The ‘two minute’ mutual fund
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Why do the world’s most value-for-money people choose a pre-tax 4% return on the money that they leave in their savings deposits? It is the twin advantage of safety and liquidity that makes people love their savings deposits. But an aggressive mutual fund industry is using new products and processes to offer alternatives to these deposits, and is taking the battle for the share of the household savings right to the door of banks. Remember that mutual funds have product categories that can look after most of your money management needs—from liquid money to building and milking retirement funds. Last week, the Securities and Exchange Board of India (Sebi) announced a series of rule changes that make it safer and easier for investors to shift from a bank savings deposit to a liquid fund and allow people to use their e-wallets to invest in funds.
The back story first. A liquid fund is a mutual fund type that invests in very short-term debt paper. It mainly earns from the interest on the debt paper it buys and should not take credit risk, or buy lower grade paper in search of higher interest. Read my column on the risk in debt funds here: bit.ly/2oID9dD. You use a liquid fund to park your money for a few days to a few months. If you plan to hold for longer than 6-9 months, you would be better off in an ultra short-term debt fund. The problem with liquid funds was that, unlike a savings deposit, which is instantly accessible through a debit card and online transfers, the money would take a day to redeem and hit the bank account. Technology and a few aggressive fund houses have innovated to offer an instant redemption facility on some of their mutual fund schemes. Read this story for more: bit.ly/2pOr5f3. It is now possible to swipe a debit card and get instant access to your money that is invested in select schemes or use an app to get instant funds in your bank by redeeming your mutual fund.
These innovations were ahead of regulations by Sebi, which has now come in with rules of the game. Funds can no longer use any category of funds they want to offer instant redemption; they must only use the liquid fund category to do that. Fund houses were using their short-term debt funds to offer instant access. They have a month to stop this and move the facility to the liquid fund. Two, funds were allowing up to Rs2 lakh of daily redemption on these products. Sebi has put a cap of Rs50,000 a day, or no more than 90% of the balance in the fund the investor holds. There are other rules that are aimed at reducing risk in allowing liquid access to funds without a bank-like requirement to hold reserve funds. Indian banks hold just under a quarter of their time and demand deposits as cash reserve ratio (CRR, or the portion of deposits that banks need to set aside with the central bank) and statutory liquidity ratio (SLR, or the portion of deposits that banks need to invest in government-mandated securities) requirements.
Should you use this facility? What of the recent loss in value in Taurus Mutual Fund’s liquid scheme? The fund lost 7.22% overnight in a liquid fund and passed on the loss to investors, unlike some other fund houses that absorbed the loss. Taurus was overexposed to poor quality paper in its liquid fund—it was taking a credit risk in a product that should ideally stay with the highest quality of paper due to the nature of the product. Sebi must examine the role of Taurus Trustees in allowing this to happen.
What can you do to prevent a Taurus-like accident? Stay with the bigger names in this space, look for a large corpus of assets under management and do speak with a few planners or advisers. I know this is not a fool-proof method, but we are reducing the possibility of risk to as low as possible. Do not make the mistake of thinking that liquid funds are guaranteed products. They are not. There is risk, but it is manageable if you understand what you buy. For those who can, the instant redemption facility is the final nail in the savings deposit coffin. The category return on liquid funds over the 1-year period is 6.84%.
Sebi has also allowed e-wallets to sell mutual funds. Paytm has been in talks with Sebi since last year to be the vendor of mutual funds online, leveraging its huge customer network. It is likely to be first off the block in selling mutual funds on its platform. You will not be able to buy the lower-cost direct plan, but will get a regular plan as e-wallets are planning to become national distributors who continue to earn trail commissions. You will be able to invest up to Rs50,000 per mutual fund in a year through all e-wallets put together, but when you redeem, the money will flow back into your bank account. However, don’t expect cash-backs when you invest in funds through your wallet; Sebi has prevented the use of any incentive to attract investors by wallet companies. Rebating is illegal in the mutual fund space. If you are buying on your own, you may want to go direct with lower cost instead of through an e-wallet on the Mutual Fund Utility platform, https://www.mfuonline.com.
It does look as if 2017 will be the year in which mutual funds reach more people than ever before. It is good that Sebi is keeping pace with innovations in the industry and fixing rules of the game on an ongoing basis, specially for fintech solutions in the industry.
Monika Halan works in the area of consumer protection in finance. She is consulting editor Mint, consultant NIPFP, and on the board of FPSB India. She can be reached at email@example.com