BackProduct crack: Reliance Capital Builder Fund II Series B
It is an equity fund that will invest up to 80% in equity stocks and up to 20% in Nifty call options
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Reliance Capital Asset Management Ltd has launched a new fund in the closed-end basket. But this one combines traditional cash market investing with derivatives. Reliance Capital Builder Fund II Series B is an equity fund that will invest up to 80% in equity stocks and up to 20% in Nifty call options.
What’s good...
It is a relatively underused concept for retail investors to combine stocks and derivatives in one portfolio. The exposure in active equity will get built through bottom-up selection of high quality mid-caps. Also, 20% of the portfolio is expected to be invested in three-year CNX Nifty long call option (expiry in 2017). Call options help enhance the upside in a rising market while limiting the downside in a market fall.
The 20% earmarked for call options will buy ‘at the money’ 3-year call options. ‘At the money’ means the option strike price (at which the option is exercised) will be close to today’s index level. The option entitles the holder to buy the underlying security at the strike price on the expiry date. If markets are up, you gain if the option is ‘at the money’; if markets are down, you walk away losing only the premium. The option itself can be bought by paying a premium, expected to be around 20% (for at the money options) of the underlying value. After 3 years, if the market is up by, say, 20%, you make the same return (100% participation in Nifty returns) as you would have by holding the underlying index, but at one-fifth the cost due to the call option.
The remaining 80% of the portfolio will be invested in high quality mid-caps with the aim of alpha generation. This combined strategy can give a potential 180% participation in market returns. The Nifty options also take care of the large-cap exposure. If you have a positive view on the market, total return at the end can look better than a plain-vanilla active equity diversified fund.
The fund house has experience in options as it manages products that combine debt securities with Nifty options. In the active equity space, too, it’s one of the largest firms with an established record.
...what’s not
Options are not easy to understand. These enhance the upside, but don’t take away the risk of a downside. This downside risk is dependent on the portfolio of active stocks (80% of the fund) and its management. If markets don’t do well in the specified three years and the final market value of CNX Nifty is lower than the original strike price, on the 20% options exposure you stand to make nothing and the active portfolio might also suffer losses. In fact, even if the options portfolio works out, there is always the danger that the 80% active portfolio underperforms and your final return suffers.
Mint Money take
The structure merits consideration as it is fairly new on the mutual funds platform. But this is an aggressive equity product, meant for genuine risk-taking equity investors. If you are conservative, this is not for you. The product will be effective for you only if your market view matches that of the fund manager and this plays out as expected over the next three years.
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