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Three Mutual Fund Nomenclatures That Will Disappear In Next Five Months
SEBI’s recent circular will do away with a few popular types of mutual fund schemes over the next five months
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SEBI’s recent circular, aimed at consolidating mutual fund schemes and ensuring that each asset management company operates only one fund within each of its specified sub-categories, will also do away with a few popular types of mutual fund schemes over the next five months.
In effect, these schemes will be required to be renamed, merged with other schemes, or winded up altogether. Here are three such category names that will cease to exist soon.
Monthly Income Plans
Monthly Income Plans, more popularly known as “MIPs”, are a type of mutual fund scheme that invests into a mix of debt and equity assets. Typically, the debt component is kept low, ranging from 5 per cent to 25 per cent. While these funds endeavour to generate monthly income by way of dividends, these income streams are neither assured, not constant.
Furthermore, these dividend incomes are extremely tax-inefficient, as they attract a dividend distribution tax of 28.33 per cent, irrespective of income bracket. Under SEBI’s new rules, MIPs will no longer exist as a category – rather, they will give way to “Conservative Hybrid Funds”.
The new nomenclature will go a long way in ensuring that investors, especially retirees, do not invest into them with misplaced expectations of guaranteed incomes. Instead, we may see more investors veering towards more tax-efficient income generation strategies, such as SWPs (Systematic Withdrawal Plans)
Credit Opportunities Funds
With yields taking a significant beating over the past three years, many AMCs have turned to an alternate strategy – chasing higher yields by investing into slightly lower rated bonds; taking on an element of default risk in the process. These funds have been called “Credit Opportunities” or “High Yield” Funds until now.
Under SEBI’s new rules, they will now be merged together and called “Credit Risk” Funds instead. This is another welcome change, since most debt fund investors enter into these funds with the fallacious assumption that they are just like FDs, and devoid of risk.
Resultantly, they are unable to wrap their heads around phases of negative return that could result from defaults or downgrades of securities that had questionable levels of creditworthiness at the time of investment. The new nomenclature will force advisors to help their clients understand the nature of credit risk, thereby leading to more informed decision making.
Arbitrage ‘Plus’ Funds
Arbitrage Plus Funds will cease to be a category. Previously, Arbitrage Funds and “Arbitrage Plus” funds were differentiated on the basis of the fact that the latter would invest up to 35 per cent of their portfolios into short term debt securities, whereas the former would invest 100 per cent of their portfolios into hedge equities.
With the new regulations, Arbitrage Funds themselves will be moved from the equity category to the hybrid category, and all Arbitrage Funds would be permitted to invest up to 35 per cent of their portfolios into debt securities.
Effectively, all existing Arbitrage Funds will now function as Arbitrage Plus Funds, opening up a highly tax efficient, low risk investment option for those looking to low risk funds for a year or two. Returns from these funds would be tax free; therefore, even a 7 per cent return from an Arbitrage Fund will be equivalent to a debt fund return of 10.7 per cent for an individual whose earnings are in the topmost tax bracket