Assignment -2

Project Appraisal

Mutual Funds

THE SECURITY AND EXCHANGE BOARD OF INDIA (Mutual Funds) REGULATIONS,1996 defines a mutual fund as " a fund establishment in the form of a trust to raise money through the sale of units to the public or a section of the public under one or more schemes for investing in securities, including money market instruments." A mutual fund is a company that pools the money of many investors (its shareholders) to invest in a variety of different securities. Investments may be in stocks, bonds, money market securities or some combination of these. Those securities are professionally managed on behalf of the shareholders, and each investor holds a pro rata share of the portfolio, entitled to any profits when the securities are sold, but subject to any losses in value as well. A mutual fund, by its very nature, is diversified -- its assets are invested in many different securities. Beyond that, there are different types of mutual funds with different objectives. An investor can earn income from the mutual funds in the following ways.

1) Dividends on stocks or interest from bonds.2) Capital gains in the form of sale of securities that have increased in price.3) Higher NAV (net asset value).

Players

The Indian Mutual Funds Industry has grown in size as well as in numbers in recent years which increased the participation of Asset management companies and investors. Mutual Funds have been an important source of investment in both government and corporate securities. It has been for the decades the monopoly of the state with UTI being the key player with invested funds exceeding Rs. 300 billion. The state owned insurance companies also hold a huge portfolio of stocks. Presently, numerous mutual funds exist including private, foreign companies and banks. Some of the AMCs (asset management companies) operating currently are:

The Present Indian Mutual Fund Industry – Key Characteristics

NAME OF THE AMC NATURE OF OWNERSHIP

Birla Sun Life Asset Management Company Limited

Private Indian

Alliance Capital Asset Management (I) Private Limited

Private foreign

Bank of Baroda Asset Management Company Limited

Banks

Bank of India Asset Management Company Limited

Banks

Can bank Investment Management Services Limited

Banks

Cholamandalam Cazenove Asset Management Company Limited

Private foreign

Dundee Asset Management Company Limited

Private foreign

DSP Merrill Lynch Asset Management Company Limited

Private foreign

Escorts Asset Management Limited Private IndianFirst India Asset Management Limited

Private Indian

GIC Asset Management Company Limited

Institutions

IDBI Investment Management Company Limited

Institutions

Indfund Management Limited BanksING Investment Asset Management Company Private Limited

Private foreign

J M Capital Management Limited Private IndianJardine Fleming (I) Asset Management Limited

Private foreign

NAME OF THE AMC NATURE OF OWNERSHIP

Kothari Pioneer Asset Management Company Limited

Private Indian

Jeevan Bima Sahayog Asset Management Company Limited

Institutions

Morgan Stanley Asset Management Company Private Limited

Private foreign

Punjab National Bank Asset Management Company Limited

Banks

Reliance Capital Asset Management Company Limited

Private Indian

State Bank of India Funds Management Limited

Banks

Shriram Asset Management Company Limited

Private Indian

Sun F and C Asset Management (I) Private Limited

Private foreign

Sundaram Newton Asset Management Company Limited

Private foreign

Tata Asset Management Company Limited

Private Indian

Credit Capital Asset Management Company Limited

Private Indian

Templeton Asset Management (India) Private Limited

Private foreign

Unit Trust of India InstitutionsZurich Asset Management Company (I) Limited

Private foreign

AUM Base and Growth Relative to the Share of Mutual Funds in Global Industry in 2010 Household Financial Savings

china

brazil

russi

ajap

anfra

nce usa uk

euro

peworld india

63

2111 10

4 4 2 3 4

29

CAGR%

CAGR%claims on

government

currencymutual funds

provident and pen-sion fund

insurance funds

bank deposits

Household financial sector savings

The above bar diagram shows India’s growth rate in mutual fund industry in comparison with the world whereas the above pie chart shows the portion of savings invested in the mutual fund industry in India.

CustomersThe Indian mutual fund industry has significantly high ownership from the institutional investors. With the passage of time corporate and institutional investors have grown in numbers whereas there has been a reduction in the growth of retail investors, NRIs and FIIs.

Products

Equity

Debt

Balanced fund

Liquid

3041

2214

Growth Rate (Five year CAGR) across Fund Categories % in 2009

Industry StructureThe Indian mutual fund industry currently consists of 38 players that have been given regulatory approval by SEBI. The industry has witnessed a shift that has changed drastically in favor of private sector players as the number of public sector layers reduced from 11 in 2001 to 5 in 2009.

OperationsThe Indian mutual fund industry while on a high growth path needs to address efficiency and customer centricity. AMCs have successfully been using outsourced service providers such as custodians, Registrar and Transfer Agents (R&T) and more recently, fund accountants, so that mutual funds can focus on core aspects of their business such as product development and distribution. Functions that have been outsourced are custody services, fund services, registrar and transfer services aimed at investor servicing and cash management. Managing costs and ensuring investor satisfaction continue to be the key goals for all mutual funds today.

Recent changes in mutual fund industry

The Indian mutual fund industry is in a relatively nascent stage in terms of its product offerings and tends to compete with products offered by the government providing fixed guaranteed returns. The different categories in which the mutual funds are invested in 2009 are shown in the right hand side.

Entry load banSEBI banned entry load (charge which is levied on investor when he/she buys any mutual fund from distributor companies) on mutual fund investments from 1st August 2009. This has hit the industry hard, as many independent financial advisors (IFAs) abandoned mutual fund schemes overnight and switched to selling unit-linked insurance plans (Ulips) from insurance companies because of the attractive commissions on them. The impact of this ban was on distributors’ commission which could be 25-30 basis points across the industry.

Loyalty Bonus-reworking of the entire business modelBecause of the ban of entry load the distributor’s commissions have reduced by 25-30 bps, so loyalty-based bonus programmes are going to be started for the distributors to encourage them to continue with fund distribution business and also to add more long-term investors to their customer base.

AMCs need to stay away from portfolio business SEBI calls for the clear demarcation to be drawn between the two different businesses. This is happening as SEBI wants that there should be no conflict of interest between the two businesses. Some of the leading AMCs in India provide both the services together. They do so for the sake on using the inbuilt infrastructure so that the costs are reduced. However, the main concern for SEBI is that the AMC will prioritize the portfolio business over the MF. This can happen mainly because the remuneration of the distributors is fixed on the basis of the services provided.

Challenges and issues

Low levels of customer awareness- Low customer awareness levels and financial literacy pose the biggest challenge to channelizing household savings into mutual funds. A large majority of retail investors lack an understanding of risk-return, asset allocation and portfolio diversification concepts.Limited focus on increasing retail penetration- The Indian mutual fund industry had limited focus on building retail AUM and has only recently stepped up efforts to augment branch presence in tier 2 and tier 3 towns.Limited focus beyond the top 20 cities- The mutual fund industry has continues to have limited penetration beyond the top 20 cities. Cities beyond Top 20 only comprise approximately 10 percent of the industry AUM as per industry practitioners. Limited focus of the public sector network on distribution of mutual funds- Public sector banks with a large captive customer base significantly have reached beyond the Top 20 cities in semi-urban and rural areas, but the potential to build the retail investor base, have so far played a very limited role in mutual funds distribution.

Future

In the event of quick economic revival it is presumed that Indian mutual fund industry may grow at the rate of 20-25 % in the period from 2010-2015. Key growth drivers will be increased retail investor participation and increase in institutional participation triggered by rising corporate revenues.

Industry profitability may reduce further as revenues shrink and operating costs escalate.

Product innovation is expected to be limited.

Market deepening and widening is expected with the objective of increased retail penetration and participation in mutual funds.