Mutual Funds – Growth in India, Market Risks and Importance as an Investment Product.

Dr. S.S. Khanuja¹*, Ms. Deepa Tahalyani²

¹Principal, Durga Mahavidyalaya, Raipur CG

²Research Scholar, Durga Mahavidyalaya, Raipur CG

ABSTRACT:

The mutual fund industry has grown satisfactorily over the past decade. From the days when it was felt that a savings oriented institution like the unit trust of India needs to be established in the early 1960’s, the industry has grown enormously in the past decade. In fact, the entire nature of the industry has completely not only in quantitative aspects. The mutual fund industry now offers a very wide range of choices for investment to the potential investors. The whole paper is divided into three sections. In the first part, we have discussed the origin and growth of mutual fund in India. In the next section, we have focused on the types ofrisks in mutual fund. In the third section, we have analysed the importance of mutual fund as an investment product.

KEY WORDS: Mutual Funds, Growth, Challenges, Regulatory.

INTRODUCTION:

The mutual fund industry spanning almost two decades now has seen its share of success andfailure. It is quite commendable that we have reached a mark of almost 14 trillion INR of assetsunder management as of May 2016. As number of players in the market increases, competition may force fund houses to comply not only with the laid down regulations and concentrate more on growth but efforts in creating excellence in governance as well.

MEANING:

A mutual fund is a professionally managed form of collective investments that pool money frommany investors and invests it’s in stocks, bonds short term marketable securities, under mutualfund portfolio manager, trades the funds underlying securities, realising capital gains or lossesand collects the income by way of dividend or interest. The value of share of the mutual fundknown as the net asset value (NAV) per share is calculated daily based on the total value of thefund divided by the number of shares currently issued and outstanding. The Securities and Exchange Board of India (Mutual Funds) Regulations, 1993 defines Mutual Fund as “a fund established in the form of a trust by a sponsor to raise monies by the trustees through the sale of units to the public under one or more schemes-for investing in securities inaccordance with these regulations.”

According the above views a Mutual Fund in India canraise resources trough sale of units to the public the above view has been further extended byallowing various activities such as portfolio management services, management of off shore funds, pension or provident funds, venture capital, money market funds, real estate fundsand advice provided to off shore funds.

REVIEW OF LITERATURE:

M.B. Umarani (2012) analyzed the growth of i\Indian mutual fund industry and pointed out that mutual fund industry is illusionary and also there is little doubt on the inherent nature of mutual funds that it’s a investment platform for small investors. She suggested that regulators need to make regulation and policies that will boost the retail participation in the mutual fund industry.

Jani and Jain (2013) analyzed the relationship between AUM mobilized by mutual fund and GDP growth of the India. They concluded that mutual fund has become a key resource mobilizer for Indian financial system. They suggested that some improvements like proper structure and regulations are required in the case of black money and also proper regulatory framework for the investor’s protection.

Chauhan and Adhav (2015) studied the recent trends in mutual funds industry in India. The study highlighted that in India investor base of mutual funds is high but when we compare India with other nations, it is still lacking far behind. They suggested that strong regulations, better services to the investors, and high returns could make mutual fund schemes more investor friendly. In the words of Dhirendrakumar (2013), the factors which can be largely attributed the impressive growth in indian mutual fund industry are rising household savings advantageous tax policies, and the introduction of several new products, investor education and the role of distributors. Fund managers have to use the public money in a proper way and distribute reasonable return to investors. Roy and Gary (2012), the mutual fund industry has the highest fund exposure in banking sector.Fund managers may find the portfolio allocation under risk and return proportion and they selectthe stock for fund allocation.

OBJECTIVES OF THE STUDY:

The objectives of the study is intended

1. To assess the growth of Mutual Funds in India

2. Different Market risks involved in Mutual funds and

3. Importance of Mutual Funds in terms of investment product.

ORIGIN AND GROWTH OF MUTUAL FUND IN INDIA:

The mutual fund Industry in India starts in 1963 with the formation of UTI, at the initiative of the Government of India and RBI.The 1993 SEBI (Mutual Fund) Regulations were substituted by a more comprehensive and revised Mutual Fund Regulations in 1996. The industry now functions under the SEBI (Mutual Fund) Regulations 1996. The mutual fund industry is fully regulated by SEBI and the industry functions within the rules of SEBI mutual funds regulations 1993 which aims to protect the interest of investor.Gupta Amitabh (2001) stated mutual funds represent a perfect investment choice in India on account of its increasing esteem. It is the most appropriate investment for the common man as it provides the opportunity to invest in a diversified, professionally managed basket of securities at a relatively low cost.

