It is curious that the cake-cutting and champagne-popping that accompanied the Nifty’s new lifetime high in recent weeks, was not in evidence when the mutual fund industry topped ₹50-lakh crore in assets.

Mutual funds have created more durable wealth for Indian retail investors and within a shorter time frame, than direct stock investments. Yet, the contribution of this vehicle to wealth creation and the change in household savings habits seems under-appreciated.

Wealth effect

Assets of the Indian mutual fund industry stood at ₹50.7-lakh crore in end-December 2023, data from the Association of Mutual Funds of India shows.

About 59 per cent of this belonged to individual investors, taking their wealth parked with mutual funds to ₹30-lakh crore.

This is neck-and-neck with the money held by individual investors in stocks, which Primeinfobase pegs at about ₹30.4-lakh crore in September 30, 2023.

This is a significant milestone because mutual funds made their debut only in in the mid-eighties (not counting the erstwhile UTI) in India, while stock exchanges have been around since 1875.

In the 10 years from September 2013 to September 2023, the value of individuals’ stock market holdings zoomed from ₹4.75-lakh crore to ₹30.4-lakh crore.

But the value of their MF holdings has expanded faster from ₹3.8-lakh crore to ₹30-lakh crore.

This double-engine growth in the two assets in the last 10 years is likely to have unleashed a substantial wealth effect for Indian households.

This could provide one explanation for affluent households in India splurging on premium goods and services and going on a borrowing binge, despite snail-paced income growth.

Official RBI data on household savings in stocks and mutual funds at less than 1 per cent of GDP tends to underplay the wealth effect, because it captures only inflows into these assets at cost.

Lure of market returns

A decade ago, Indian households were sold on guaranteed returns and were openly sceptical of any instrument that offered the vague promise of market-linked returns.

So much so that they were willing to accept guarantees from unregulated entities such as PACL and Sahara at their own peril.

But after taking some hard knocks, mutual funds have managed to build a good long-term track record on returns.

Large-cap equity funds have delivered a 11-16 per cent annualised return over the last 20 years, while gilt funds have managed 7.5 to 9 per cent in a decade.

This has made young investors more willing to skip the dubious comfort of guaranteed products, to consider market products such as National Pension System and smallcases. This can be further leveraged to wean investors away from schemes such as small savings and Employees Provident Fund which cast a burden on the exchequer.

Power of regulation

The growth of the mutual fund industry is also testimony to the fact that in India, micro regulations that put customer interests first, can deliver growth even if they initially displease industry.

Financial product regulators in India, be it SEBI, Reserve Bank of India or Insurance Regulatory and Development Authority of India are often torn between tightening the screws in their constituents and fostering their development through liberal regulations.

In fact, they are urged to let go of their consumer protection objectives to promote ‘ease of doing business.’

But the success story of mutual funds demonstrates that SEBI’s approach of regulating first and taking feedback later, is not without its merits.

The mutual fund industry has grown to its current size despite SEBI setting a hard limit on its fees, banning upfront commissions, opening up a direct route and dictating the categories of products that that may be sold.

Many of these regulations are not in vogue in global markets or other financial products. But they have helped to ensure that mutual funds have grown to a ₹50-lakh crore size without any large fraud or scam where investors have had their capital wiped out. (The last such event was the US-64 bailout.)

Challenges ahead

If ₹50-lakh crore in MF assets is a milestone to be celebrated, it presents new challenges too.

The first challenge is how to throw cold water on exaggerated investor expectations when a flood of retail money is chasing high recent returns. It needs to be kept in mind that 40 per cent of the annual SIP book of ₹1.4-lakh crore and an equal proportion of the 14 crore MF folios have been created in the frothy post-Covid market.

Whether these investors are aware that equities can deliver capital losses is moot. The fund industry needs to do more to convey this message and gate flows in over-heated categories.

A second issue is that of too much money chasing too few opportunities. While the equity assets managed by mutual funds have expanded tenfold to ₹20-lakh crore in 10 years, the number of investment-worthy stocks has not gone much beyond 500 or so listed names.

While SEBI cannot do much to expand the investible universe, it can look at redefining market-cap segments by percentiles, so that all large and mid-cap funds are not chasing the same 250 stocks.

Despite SEBI writing new regulations at a brisk pace, instances of mis-management and governance have cropped up.

Franklin Templeton has managed to return capital to investors after abruptly shuttering six troubled debt schemes in 2020. But it has subjected investors to opportunity costs and prolonged loss of liquidity.

Whether open-end funds can suo motu decide to lock investors into their schemes, remains a loose end.

It also remains a mystery how a dealer at Axis Mutual Fund managed to run an elaborate scam to front-run the fund’s trades, without this coming to the attention of his managers.

Rather than treating these instances as aberrations, AMCs need to subject their governance, risk management and hiring processes to more stringent scrutiny to prevent them.

In an industry where investors can vote with their feet, a single instance of mismanagement by one player is enough to unravel the trust that has taken 20 years to build.

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