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2. MUTUAL FUND INDUSTRY

2.1. Global Mutual Fund Industry – An Overview

Over the past two decades, the mutual fund industry world-wide has boomed.

Money managed through mutual funds have increased more than seven times, from $4.0

trillion in 1993 to $28.9 trillion in 2013:Q3 (Figure 2.1). This growth was shared across

broad regions of the world. For example, assets in US mutual funds rose about 600 percent

to $14.3 trillion. The mutual fund industry in Europe, though smaller, grew faster, by 642

percent to almost $9.0 trillion. Assets in the Asia-Pacific region expanded 450 percent to a

level of $3.3 trillion. Finally, investments in the remaining part of the globe, which includes

Canada, Brazil, as well as other countries in Latin America, grew 2,200 percent to a level

of $2.3 trillion. As per the report of ICI Global Research Perspective by Plantier (2014),

four parts of the globe—the United States, Europe, Asia- Pacific, and the remaining part of

the globe —all saw strong growth, yet experiences ranged widely among individual

countries. Indeed, demand differed across countries for equity funds and bond funds, as

well as for other types of funds. Also, some countries have seen more rapid growth in their

mutual fund industries than others. Finally, in many countries the fund industry remains

quite small relative to gross domestic product (GDP), suggesting that there is potential for

future growth provided the conditions are right.

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 Figure 2.1: Worldwide Total Net Assets of Mutual Funds

Several factors help explain worldwide patterns in the growth in long-term mutual

fund assets, including:

 greater household demand for well-diversified, professionally managed investment

products offering access to capital markets;

 strong and appropriate regulation of funds and financial markets;

 the availability of large common markets in which mutual funds can be purchased

and sold;

 expansion and availability of efficient capital markets across the globe;

 superior returns on stocks and bonds (directly boosting fund assets and indirectly

attracting flows);

 high or improving levels of economic development;

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  changing demographics and associated fiscal challenges; and

 the presence of a defined contribution (DC) plan system that allows participant-

directed investments, including in mutual funds.

These factors could influence future expansion of the mutual fund industry in

countries where mutual fund products have had less market presence, such as in emerging

markets in the Asia-Pacific region. This paper provides statistical evidence that mutual

funds are what economists term a ‘superior good’—a product for which demand rises faster

than peoples’ incomes rise. In emerging economies, rising per capita income, demographic

changes, government fiscal challenges, and openness and modernisation of financial

markets, will likely foster demand for mutual funds.

Global assets in mutual funds have increased significantly in the last 2 decades. But

the amount, types, and growth of mutual fund assets have varied substantially over time

and across countries. In 2006, for example, immediately before the financial crisis of 2007–

2008, assets in equity funds accounted for nearly 61 percent of global assets in long-term

mutual funds). But that share has since fallen, in part reflecting the decline in worldwide

stock markets from late 2007 to early 2009 as a result of the financial crisis. In many

countries, the falling equity share also reflected a decline in long-term interest rates and an

increase in risk aversion following the financial crisis (Figure 2.2). These developments

boosted the assets of bond funds, as well as mixed/other funds which invest in both equities

and fixed-income securities. Despite the move towards fixed-income investments, equity

funds still held slightly more than half of worldwide assets in long-term mutual funds as of

2013:Q3.

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Figure 2.2: Worldwide Total Net Assets of Mutual Funds by Type of Fund

There is wide diversity by country in the percentage of assets investors hold in

various types of long-term funds. Figure 2.3 shows the composition of long-term mutual

fund assets in the 25 countries with the largest mutual fund markets (ordered from left to

right by the value of a country’s total long-term fund assets converted into US dollars).

Some countries, like the United States, the United Kingdom, Japan, and Sweden, have the

significant part of their fund-investments in equity funds. Other countries, like Canada and

South Africa, have the largest share of their fund-investments in non-equity funds. France

and Switzerland have a rather even mix of assets across the three broad fund categories.

And still others, notably Brazil, have the significant part of their mutual fund investments

in bond funds.