The Indian mutual fund industry had a quick growth as a result of country’s infrastructural development,growth in personal financial assets,and increase in foreign participation. The industry with stands with growing risk appetite ,increasing income, and growing awareness ,MF in India are becoming an ideal investment choice compared to safe investments such as fixed deposits and postal which comparatively gives low returns. In view of Fredman et al (1997), the MF machinists actively manage the portfolio of securities and receive income which is ultimately passed on to the unit holders. Dhirendra Kumar (2013) stated that “Naturally, there is nothing wrong in placing large amounts of corporate cash, as it is an important service in a financial system and mutual funds do it better than banks.

The history of MF in India broadly divided into four distinct phases:

♦ First phase (1964-1987):

Unit Trust of India (UTI) was established on 1963 by an act of parliament. It was set up by the reserve bank of India and functioned under control of reserve bank of India. In 1978 Industrial development Bank of India (IDBI) took over the regulatory and administrative control in place of RBI. The first scheme launched by UTI was Unit Scheme 1964.At the end of this phase UTI has 6,700 crores of assets.

♦ Second Phase (1987-1993):

Under this phase, in 1987 the entry of non-UTI, public sector mutual funds set up by public sector banks and life insurance Corporation of India and General Insurance Corporation of India. SBI mutual funds was the first non UTI mutual fund established in the month of June 1987, LIC established its mutual fund in the month of June 1989 and GIC had set up its mutual fund in the month of Dec 1990. At the end of this phase the mutual fund industry has assets under management of 47,004 crores.

♦ Third Phase (1993-2003):

Under this phase the entry of private sector funds in 1993 set up, a new era started in the Indian mutual fund industry giving the Indian investors a wide choice of fund families. In this phase to regulate the mutual fund activities the first mutual fund regulations came, under which all mutual funds, except UTI were to be registered and governed the first private sector mutual fund registered in July 1993 on the name Kothari pioneer.

♦ Fourth Phase (since Feb 2003):

At commencement of this phase following the repeal of the Unit Trust Of India act 1963 UTI was divided into two separate i.e., (1) specified undertaking of the Unit Trust of India with assets under management of 29,835 crores as at the end of Jan 2003, and functioning under an administrator and under the rules framed by govt of india and does not come under the purview of mutual fund regulations. (2) UTI Mutual Fund LTD., registered with SEBI, functions under the mutual fund regulations. It is sponsored by SBI, PNB, BOB and LIC. At the end of sep 2004 there were 29 funds which manage assets of 1,53,108 crores.

Indian Mutual Fund Industry Trends:

The challenges which the mutual fund industry had to face are low customer awareness and poorfinancial literacy pose which act as the biggest challenge to channelize the household savingsinto mutual funds. Further the fund houses have limited focus on increasing retail penetration. Most AMCs generally focus on the top 20 cities that are manifested in limited distributionchannels and investors servicing.

Lakh Crores in Mutual Funds Assets managed by the MF Industry has increased from Rs. 10.7 lakh crore in Oct-14 to Rs. 14.5 lakh crore in May-16 with Debt funds taking the most investment at 45 paise of every rupee invested.

TYPES OFRISKS IN MUTUAL FUND:

All investing involves an element of risk. In a mutual fund investors trust their money to the fund manager whose team in turn invests it in securities linked to the financial market – equities, debt, and gold depending on the fund’s nature. And the market values of these keep moving which makes the returns from mutual funds subject to risk.

Higher the risks, more the returns or losses and lower the risks lesser the returns or losses. It is the discretion of the investor to decide how much risk he is willing to take. In order to this every investor must be aware of different types of risks involved with the investment decision viz., market risk, credit risk, inflation risk, interest rate risk, political risk and liquidity risk.

