 TRI. BSE 500 is a stock market index with the Bombay Stock Exchange. It has stocks of 500 companies listed under it. Since it has the top 500 companies listed with the BSE, the exchange claims that this index covers all major industries in the country.

HSBC Corporate Bond Fund

Opens: September 14, 2020

Closes: September 28, 2020

HSBC Mutual Fund has launched HSBC Corporate Bond Fund – an open ended debt scheme that will predominantly invest in AA+ and above rated corporate bonds. The scheme aims to deliver better risk adjusted returns with a high credit quality portfolio of debt securities across maturities. The product is suitable for investors who are seeking income over medium term by investing predominantly in corporate bond securities rated AA+ and above. The fund will be benchmarked against NIFTY Corporate Bond Index and managed by Ritesh Jain, SVP and Head of Fixed Income, HSBC MF.

Sundaram Bluechip Fund

Opens: September 17, 2020

Closes: September 30, 2020

Sundaram Mutual Fund has launched Sundaram Bluechip Fund, an open-ended equity scheme that will predominantly invest in large cap bluechip stocks. The scheme will invest in a diversified large cap portfolio of 45-50 growth and value stocks without any sectoral bias. The fund will invest up to 20% of assets in midcaps. The fund will be benchmarked against NIFTY 100 TRI Index. The fund managers are Mr. Rahul Baijal and S Krishnakumar for equity, Mr. Dwijendra Srivastava for fixed income and Mr. Rohit Seksaria for investments in overseas securities.

ICICI Prudential ESG Fund

Opens: September 21, 2020

Closes: October 5, 2020

ICICI Prudential Mutual Fund has launched ICICI Prudential ESG Fund, an open-ended equity scheme which encourages sustainable investing, by investing in companies which follow environmental, social and governance (ESG) theme. ESG focused companies show better growth and demonstrate better resilience in downturns. ICICI Prudential ESG Fund addresses the growing need of responsible investing and allows investors to benefit from investing in companies which are able to maintain suitable ESG scores. The Scheme will be managed by Mrinal Singh, Deputy CIO- Equities and the benchmark is Nifty 100 ESG Index TRI.

PGIM India Balanced Advantage Fund and UTI Momentum Index Fund are expected to be launched in the coming months.

 

GEM GAZE

September 2020

The consistent performance of all four funds in the December 2019 GEMGAZE is reflected in the four funds holding on to their esteemed position of GEM in the September2020 GEMGAZE.

Birla Sun Life Banking and PSU Debt Fund (erstwhile Birla Sunlife Treasury Optimiser Fund) Gem

Birla Sun Life Banking and PSU Debt Fund was launched more than a decade ago in April 2008. The current AUM of the fund is Rs. 13,519 crore. Its return in the past one year is 10%, a tad higher than the category average of 9.4%. The number of holdings in the fund’s portfolio is 222 with an average yield to maturity at 5.51%. The expense ratio of the fund is fairly low at 0.68%. The fund is benchmarked against the NIFTY Banking and PSU Debt TRI. The fund is managed by Mr. Kaustubh Gupta since September 2009 and Pranay Sinha since August 2020.

Kotak Dynamic Bond Fund (erstwhile Kotak Flexi Debt Fund) Gem

Kotak Dynamic Bond Fund, launched in May 2008, manages assets worth Rs. 1632 crore. The one-year return of the fund is 10.37% as against the category average of 8.1%. The expense ratio is 1.08%. The fund has 28 holdings with the yield to maturity of 6.61%. The fund is benchmarked against the NIFTY Composite Debt TRI. The fund manager is Mr. Deepak Agrawal since May 2008.

SBI Magnum Gilt Fund (erstwhile SBI Magnum Gilt Fund - Long term Plan) Gem 

Launched in December 2000, the fund has an AUM of Rs 3,838 crore. The one-year return of the fund is 10.67% as against the category average of 9.47%. The fund has outperformed its benchmark over three, five and ten-year timeframes. It has delivered a compounded annual return of 9.66% over the last five years. The fund is benchmarked against the CRISIL Dynamic Gilt TRI. The fund has 5 holdings with the yield to maturity of 6.41%. The expense ratio of the fund is 0.95%. Dinesh Ahuja has been the fund manager since January 2011.

