Why do PMS firms want to become mutual funds?

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© Venkatasubramanian K Why do PMS firms want to become mutual funds?

The mutual fund (MF) space is seeing a new genre of firms entering the fray. Bangalore-based Capitalmind Wealth and Chennai-headquartered portfolio management service (PMS) provider Unifi Capital have applied for MF licenses, data from Securities and Exchange Board of India (SEBI) shows.

Another PMS provider – White Oak Capital Management – acquired YES MF in August last year. The firm is yet to get the final nod from SEBI to start the MF business. So, why are PMS providers rushing to enter the fund management arena?

Spotting opportunity in retail category

As a PMS scheme calls for a higher minimum investment requirement (Rs 50 lakh, as opposed to Rs 100 for a MF scheme), it automatically restricts the number of eligible investors. An MF business allows greater flexibility in managing retail money, and building larger asset sizes over time.

Deepak Shenoy, founder and chief executive officer of Capitalmind Wealth (PMS registered as Wizemarket Analytics), expects the MF industry’s size to grow three-fold in 7-10 years. The MF industry is today worth Rs 30 trillion.

He adds that the opportunity is huge given the highly underpenetrated MF industry in India. According to a report by ICICI Securities, the MF assets under management is 12 percent of domestic GDP, as against the global average of 55 percent.

“Through the use of digital technology, we plan to reach a wide set of customers, offering them exceptionally good service at low costs,” says Shenoy. Capitalmind Wealth has applied for MF license under the relaxed profitability criteria allowed by the SEBI.

Also read: SEBI allows fintechs to apply for mutual fund licenses with relaxed norms

Shenoy says his firm would meet the three-year profitability pre-qualification by the end of the current financial year. Unifi Capital did not respond to Moneycontrol’s queries.

A different ball-game

The size of the PMS industry stands at Rs 19 trillion. As many as 330 PMS-providers compete for investor assets. Experts say it is relatively easy to set-up a PMS. The minimum net worth required to start a PMS is Rs 5 crore, while the minimum net worth required to set up an MF is Rs 100 crore.

Also read: Bajaj Finserv applies for mutual fund license

Besides the net worth requirement, MFs also need to work with a tighter set of regulations and running the operations can be a costly affair. “Getting approval from SEBI for MF can be a long-drawn process. There is also a high fixed-cost structure, and a higher regulatory burden,” says Samit Vartak, founding partner and chief investment officer of Sagone Investment Advisors, which planned to enter the MF industry, but dropped the idea later.

Experts say the higher costs of running an MF business makes it difficult to make profits, unless the fund house gains a large asset base. There are also tighter restrictions on the companies in which MFs can invest. The top 100 companies in terms of market cap are classified as large-cap companies, the next 101-150 are classified as mid-caps, while the rest are classified as small-caps.

“MF fees are linked to scheme size, which is why MFs are more oriented towards gaining larger assets. This is part of the reason why MF schemes tend to be oriented towards large-caps, where large-sized schemes can easily deploy the funds,” says an executive at a PMS provider, requesting anonymity.

He adds that a PMS provider can charge incentives as a percentage of returns and that is why there is more flexibility to take investment decisions to maximise the returns for the clients.

The PPFAS case study

In 2013, PPFAS, an erstwhile PMS house morphed into a mutual fund. It moved most of its PMS investors to its mutual fund and shut down its portfolio business. There has been no turning back for the fund house since.

When it ran a PMS, PPFAS had 600 clients. Its flagship schemes — Parag Parikh Flexicap Fund (formerly Parag Parikh Long Term Equity Fund) – today, it has close to 400,000 unitholders.

The same investment approach, though, has continued. Rajeev Thakkar, who managed the flagship PMS scheme – Cognito – is the chief investment officer of PPFAS MF. He ensures that all investments are made with a long-term view and that the fund house sticks to the investment philosophy of buying good-quality companies at reasonable valuations.

Ravi Kumar TV, co-founder of Gaining Ground Investment Services, says it has taken a while for PPFAS to gain the confidence of investors and MF distributors, despite following a strong investment process. “Retail investors don’t easily trust a new entity, unless it is backed by a well-known parent company. That is the reason why MFs backed by banks or prominent corporate groups hold sizeable investor assets,” he says.

There are just 41 MFs in the industry at present, but the top-five houses account for 57 percent of industry assets – four of these are bank-backed.

Will PMS providers adapt to small investors?

“Retail investors expect high returns, but they are averse to risks at the same time. On the other hand, HNIs understand that for getting superior returns they need to accept certain degree of volatility,” says Amol Joshi, founder of Plan Rupee Investment Services.

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