In many parts of the developing world, such as certain parts of Asia, assets of long-

term mutual funds remain a relatively minor feature of the economy. Moreover, in sharp

contrast with other regions in Asia such as Hong Kong SAR and Singapore where investors

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have access to a wide array of cross-border funds, investors in developing Asia (as well as

investors in developing regions outside of Asia) do not always have access to cross-border

funds sold from other jurisdictions.

Figure 2.3: Worldwide Total Net Assets of Mutual Funds by Country

Nevertheless, fund markets in developing countries have the potential to grow

rapidly as their residents attend maturity, their middle income group grow, and investors

recognize and aspire the fruits of national and global diversified asset allocation. For

example, as noted in the previous section, compared with developed countries, people in

Asia (except Japan) are comparatively young but the percentage of people aged sixty five

or older is anticipated to increase slowly in the next five decades. In addition, per capita

income is expected to rise significantly in developing countries in the next few decades.

The OECD projects that the worldwide middle income group will rise to 4.9 billion in 2030

from 1.8 billion in 2009. Nominal GDP of countries outside the United States and Europe

is forecast to exceed $50 trillion in the next five years with considerable part of this

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development happening in emerging Asia. The people in this growing middle class will not

necessarily be high net worth individuals; the OECD defines ‘middle income’ as those who

earn between $10 and $100 per day (in 2010 dollars). Still, the rapid increase in the number

of people in the ‘middle income’ bracket means that many more people could potentially

be planning financially for retirement and other life events by 2050.

Thus, the prospective of development in mutual fund industry region other than the

United States and Europe remains considerable. The potential for rapid growth in mutual

fund assets is not limited to China. Increasing per capita income in emerging economies

world-wide could considerably surge the potential of long-term mutual funds and facilitate

development of the mutual fund industry in many other regions. This prospective

developmental path is a usual progression for economic and financial development,

specifically, the increasing wealth, GDP, and income per capita in various emerging

countries.

Many factors are associated with the development and globalisation of the long-

term mutual fund industry. First, a prerequisite for fund industry growth is strong,

appropriate regulation, especially investor protection. Second, the ‘market presence’ of

long-term mutual funds (the ratio of long-term mutual fund assets to GDP) is higher in

countries with higher per capita GDP and more liquid capital markets. Third, the favourable

returns on capital market instruments naturally boosts the value of mutual fund shares and

attracts new investors to mutual funds. Fourth, the development in a given country of a DC

plan system that offers investors the choice of directing contributions to mutual funds can

help that country’s long-term fund assets grow. In the last decade, Indian economy and

capital markets have gained momentum favouring all the above characteristics of growth

in mutual fund industry.

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2.2. Global Mutual Fund Industry – Future Outlook

According to a report on Indian mutual fund industry released in June 2014 by the

Confederation of Indian Industries (CII) at the Mutual Fund Summit (2014), in 2012, the

global aggregate AuM with asset managers stood at 64 trillion USD. This broadly

comprised mutual fund assets (27 trillion USD), mandated AuM (i.e. asset allocations from

global pension funds, insurance industry, SWFs, etc for the management/advisory services

of asset managers; 30.4 trillion USD) and alternative investments (6.4 trillion USD). As

per this report of CII, the global aggregate AuM is expected to exceed 100 trillion USD by

2020! The components of that figure are expected to grow. Significant growth is expected

in mandated AuM as well as alternative investments. The South America, Africa, Asia and

the Middle East (SAAME) region is expected to see the highest growth rates over the period

to 2020.

Figure 2.4: Worldwide AuM Composition Treads and CAGR

Source: Report on Indian Mutual Fund Industry released by CII at the Indian Mutual Fund Summit 2014 in

June 2014

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The growth of global investable assets will be driven by five main trends:

 The rise in retirement savings as the aging of the world’s population continues.

 The increased weight of the SWF market as new SWFs are formed and assets

double.

 The shift in emerging markets from savings to investing cultures.

 The rise in wealth accumulated by HNWIs and mass affluents.

 The move by traditional defined benefits in developed markets into alternative

investments.

Figure 2.5: Worldwide AuM Trend and CAGR

Source: Report on Indian Mutual Fund Industry released by CII at the Indian Mutual Fund Summit 2014 in

June 2014

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It is observed from the projections that

 From 2012 to 2020, the growth rate of global AuM will be lower in non-SAAAME

regions than in SAAAME regions.