Birla Sunlife Money Manager Fund (erstwhile Birla Sunlife Floating Rate Short term Fund) Gem

This relatively young fund, launched in October 2005, boasts of a massive AUM of Rs 9,969 crore.  In the past one year, this liquid fund has returned 7.25% as against the category average of 6.26%. The number of holdings in the fund’s portfolio is 74 with the average yield to maturity at 3.98%. The expense ratio is a mere 0.31%. The fund is benchmarked against the NIFTY Money Market Index. Kaustubh Gupta and Mohit Sharma are the fund managers since July 2011 and April 2017 respectively.

 

FUND FLAVOUR

September 2020

Steady wealth accumulation and capital appreciation

 

A debt fund is an investment instrument wherein the capital is invested primarily in fixed-income investments. These are predominantly treasury bills, government securities, corporate bonds and other similar money market instruments. Debt funds, alternatively known as fixed-income funds or credit funds, come under the fixed income asset category of mutual funds. The main objective of a debt fund is to accumulate wealth through interest income and steady appreciation of the capital invested. The underlying assets generate a fixed rate of interest throughout the tenure for which investors stay invested in the fund. The fund manager of a debt fund invests in the underlying assets based on their respective credit ratings.A higher credit rating indicates that debt security has a higher chance of paying interest regularly along with the repayment of the principal upon expiry of the investment tenure. However, debt funds also invest in low-quality debt securities. Fund managers choose securities based on several other factors too. Sometimes, they choose low-quality debt securities because those might earn higher returns later. There is no reason to worry because the best fund manager always takes a calculated risk. But, debt funds that have high-quality securities in their portfolio are more stable. Apart from that, the fund manager aligns his investment strategy in accordance with the overall interest rate movements.

The modalities…

 

Debt funds aim to generate returns for investors by investing their money in avenues like bonds and other fixed-income securities. This means that these funds buy the bonds and earn interest income on the money. The yields that mutual fund investors receive are based on this. This is similar to how a Fixed Deposit (FD) works. When you deposit in your bank, you are technically lending money to the bank. In return, the bank offers interest income on the money lent. However, there are many more nuances to debt fund investments. For example, a particular debt fund can buy only specific securities of specific maturity ranges - a gilt fund can buy only government bonds while a liquid fund can buy securities of maturity upto 91 days. Debt funds do not offer assured returns but have market linked returns which can fluctuate. Rising interest rates can have a positive impact on yields / interest income but a negative impact on bond prices. The reverse is true when interest rates fall. You need to match your investment horizon with the average maturity of your fund securities. Average maturity is the weighted average of all of the current maturities of the debt securities your portfolio holds. It gives you an idea about the mean age of every debt security in your fund portfolio. The higher the average maturity of a debt fund, the longer it takes for each security to mature and vice-versa. The average maturity keeps varying and has an important impact on the fund’s overall returns and risk associated. In a nutshell, longer average maturity is equivalent to the higher risk associated with the fund and higher volatility too, and vice versa.

Multifarious Funds…

Debt Funds of various hues are discussed below:

1.  Liquid Fund

Liquid Fund is a type of fund that invests in money market instruments that have a maturity period of 91 days. Liquid Funds, generally offer better returns (7% to 9%) when compared to bank savings account. So, these are a good alternative if you want to stay invested in the short term.

2.  Money Market Fund

Money Market Funds invest in money market instruments that have a maximum maturity period of 1 year. These are good for those investors who wish to stay invested for the short term and have a low-risk tolerance.

3.  Dynamic Bond Fund

These invest in debt securities with varying maturity periods as per the interest rate regime. These are good for investors having moderate risk tolerance and for those who want to stay invested for about 3 to 5 years.

4.  Corporate Bond Fund

Corporate Bond Funds invest a minimum of 80% of their total assets in corporate bonds that have the highest ratings. These are ideal for investors whose risk tolerance is low but who wish to invest in comparatively high-quality corporate bonds.

5.  Banking and PSU Fund

Banking and PSU Funds, as the name suggests, invest at least 80% of their portfolios in debt securities of PSUs (Public Sector Undertakings) and banking institutions.

6.  Gilt Fund

These invest at least 65% of their portfolios in government bonds with high ratings. So, these funds offer best returns of the highest quality bonds.

