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The Indian mutual fund industry is said to have entered a high-growth phase and is projected to double in size in the next 5 years. This growth, according to KFin Technology's draft IPO prospectus, will be driven by five major factors ranging from India's economic growth to tax benefits associated with mutual fund investments.
Here are the key factors and how they will impact mutual funds positively:
Economic growth
The report said that mutual fund industry will benefit from the projected 11% growth in nominal GDP between FY 2021 and FY 2025. "Economic growth, coupled with rise in middle-income population and increase in financial savings is expected to boost mutual fund industry in India," it said.
Financial inclusion and investor education
Regulatory and government initiatives aimed at raising financial awareness among the masses will lead to higher penetration of mutual funds, the report said. "CRISIL Research believes that investor education, coupled with better risk management and transparency within the mutual fund industry will boost investor confidence and lead to increased investments and growth in the industry."
Retirement planning and tax benefits
Retirement planning is an untapped market in India and if channelled through mutual funds, has the potential to significantly improve penetration among households, said the report, adding that substantial proportion of young population offers huge potential for mutual funds in retirement planning.
Similarly, the tax benefits of ELSS is likely to boost the growth of mutual funds as more and more people join the formal sector.
Risks and challenges
Mutual funds may have a lot of growth drivers but they face equal number of challenges that range from taxation to competition from other financial products.
Let us look at them one by one (as shared in the prospectus):
Stamp duty
Starting July 1, 2020, a stamp duty of 0.005% is charged on all mutual fund purchases. The duty has emerged a roadblock in the growth of mutual funds as it makes transactions costly. "This move has impacted large corporates, which mostly put their money in liquid funds for shorter periods," the report said.
Downturn or volatility in mutual funds and other market-linked products
Retail participation and inflows into mutual funds and other market-linked products are heavily influenced by market performance and sentiment. Any downturn or volatility could make investors shy away from market-linked products and push them towards less risky assets, the report said.
Competition from other financial instruments
ULIPs pose strong competition to mutual funds. "Insurance products such as unit-linked investment products (‘ULIPs’), which provide dual benefits of protection and long-term savings, are competing for market share".
High cost of retail expansion
Expanding into the B30 markets would require substantial investments in marketing and distribution, which could exert pressure on profit margins of fund houses.
Political instability or shift away from the pro-growth policy
Political instability in India or regions across the globe, any harsh protectionist measures by larger economies, or faster-than-required tightening of monetary policy could impact growth and global trade, CRISIL said in the report.