♦ Market risk:

Prices and yields of securities may rise and fall because of outside factors affecting the market in general. This is known as market risk. A systematic investment plan (SIP) that works on the concept of rupee cost averaging (RCA) may help to reduce this risk.

♦ Credit risk:

The debt servicing ability of a company through its cash flows determines the credit risk faced by investor. This credit risk measured by independent rating agencies who rate companies and their papers as AAA and D. AAA represents safest whereas D representing poor credit quality. A well diversified portfolio may help to reduce this risk.

♦ Inflation risk:

Inflation is the loss of purchasing power over time. Most of times people make traditional investment decisions to protect their capital but end up with a sum of money that can buy less than what the principle could at the investment. This happens when inflation grows faster than the return on the investment. A well diversified portfolio may help to reduce this risk.

♦ Interest rate risk:

Changes in interest rates affect the prices of equities as well as bonds. If interest rate rises the prices of bonds falls and vice-versa. Equity may be negatively affected in this context .A well- diversified portfolio may help to reduce this risk.

♦ Political risks:

Change in government policy can change the investment environment. They can create a favourable environment or vice-versa.

♦ Liquidity risk:

This risk arises when it becomes difficult to sell the security. Liquidity risk can be reduced by diversification, staggering of maturities as well as internal risk controls that lean towards purchase of liquid securities.

MEASURES OF RISK IN MUTUAL FUNDS:

It’s important to understand the level of risk linked to an investment product while planning to employ it. Two funds giving similar returns may not be equally attractive as one can be significantly risky than the other. For you to be able to choose funds suiting your risk profile we have classified schemes of Quantum Mutual Fund based on their riskiness below. However first we present the basic risk measures commonly used to evaluate mutual funds – alpha, beta, r-squared and standard deviation.

Beta:

Beta measures a fund’s volatility in comparison with the market. The volatility of the market is 1 by convention. For mutual funds their benchmark is taken to be the market.

A beta greater than 1 says the fund is more volatile than the market whereas beta less than 1 indicates it is less volatile the market. For instance if a fund has beta 1.1 then it is 10% more volatile than its benchmark. This means when the benchmark’s return is 20% the fund’s return would be 22%.

Higher beta, thus means higher risk. Conservative investors would seek funds with low beta levels.

Alpha:

Alpha measures a fund’s outperformance with respect to its benchmark. Technically it indicates a fund’s performance as measured by the difference in actual returns and the returns one would have expected based on its beta risk. So a positive alpha indicates a fund’s outperformance compared to what was expected based on its beta and a negative alpha tells a fund has underperformed than what its beta predicted.

In essence alpha represents the value a fund manager adds to the fund by managing its portfolio, over and above the market’s returns. Alpha returns come from the fund manager’s ability to pick the right securities and also time the entry and exit in those securities well.

Higher the alpha the better it is for investors. However for index funds, whose portfolios are supposed to be replicas of their benchmarks, alpha is not a relevant risk tool.

R-Squared:

R-squared tells how similar a fund’s performance is to its benchmark’s; or put differently how much of the performance comes solely from movements in its benchmark. R-squared or R2 could range from 0-100 with 100 signifying absolute similarity and 0 signifying absolute variance.

Actively managed funds would be expected to have low R2 since their portfolio would not be identical to their benchmark index and hence their performance would be quite different from the benchmark’s.

To correctly measure a fund’s risk-return in terms of alpha, beta it is important that the selected benchmark has high R2.

Standard deviation (SD):

This measure is used perhaps more than others in gauging a fund’s risk. Standard deviation of a fund, expressed as a percentage, defines how much a fund’s return has varied from its average return. If a fund has higher standard deviation its returns (as calculated from NAV) is expected to be so much more volatile. In short standard deviation of a fund represents the consistency of its performance.