7.  Credit Risk Fund

Credit Risk Funds invest a minimum of 65% of its portfolio in corporate bonds that have their ratings below the highest-rated corporate bonds. So, these funds do have credit risk associated with them but offer slightly better returns when compared to the highest quality bonds.

8.  Floater Fund

These invest a minimum of 65% of its investible corpus in floating-rate investments. Floater funds have a low interest-rate risk associated.

9.  Overnight Fund

As the name suggests, Overnight Funds invest in debt securities with a maturity period of 1 day. Such funds are very safe to invest in as both credit risk and interest rate risk associated with them is minimal to negligible.

10. Ultra-Short Duration Fund

This fund invests in money market instruments and debt securities in such a manner that the Macaulay duration of the fund is from 3 to 6 months.

11. Low Duration Fund

Low duration debt funds invest in money market instruments and debt securities in such a manner that the Macaulay duration of the fund is from 6 to 12 months.

12. Short Duration Fund

Short-term debt mutual funds invest in debt securities and other money market instruments in such a manner that the Macaulay duration of this fund is from 1 to 3 years.

13. Medium Duration Fund

Medium duration funds invest in debt securities and other money market instruments in such a way that their Macaulay duration ranges from 3 to 4 years.

14. Medium to Long Duration Fund

This type of fund invests in money market instruments and debt securities in such a manner that the Macaulay duration of this fund is from 4 to 7 years.

15. Long Duration Fund

The long term debt funds invest in money market instruments and debt securities in such a manner that the Macaulay duration is more than 7 years.

16. Fixed Maurity Plans

Fixed Maturity Plans or FMPs come with a lock-in period. This period can vary based on the scheme you choose. You can invest in FMPs only during the initial offer period. After that, you cannot make further investments in this scheme. Many investors consider FMPs similar to FDs because both come with a lock-in period. However, unlike FDs, FMPs do not promise fixed returns. However, FMPs are more tax efficient than FDs.

17. Income Funds

Income Funds invest in corporate bonds, government bonds and money market instruments. Due to exposure to corporate debt, they carry credit risk and hence need to be monitored regularly. Income funds work best when interest rates have peaked in the market and are expected to go down.

18. Monthly Income Plans

Monthly Income Plans (MIPs) are a class of debt funds which also have a small exposure to equity. This not only adds to the risk but also enhances returns due to equity exposure. MIP exposure must be for a longer period of time.

The rewards and…

Stability

While debt funds do carry risk, they tend to be less volatile in terms of value compared to equity funds.

Diversification:

Debt Funds also give you the advantage of diversification which is instrumental in reducing the risk. That is done by spreading your money across a range of interest bearing instruments like Treasury Bills, Government Securities, Corporate Bonds, Money Market Instruments etc.

Liquidity:

Debt funds are highly liquid as you can redeem them at any time; either offline or even online on the internet. Debt fund redemptions typically get credited to your bank account the next day so they are as good as near-money. As an investor in debt funds there are no restrictions on withdrawal. Even closed ended funds are listed.

Tax Efficiency:

For taxation purposes, all mutual funds with investments lower than 65% in equity instruments are considered debt funds. Short-term capital gains of less than 36 months are taxed corresponding to the investor’s income tax slab. A tax rate of 20% is levied on long-term capital gains above 36 months after indexation. Dividends on debt funds are tax-free in the hands of the investor but are subject to Dividend Distribution Tax (DDT) of 29.12%. A more efficient way is to hold it for more than 3 years so that it becomes LTCG and is taxed at 20% with benefits of indexation.

Guaranteed or safest returns with debt funds:

Debt funds invest mainly in securities that give fixed interest returns. Still, there is a remote probability that the debt fund would not perform as expected. However, this possibility is extremely low and happens only when the investment has been made in low credit-rated securities, or the interest rate movement is in the negative range.

You can safely place your idle money in debt funds 

Overnight funds or liquid funds also fall under the debt funds, and these have continuously delivered optimal returns over the years when the investment made is of short term. These have high liquidity and are perfectly safe for parking your idle money. In addition, as these have high liquidity, you can easily redeem the units whenever you want to.

Better returns

Debt funds provide better returns when compared to the returns provided by the traditional saving methods like Bank Fixed Deposits or Savings Accounts. Savings Accounts deliver an interest rate of 3% to 5% on an average but debt funds, especially liquid funds have an average return rate of 7%.