 This is because the rise in wealth is greater in SAAAME than in non-SAAAME

regions.

 In addition, the market is more mature in non-SAAME than in SAAAME regions.

According to this report,

 Over half of the AuM of the worldwide asset management industry is in non-

traditional mutual funds. Mandated and alternative assets comprise almost 60% of

the total industry AuM and the latter segment is growing rapidly. The asset

management industry is growing to a stature comparable to banking and insurance.

 While the debate about Indian AMCs accessing the domestic pension corpus will

continue, a significant portion of global pension and insurance funds is allocated

for investment in Asian capital markets including India. The opportunity to render

investment advice to such fund managers is immense. It is understood that it will

not be easy to win such mandates but the effort would be worth it. It is estimated

that 17 to 20% of Indian market capitalisation is held by foreign funds. However, a

remarkably small fraction of these funds are advised and managed by Indian asset

managers.

 Investors are showing increasing interest in and demand for alternative investment

assets.

 Distribution models and the costs involved are constantly being re-examined.

Distribution is expected to go ‘glocal’.

 Technology continues to remain critical.

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This report points out the six gamechangers in the asset management space to be as

follows:

1. Fund management will be of utmost significance.

2. Delivery of services will be redesigned such that local and international platforms

will be redesigned.

3. Fee structures will be altered.

4. Substitute fund types will attract more attention, index investing will become

central focused and Exchange Traded Funds will flourish.

5. Innovative class of fund managers will emerge.

6. Asset management will enter the 21st century.

2.3. Indian Mutual Fund Industry – An Overview

The asset management industry has been at work from over 20 years and opened

the entry for many new players. Its aim was to enlarge its business with the help of market

extension for the asset management products. It was expected that the asset management

products will be added in the basket of customary investment avenues, for instance cash-

in-hand, corporate as well as fixed deposits (FDs), stocks, and savings accounts and gold.

The emergence of the stock investment trends along with huge retail investments

occurred in mid-90s in the primary as well as secondary stock markets. The IPO boom near

the beginning of 90s saw that the retail investors were looking for investment in a major

portion of their investible spares in the stock marketplaces. The improved liquidity chasing

stocks likewise saw a rush in the BSE Sensex from below 2000 in 1992 to approximately

5000 as in 31 March 2000.

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 The asset management industry expansion also occurred in the same period in the

number of schemes, products as well as companies. The development and growth of the

industry over two decades is remarkable, taking into account that the industry is still quite

young. This is factual in all aspects, not just the scale of development of Assets under

Management (AuM). It relates to the formation of the evolved products along with the

human wealth and skill advancement. This ecosystem, which includes supported and

outsourced functions, has been formed and knit together from start.

The regulatory regime kept the rapidity with the varying environment and the AuM

of the asset management industry developed from 470 billion INR in 1993 to 1396 billion

INR in 2004 and to 8252 billion INR in 2014.

Figure 2.6: AuM Growth Trend in India

Source: Report on Indian Mutual Fund Industry released by CII at the Indian Mutual Fund Summit 2014 in

June 2014

While the industry has grown significantly and there is much to be satisfied about,

there are opportunities for improvement too. While the AuM has grown from

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approximately 470 billion INR as on 31 March 1993 to approximately 8,250 billion INR

as on 31 March 2014 (reflecting a CAGR of 14.6% over the last 21 years), the Sensex has

grown from approximately 2280.52 as on 31 March 1993 to 22,386.27 as on 31 March

2014 (reflecting a CAGR of approximately 11.5%). Quite naturally, the growth of the

Sensex and the AuM feed off one another and thus a portion of the AuM growth can be

attributed to the growth of underlying stocks and indices. Perhaps it might be useful to

revisit the broad savings and investment basket to help us review industry progress and

growth.

