Challenging times for mutual funds

In recent years, India's mutual fund sector has registered rapid growth. From total assets under management(AUM) of Rs 6.14 lakh crore as on March 31, 2010, the sector expanded its asset base by three-and-a-halftimes in a span of just one decade to a whopping Rs 22.23 lakh crore as on March 31, 2020. The sector's growth accelerated from 2015. As consequence, its asset base more than doubled in the last five years from Rs 10.83 lakh crore in FY15.

This phenomenal growth coincided with the rise in India's stock markets during the Narendra Modi regime at the Centre, which began on May 26, 2014. There are three reasons for the phenomenal rise in MF portfolio in India. Firstly, investors who wanted to avoid risks associated with stock markets took the MF route to enjoy a pie of stock market growth. Secondly, investors who are not well-versed with stock markets have also invested in MFs. People seeking higher fixed returns also opted for mutual funds.

The third reason is systematic investment plans, popular as SIPs, which allow investors to make small investments at regular intervals. For uninitiated, mutual funds which collect funds from investors will in turn invest in equities, bonds, debt instruments, etc and distribute profits thus accrued among investors through dividends. Equity MF schemes which focus on equities come with some risks associated with stock markets while debt MFs that invest in bonds and debt instruments offer risk-free stable returns and more liquidity.

With economy in slow lane for the past couple of years, MF schemes have also lost their sheen in the last one year or so as net asset value (NAV) of units of several MF schemes has not appreciated on expected lines. Crisis in NBFCs also added to the woes of this sector as some funds invested in bonds offered by them. As if that is not enough, the sector suddenly landed in a deeper crisis amid Covid-19 pandemic now as Franklin Templeton, a major fund house, announced closer of six debt mutual funds earlier this week, citing liquidity issues in the wake of increased redemptions by customers.

These fixed income funds cumulatively manage assets worth Rs 26,000 crore. This unexpected development sent shock waves among mutual fund investors. However, it is the first sign of what is in store for the Indian economy and for financial markets in the country as the lockdown to contain Covid-19 is taking its toll.

Of course, Reserve Bank of India has stepped in and infused a liquidity lifeline of Rs 50,000 crore for the MF industry. The Central bank also signalled its willingness to funnel more funds if required. Further, MF industry body AMFI described the development as an isolated event and tried to reassure the investors by saying that majority of fixed income mutual funds had been invested in superior credit quality securities. But the fact of the matter is that majority of those invested in MFs are small investors.

With the lockdown impacting income streams of many people, redemptions from mutual funds will increase as time goes by. Therefore, it is challenging times for MF industry in India and it is to be seen how the sector will prevent repeat of Franklin Templeton episode.