Getting a little deeper into the properties of standard deviation, in most cases the fund’s future returns would fall within one SD 68% of the time, within two SDs 95% and within three SDs 99% of the time. What this means is if a fund has standard deviation of 5 and its average annual return has been 15% then one can expect its returns to lie between 10% and 20% most of the time (or to be accurate 68% of the time) and can expect them to be between 5% and 25% almost all of the time (95% of the time). Standard deviation of a fund should be studied in comparison with its peer funds – funds of a category having similar portfolio construction.

IMPORTANCE OF MUTUAL FUND AS AN INVESTMENT PRODUCT:

Investing in Mutual Funds* is important for building a balanced portfolio. It helps in identifying and satisfying portfolio needs based on your needs, risk appetite and financial goals. To get the right mix of risk and return, avail equity funds for growth and capital appreciation, and debt funds for capital protection. It aids with a range of specialised investment strategies to capitalise on opportunities in the market. An investor can invest directly by himself or indirectly through a financial intermediary. Universally, mutual funds have established themselves as the means of investment for the retail investor. The importance of mutual funds is transparency, diversification, research, professional management, convenience, stability, tax benefits, flexibility, affordability, liquidity, shareholder’s services, safety from loss and product structure.

Transparency:

Mutual funds transparently declare their portfolio time to time. Thus an investor knows way his/her money is being placed and in case the investor not happy with the portfolio he/she can withdraw at a short notice.

Diversification:

Mutual funds invest in number of companies of various industries and sectors this diversification reduces the investor’s risk.

Research:

Mutual funds can afford information and data required for investments as they have large amount of funds.

Professional Management:

An average investor has no knowledge of capital market operations and how to reap the benefits of investment. Thus he requires the help of an expert. Finding a real expert is expensive and very difficult to identify.

Mutual funds are managed by professional managers who have the required skills and experience and also possessing to analyse the performance and prospects of companies. They make possible organised investment strategy which is not possible for an individual investor.

Convenience:

Investing in mutual funds makes easy and reduces paper work and also saves time.

Stability:

Mutual funds have large amount of funds which provide them economies of scale by which they can absorb any losses in the stock market and continue investing in the stock market.

Tax benefits:

Mutual fund investors enjoy the tax benefits. Income of notified mutual funds shall be exempted from tax under section 10(23D).

Flexibility:

Mutual funds offer family of schemes, and investor have the option of transferring their holdings from one scheme to the other scheme.

Affordability:

Investing through the funds directly in the capital market is relatively less expensive as the benefits of economies of scale to the investor.

Liquidity:

Through the mutual funds investors can easily encash their investment by selling their units under open ended scheme or closed ended scheme.

Shareholder's Services:

Mutual funds offer many useful services to the shareholders such as automatic reinvestment, retirement plans and record keeping for tax purposes.

Safety from loss due to unethical practices:

The probability of loss due to fraud scandal is bankruptcy is very small in mutual funds management.

Product structure:

Product structure in mutual funds is designed to suit the needs of the common investors.

Rupee-Cost Averaging:

With rupee-cost averaging, you invest a specific rupee amount at regular intervals regardless of the investment's unit price. As a result, your money buys more units when the price is low and fewer units when the price is high, which can mean a lower average cost per unit over time. Rupee-cost averaging allows you to discipline yourself by investing every month or quarter rather than making sporadic investments.

CONCLUSION:

Overall, we can conclude that mutual fund industry is making efforts towards the stable growth and sustained profit. Mutual funds have appeared as strong financial intermediaries and they play an important role inbringing stability and efficiency in resource allocation. Presently, more and more funds are entering the industry and their survival depends on strategic marketing choices of mutual fund companies, to survive and thrive in this highly promising industry, in the face of such cutthroat competition. In addition, the availability of more savings instruments with varied risk-return combination would make the investors more alert and choosy. The market values of equities, debt, and gold keep moving which makes the returns from mutual funds subject to risk. The SEBI regulatory framework contributed a lot in Indian mutual fund industry but still there are some matters to work on like disclosure and insolvency. The mutual fund industry in India is expected a tremendous growth in a few years.

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Received on 05.03.2017

Modified on 20.03.2017

Accepted on 29.03.2017

Research J. Humanities and Social Sciences. 8(1): January - March, 2017, 100-106.

DOI: 10.5958/2321-5828.2017.00015.8