What is Side Pocketing, and How it affects Mutual Funds?
The mutual fund industry in India is growing at an exponential pace, and as an industry, it is continuously widening its investor base and also increasing its geographical spread. The market regulator SEBI plays an important role in the regulation of the mutual fund industry, protecting the interest of investors at all times and taking adequate measures as and when needed to boost investor confidence in both equity and debt mutual fund schemes.
Side pocketing in mutual funds is one such measure taken by SEBI to protect the interest of investors in debt mutual fund schemes in case of troublesome debt in the portfolio of the scheme.
What is side pocketing in mutual funds?
Side pocketing in mutual funds is the creation of a separate portfolio within the fund’s portfolio for assets that are illiquid, risky or distressed at the moment and have been downgraded by rating agencies below investment grade. Such assets are ring-fenced from the other high quality, liquid assets in the portfolio to protect and treated differently for investment and redemption to safeguard the interest of old as well as new investors in the scheme.
Side pocketing was introduced by SEBI in December 2018 after the IL&FS fiasco, where it failed to meet its debt obligations and repay its lenders and creditors. This, in turn, put significant pressure on various mutual fund schemes that had IL&FS papers as a part of its holdings. The complete mayhem resulted in substantial volatility in the debt and money market instruments resulting in redemption pressure in mutual fund schemes. High-quality, liquid assets in the schemes were sold by the funds to meet redemption requests resulting in increasing the exposure of remaining investors in the illiquid assets. Side pocketing mechanism is allowed only in debt mutual fund schemes.
How does it side pocketing work?
Whenever a debt instrument is downgraded by credit rating agency from an investment grade to a non- investment grade, the mutual funds have an option for creating a side pocket and segregating illiquid assets from the high-quality liquid assets.
The existing investors are allotted units in the leading portfolio and segregated portfolio on a pro-rata basis. No redemption and subscription are allowed in the segregated portfolio. Moreover, SEBI makes it mandatory for the fund to list the segregated portfolio on the stock exchange within 10 days to provide an exit window to the existing unitholders.
Depending upon their outlook, investors can either continue to hold their investment in the segregated portfolio or choose to exit at the prevailing rate. Any future recovery from the illiquid assets is credited in the side pocket portfolio and paid to the unit holder in proportion to his holdings.
Side pocketing impact on mutual funds and AMCs
- Side pocketing aids mutual fund schemes from selling quality assets in its portfolio to meet sudden redemption pressure in a panic situation.
- Creation of side pockets help insulate the remaining portfolio from troublesome debt
- To ensure that mutual funds do not misuse side pocketing, SEBI also suggests a list of safeguards that AMCs may implement.
Benefits of side pocketing in mutual funds
Over the last few months, many debt mutual fund schemes have side pocketing a portion of its portfolio if the ratings of the investment paper in its holdings have been downgraded by the credit rating agency. Side pocketing is important to protect the interest of retail investors in case of illiquid assets because credit defaults accompanied by information asymmetry, results in institutional investors taking advantage of the situation. The benefits of side pocketing in mutual funds include-
- It is an important mechanism to ensure stability and reduce volatility in the debt market by addressing the issue of redemption pressure in case of troubled assets
- It prevents distressed assets from hampering the returns generated by high quality, liquid assets
- At the time of selling the segregated assets, only those investors who have units in segregated assets on the record date are entitled to the proceeds, thus ensuring a fair treatment
- To avoid unfair advantage of lower valuation, fresh inflows are allowed only in the non-side pocketed portfolio
- As side-pocketing helps curb redemptions, it helps in stabilizing the net asset value (NAV) of the scheme
- In case of a situation arising due to sudden illiquidity, it provides cushioning to the portfolio.
- The most significant benefit of side pocketing is that all investors, retail or institutional are treated at par
Globally, side pocketing is one of the best mechanisms to protect the interest of investors, and SEBI as a regulator ensures that it takes timely measures and imposes adequate regulations for the AMCs to safeguard the interest of investors at large. If you have any specific query or doubt about side pocketing in mutual funds schemes, contact our experts at IndiaNivesh for guidance.
Disclaimer: Investment in securities market / Mutual Funds are subject to market risks, read all the related documents carefully before investing.
