Reliance and ICICI Prudential have come out with closed end equity funds having exposure to stock options.
Fund house are adding extra spice in equity funds to attract investors with a higher risk appetite. Recently, Reliance and ICICI Prudential have come out with three year closed end equity funds which will have exposure to stock options. So far usage of options has been limited to arbitrage funds and PMS products.
While Reliance Mutual Fund has launched a 3 year close end Reliance Capital Builder II - Series B, ICICI Prudential has came out with its 3.5 years closed end fund called ICICI Prudential Growth Series 7. These schemes will invest up to 80% of their net assets in large and mid-cap stocks and remaining 20% in stock options. Both fund houses claim that the direct equity can help generate alpha while stock options would enhance market participation through long term tactical calls.
Citing an example on how stock option works, Reliance Mutual Fund, in a presentation sent to Cafemutual, explains it thus, “Investor buys a call option on Nifty Index (underlying asset) Option Premium price is Rs. 1640 and the strike price is Rs.8200 (strike price will be closer to the current value of the underlying). Let us assume that Nifty goes up by 20%, i.e., 1640 points to close at 9840 at the time of maturity. The option value at the time of maturity will be 3280 (1640 + 1640). Notice how the 20% movement in the underlying asset, translated into a 100% return on options. In this case, the option is said to have given 100% market participation. Thus, buyer of call options enjoys unlimited upside.”
“On the other hand, if the underlying asset had not appreciated (or had moved below the strike price), the option value will be zero. The investor would have lost out on the option premium price paid. Therefore, on the downside, the investor is liable to lose the option premium (at worst) and hence, is said to have limited downside,” added the note.
Recently, in an interview with Cafemutual, Manish Gunwani, Senior Fund Manager, ICICI Prudential who is the fund manager of ICICI Prudential Growth Fund Series 7 claimed that an exposure to stock option in the fund can maximize its returns. He said that they will use call and put option whenever the market is volatile.
Vinod Jain of Jain Investments is of the view that such funds are meant for investors having high risk appetite. “These funds can deliver higher returns when market goes up compared to a plain vanilla equity funds. However, the chances of losing money when the markets fall is high. Hence, only investors having high risk appetite should consider such products. Also, advisors should make their clients understand the product before recommending.”
Hemant Rustagi of Wiseinvest Advisors believes that retail investors should avoid these funds. “There are a few PMS products which offer exposure to stock options. Though such funds have an ability to perform better in a bull run, the impact of bear phase can be disastrous on performance. Also, retail investors may find it difficult to understand the complex structure of this product. Hence, they are better off with plain vanilla equity funds.”
“There are already some open end equity schemes which invest in stock options. These funds are not unique and investors should stick to funds having good track record,” said Suresh Sadagopan of Ladder7 Financial Advisories.