The industry has seen net flows of approximately 4900 billion INR from 2001to

2014 (an average of 352 billion INR per annum). The change in the financial assets (gross

financial savings) of the household sector in FY2012-13 was approximately 109,69 billion

INR, of which mutual funds attracted 274 billion INR (approximately 2.5%). Compared to

this, the amount held in currencies was approximately 10%, the amount invested in deposits

approximately 56%, life insurance gathered approximately 16% and pensions and

provident funds gathered approximately 14.5%. Moreover, change in financial assets

accounted for only a third of total household savings, the remaining two-thirds held in

physical assets such as gold and real estate. Would it therefore be fair to say that mutual

fund products do not enjoy what might be called a ‘fair’ share of the wallet? Are the mutual

fund products competing successfully against alternatives such as FDs, gold and lately real

estate? Mutual fund penetration in India is low as compared to global and peer benchmarks.

The AuM to GDP ratio stands at 7 to 8% as compared to a global average of 37%. Even

the SAAAME economy of Brazil, considered a peer emerging economy, is significantly

ahead, with an AuM to GDP ratio of 45% (Source – Source: Report on Indian Mutual Fund Industry

released by CII at the Indian Mutual Fund Summit 2014 in June 2014 ).

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 Increasing mutual fund penetration will largely depend on increasing investor

awareness at grass-roots level and providing access to financial services to the still largely

unbanked population. In its effort to increase investor awareness, the industry and the

Securities and Exchange Board of India (SEBI) have launched several initiatives. These

include literature and campaigns to propagate financial education to various investor

segments (including potential investors), such as school and college students, homemakers,

executives, etc. The two-pronged approach of increasing awareness of and access to

financial products and services has and will go a long way in increasing the penetration of

mutual funds in the country. While it might be uncharitable to compare this with similar

data from western economies, important lessons can be learnt from them as well, when

looking forward.

2.3.1. Investor Mix

The asset management industry held 39.5 million folios as on 31 March 2014, which

has declined from around 47.6 million as on 31 March 2009. The composition of the

sources of investment for the industry as a whole in 2009 and in 2014 is given here. This

shows that the industry has not managed to improve the share of retail and individual

investors in the AuM of the industry over the last decade. In the immediate period since the

above, there has not been a discernible change in statistical trends as yet. The industry AuM

from towns other than in the top 15 was approximately 871.4 billion INR as on 31 March

2012 and was approximately 1126.5 billion INR as on 31 March 2014 (reflecting a CAGR

of approximately 13.7%). This translates into 14.84% and 13.65% of industry AuM in the

respective years. Yet, it is true that there are investible surpluses available in cities beyond

the top 15, at least more than what has been presently pooled by the asset management

companies so far. The share of AuM from the top metros has remained relatively high and

recently SEBI has amended relevant guidelines to improve the economics of selling to

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investors in cities other than the top 15. This was done to revitalize mechanisms for

reaching the larger mass investor in Tier 2 and 3 towns, not only through distribution

economics but by enabling distribution through multiple channels such as retired

government employees, etc.

Figure 2.7: AuM in India by Geography in 2014

Source: Report on Indian

Mutual Fund Industry
released by CII at the Indian
Mutual Fund Summit 2014
in June 2014

2.3.2. Product Basket

Over the years the industry has developed an extensive product basket covering

various investment opportunities. However, the 80-20 rule applies. Over 80% of the AuM

is in less than 20% of the product categories. There room for simplification of the product

basket.

Figure 2.8: AuM in India by Investment Type in 2014

Source: Report on Indian

Mutual Fund Industry released
by CII at the Indian Mutual
Fund Summit 2014 in June 2014

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 2.3.3. Sales and Marketing

The industry has been operating on what we know as the ‘open architecture’ distribution

model, with no tied agents. Although the ability to invest directly now exists, the industry

is largely reliant on the distributor fraternity at the front end. Over the years, the distribution

economics have been changed to correct a few anomalies such as churn, etc. However, as

things stand, the number of AMFI registration numbers (ARNs) has declined from around

82,015 as on 31 March 2011 to 58,167 as on 31 December 2013. As the industry poses a

strong growth potential in all aspects, it also needs to analyze this trend in all its aspects.

Unfortunately, there may not be a ‘one-size-fits-all’ solution that will work.

Figure 2.9: Break up of AuM by Investor Type in 2014

Source: Report on Indian Mutual Fund Industry released by CII at the Indian Mutual Fund Summit 2014 in
June 2014

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