On the slow track

Mutual funds have miles to go to make the most of the stock market boom. Their low share of savings in financial assets stands testimony to this, says Najaf Ishrati

May 10, 2006,
ET Money and Banking, Mumbai

"IF YOU torture data sufficiently, it will confess to almost anything.” So goes the US chemist Fred Menger. Data published by the mutual fund industry and the Reserve Bank of India reveal that assets under management of mutual funds grew 60% last year, while bank deposits rose only 22.8%.
The growth in the asset base of mutual funds and the shortage of deposits faced by banks received so much attention that anyone would be forgiven for believing that Indians are shovelling all their savings into mutual fund schemes and that the share of bank deposits is on the decline.
Assets under management of MFs have been picking up at a phenomenal pace. At the end of April this year, MFs were managing assets worth Rs 2,53,560 crore, a growth of 60%. A year ago the figure was Rs 1,57,998 crore. Bear in mind that we are talking about the entire assets under management, including the element of corporate surplus in liquid instruments and capital appreciation.
Meanwhile, banks, which have been struggling to match the deposit growth with the increase in advances, have grown their deposits by Rs 3,87,471 crore, which is 33% more than the entire assets base of the MF industry. With outstanding deposits standing at Rs 21,13,100 crore, mutual fund assets account for less than 12% of deposits in the banking system.
Instead of looking up with the three-fold rise in the sensex since 1994, things have actually worsened for the MF industry. As against a 7% share of the savings in financial assets in ’93-94, MFs today account for less than a 4% share of savings in financial assets.
A decade ago, during the heydays of the Unit Trust of India when funds managed by MFs accounted for nearly a fifth of bank deposits, fund managers spoke about how MFs would rival bank deposits in future.
What the fund managers had not accounted for was the collapse of the flagship UTI. Having failed to build a suitable distribution system, private mutual funds were not able to occupy the space created by UTI.
Nilesh Shah, chief investment officer, Prudential ICICI MF, takes a clear angle. “Globally, investments into MFs have shown a geometric progression. Here we haven’t yet reached the critical stage for the takeoff.” Typically, the middle-class makes investments based on trust rather than return, he explains. “They would prefer to go to the government, banks, or anywhere where they feel that their hard earned money is safe. Also, their experience with equity has not been positive because of the crashes and scams. It is up to us mutual funds to keep performing, and gain that trust.”
SV Prasad, CEO, Birla Sun Life MF, makes another point. “Typically, Indians have always looked at equity as ‘quick money’, while this is not true. Someone investing in an 11-year-old fund would have made an annualised return of 31.5% per annum. The awareness that equities give better returns in the long-term than real estate or commodity is now spreading, and the scope for the future is tremendous.”
An analysis of mutual fund investments shows that they are not the major equity players they are made out to be. If one looks at the net inflows into equity schemes of MFs, the picture becomes abysmally bleak. In calendar year ’05, as little as Rs 23,812 crore found its way into equity schemes (this figure is the final flow, net of purchase, repurchase and redemptions of units in growth, ELSS, and balanced schemes. To be on the safer side, three-fourth of the net flow into balanced funds was assumed to be headed for equity). In CY04, this flow was Rs 9,524 crore. These inflows are bound to be minuscule compared with the money flow into bank deposits.
The question is, why aren’t we putting any sort of sizeable money into MFs? It is one thing to say that the industry is growing at a
large pace. It is another matter, though, that the base is so small that any increase hardly amounts to anything. To look at the issue from another angle, we go back to some more data. India’s gross savings are estimated to be around 30% of India’s GDP. However, the latest annual report of RBI puts the share of gross financial savings in ‘04-05 at a lesser 13.7% of the GDP. This comprises elements of currency (1.3%), deposits (5.4%), shares, debentures, equity and MFs (0.2%), claims on government (3.3%), insurance funds (1.8%), and provident and pension funds (1.8%).
It is clear what kind of battle MFs are fighting. First, over half of the entire savings of the country goes into non-financial assets like real estate and commodity. Secondly, even of the financial pie, currency, debt and small savings eat up into the equity market share. The funds are literally left with the financial crumbs.
That India is still pretty much under-invested is a point driven home by Naval Bir Kumar, managing director, Standard Chartered MF. He says that this is “because Indians are so used to high interest rates and huge tax-free returns from small savings schemes that some amount of laziness has crept into the psyche. However, as interest rates are lowering, and the small schemes are unable to deliver beyond a point, there is definitely growth in store for MFs.”
Then there are some systemic problems for the industry. To tap new markets, funds have to venture out to newer places, requiring investment from asset management companies (AMCs). The return on this has to be obviously higher than the cost.
Rajan Krishnan, business head, asset management, Principal PNB MF, says: “MFs face the classic chicken and egg symptom of whether to first let the market grow and then enter (losing the first mover advantage), or whether to be the first to set up your shingle and beat the competition, enduring long gestation periods.” Off the record, fund managers candidly admit that a 2% market share in Mumbai could get you more money than say a 35% share in Bhatinda.
There is also the risk angle to deal with. Rajiv Shastri, CEO, Sahara MF, says: “MFs are a complex product with a fair amount of risk. If we can make the products simpler, and have the complexity managed by the AMC, it would make it much more appealing for the investor.” He says that a product with derivative exposure, with the AMC providing a capital guarantee after five years with a 50% upside, may find many takers.