Diversified Portfolio

Try to invest in such a debt fund that has a proper allocation to various money market instruments and does not focus on only one debt security.

…risks

 

Debt funds have 3 types of risks associated with them.

 

1.      Credit Risk: This is the default risk associated with debt funds which involve the issuer not repaying the principal amount and the associated interest. Credit Rating Agencies like CRISIL and ICRA would look at the financial and past history of a company and assess its debt repayment capability. And then a rating is given to show this capability. AAA is the highest rating that shows that the company is almost certain to pay its debt and therefore has a lower credit risk. The next is AA, which points towards lower certainty. Hence, it has a slightly higher credit risk. Similarly, this rating is up to D. D is given when a company has not repaid its loan or it seems that it will not be able to repay the loan. The best way to avoid this kind of risk is that you invest in debt funds that consistently perform or its rating is AA/ AAA only.

Interest Rate Risk: This is the type of risk that happens due to the effect of changing interest rates on the value of the fund’s securities. Whenever interest rates fall or people think that interest rates are going to fall, high demand increases the bond price. This is understood from an example - suppose a debt fund holds a bond which gives 10% annual interest rate. Now if interest rates fall in the economy, then any new bond coming into the market will give a lower interest rate like 9%. This will increase the demand for old bonds which are paying higher interest rates. Due to this, price of the bond and NAV of the debt fund holding it also increases and vice versa.

 Liquidity Risk: This type of risk is of the fund house and happens when it does not have adequate liquidity to meet the current redemption requests.

Appraisal and…

 

The following points will help you in choosing the top debt funds in India:

1.  Investment Goal:

If your investment objective is set clear in your mind, then you will be able to narrow down the debt fund categories accordingly. Your investment objective could be anything like parking surplus money, finding a better alternative to bank FDs, a short-term goal, generating a secondary income source, etc.

2.  Investment horizon

Make sure to check the investment horizon while shortlisting debt funds. This will help you in minimizing the interest risk rate.

3.  Credit Quality

Stick to debt mutual fund schemes with high credit quality papers and high ratings. This way the credit risk associated with your debt fund will be decreased.

4.  Fund Size

If you want to decrease the concentration risk associated with your debt fund, then ensure that you invest in a fund with a large AUM. Besides, this will also protect you from redemption pressures. The top debt mutual funds come from fund houses having huge fund sizes.

5.  Expense Ratio

Pick a fund with a relatively lower expense ratio. That ensures better returns.

6.  History of debt fund

You can compare past performances of the funds. But, keep in mind that past performance might not be repeated in the future. The best performing debt funds change every year.

7.  Risk appetite

Debt funds do have some risk associated and are not entirely risk-free. So, analyze the debt fund’s performance and portfolio allocation properly to get to know about the risk associated with it.

8.  Exit Load

Some debt funds do charge an exit load to discourage premature withdrawal from the fund. Take this point into consideration and try to pick a fund with zero exit load.

…appeal

 

Debt funds can appeal to different classes of investors; both retail and institutional. Let us look at some of the classes of investors who should be investing in debt funds.

·         Individual investors must invest in debt funds as part of their financial plan. The financial plan lays out goals in terms of their size and maturity and debt funds add stability and regular income to your financial plan.

·         Investors looking to pay short term assured outflows over the next 2-3 years can also look at investing in debt funds. For example, if you need to pay home loan margin after 3 years or your daughter’s admission fees after 2 years then debt funds would be the best.

·         For retired investors seeking regular income in a predictable manner, debt funds can be very useful. Normally, debt funds do not run the risk of volatility to the extent of equities and hence most retired pensioners must look at debt funds for regular income as returns are also higher than bank deposits.

·         Corporates can park their temporary surpluses of the business in a debt fund instead of a bank. The debt funds pay a higher yield compared to the bank deposits and thus it puts idle money to much better use.

·         High Net worth investors (HNIs) and traders can also look to invest in debt funds as a means of capitalizing on key macro shifts. For example, an aggressive investor can buy long duration gilt funds when rates are expected to go down in the market. Similarly, if the view is of a rise in interest rates, then traders can look to investing in floaters.

·         Debt funds can be a good way of parking idle funds profitably, when you are waiting for good opportunities to invest in equities.

Every crisis leaves its mark…

 

The credit crisis which engulfed debt funds over the past two years, starting with ILFS Group default, has been exacerbated by the black swan event of COVID-related lockdown in several parts of the country over the past few months. A very positive outcome of this crisis has been several significant regulatory changes for debt funds – be it on investment or valuation or market related. Investors should be aware of these tighter, clearer and safer norms and take these additional points into consideration before investing.

Segregation: One of the key distress points for investors was that when a steep credit event happened and there was a significant valuation hit, the funds did not have an option to provide exit to investors while ensuring they do not miss out on recovery. SEBI guidelines now enable funds to provide segregation as an option. If this option is enabled on the debt fund you invest in, then the AMC may decide to segregate the downgraded exposure from the rest of the portfolio. In such an eventuality, you can exit from the balance exposure while continuing to have a claim (ownership) on the segregated units and any future recovery would accrue to you as an investor at the time of the event. The condition is the downgrade should be to below investment grade or default. So, do check if the debt fund you invest in has an option for segregation.

Safety of liquid funds: There have been significant changes to investment guidelines around liquid funds. These funds now need to mandatorily hold 20% of their assets as liquid assets defined as cash and cash equivalents and government securities like T bills. Liquid funds also need to have a graded exit load up to 7 days. The load is uniform across all mutual funds. This has reduced a lot of hot/volatile money coming into these funds for very short period like one or two days.

Change in valuation guidelines and the haircut matrix: Earlier there was no uniformity on valuation norms for any default or downgraded (below investment grade) debt security. AMCs had to ensure fair valuation which could be interpreted differently by different AMCs. Now AMFI has prescribed a standard haircut matrix which is followed by the valuation agencies and has made the valuation more predictable. Investors and their advisors can now understand the valuation impact better. However, AMCs still can do their own fair valuation if they disagree with this valuation. The Valuation policy of every AMC is mandatorily uploaded and available on their website. This can be reviewed if required.

Detailed disclosures of portfolio: A recent SEBI guideline now makes it mandatory for mutual funds to declare their full debt portfolio on a fortnightly basis on their website versus earlier requirement of monthly basis. This gives more clarity on how funds manage their portfolios intra-month. Not only this, now AMCs will have to declare the yield at which each security in the portfolio is valued. Earlier, only Portfolio Yield (also called YTM) was declared. This gives more information security wise and helps in attribution (understanding how the fund is generating their returns).

Tighter investment norms: These include tighter sector limits, restriction on investment in unlisted commercial paper or corporate debt and tight limits of investment in structured and credit enhanced debt. A minimum criterion has been prescribed for equity share cover for LAS (Loan Against Share) NCD structures at four times.

Daily disclosure of transactions: The Securities and Exchange Board of India's revised disclosure requirements for debt mutual funds will increase transparency and help investors to take better exit calls. The move will offer investors a real time understanding of the portfolio. The new regulation will be effective from October 1, 2020. The regulator has asked mutual funds to disclose details of debt and money market securities transacted in their schemes’ portfolio, including inter-scheme transfers, on a daily basis with a time lag of 15 days in a prescribed format. "Many schemes have lower grade or quality securities between second or third day of the month till 28-30th day and always have a cleaner portfolio during month beginning and end. For slightly higher return, clients are taking risk without being aware of quality of the portfolio because at the time of disclosure, the portfolios are clean. This new rule will make things tight and transparent"

 

All these norms are expected to make debt funds less risky.

 

Every crisis leaves its mark. Investors should continue to invest in debt funds in order to meet their financial goals in accordance with their risk appetite.

Prudent move - need of the hour

Given the current context, investors should stay invested only in AAA rated instruments. Investors should invest in top quality instruments in the debt market such as government of India bonds, AAA rated blue-chip companies and PSU bonds to preserve their capital. In the current economic scenario, following the above strategy will definitely lower volatility in their portfolio. Further, investors should choose funds with a portfolio duration that is longer than their investment horizon in the current timings of interest rate easing. This will help to manage the interest rate decline in favour of return on risk-return matrix. Further, they should stay invested in highly rated short-term funds with a holding period of two to three years. If your holding period is less than one year, it is better to look at instruments in the money market rather than the debt market. Investors must understand that the current investment landscape is novel coronavirus induced and as of now the prudent move is to preserve and protect their capital instead of focusing on returns.