What Is a REIT (Real Estate Investment Trust) & How it works?
What is REIT? A well-diversified portfolio is important to achieve optimal returns on your investments and also minimize the overall risk of your investments. To create a balanced portfolio, it is important to invest in various asset classes that have a lower correlation to each other. A majority of investors today have a healthy mix of stocks, bonds, and gold in their portfolio for the same reason. Real estate, too, is an important asset class for a well-diversified portfolio as it has a very low correlation to stocks and bonds. However, even though, investing in real estate can be rewarding, not many investors have exposure in real estate primarily because real estate investments, especially, commercial real estate require huge capital that is financially out of reach for retail investors. REIT investments provide the perfect opportunity for such investors to diversify real estate and create an additional avenue of growth and income from their portfolio without actually owning any real estate properties. What is REIT? REIT or real estate investment trusts are securities that trade in real estate properties. REITs are companies that own, manage or operate income-generating real estate properties and provide investors with the opportunity to invest in these real estate assets that are otherwise out of their financial reach. REITs invest in commercial spaces like offices, shopping complexes, multiplexes, hotels, etc. and create a steady source of rental income through these investments. In a simple definition, REITs can be considered as a mutual fund of real estate, wherein investors buy shares of REIT and contribute money to a pool of funds that are professionally managed and invest the money in income-generating properties. Just like mutual funds REITs have a three-tier structure of having a sponsor- who has the onus to set up the REIT, a fund management company for selecting and operating the properties and a trustee to safeguard the interest of the unitholders. REIT investing provides an opportunity for investors to earn regular returns from the rentals and leasing income of the trust and also long-term gains by way of capital appreciation of the underlying real estate. How does a company become eligible for REIT? A company is not eligible as REIT only because it owns some real estate. Here are some specific requirements which it needs to fulfil to become eligible for REIT-: REITs must have an asset base of Rs 500 crores REITs must distribute 90% of their profits as dividends to the unitholders REITs must invest 80% of the funds in real estate that is generating income, and only 20% can be invested in under-construction properties REITs must update their NAV twice in a year How does real estate investment trust work? The real estate sector has immense potential in India and as the government is continuously working towards creating world-class infrastructure and development of the real estate. As quality properties are high on investment so they are potentially out of reach for the common man. However, investments in REIT funds enable investors of varying financial capacity to invest in the real estate sector and participate in the growth and development of the real estate and earn profits from their investment. REIT funds are the perfect gateway for investors to invest in high-quality real estate assets by making them affordable and within their reach. Broadly speaking there are three types of REITs which currently operate in India Equity REITs- These REITs own large real estate properties like shopping malls, business centres, hotels, residential townships and make money by giving properties either on rent or lease agreements. The rental income earned is distributed as dividends to the unitholders Mortgage REITs- These REITs are not owners but provide finance to real estate projects of developers, builders, owners, etc. and earn income in the form of EMI and the Net Interest Margin is distributed as profits among the unitholders Hybrid REITs- These are companies which have both Equity and Mortgage REITs What are the advantages to investors investing REIT? REIT investing is the simplest and least capital intensive way of investing in real estate making it affording for an average investor to invest in them REIT, even though, are securities but represent real-estate, that is a separate asset class, thus diversifying your portfolio which has a low correlation to stocks As most of the investments in REITs are in steady income-generating properties by way of rentals, they are a reliable source of income for investors looking for a steady income. Moreover, they provide the opportunity of capital appreciation over the long-term as the value of the property goes up Strict regulations and norms of SEBI ensure transparency in operations and decrease the chances of fraud What are the risks of investing in REIT? Real estate is a great asset class for long-term investment purpose, and REIT provides a great alternative for retail investors to invest in real estate directly, as in investor you should be aware of certain REIT risks associated with your investment- The minimum investment amount of REIT is Rs 2 lakh, which is small when compared to directly investing in real estate but still a sizeable chunk of investible surplus for many investors Mortgage REITs are debts used to finance debts and subject to interest rate risk and default risk of the debtors REITs are required to pay 90% of their income as dividends, thus leaving very little capital for the trust to acquire newer properties REITs invest in high investment assets and hence trading in and out of REITs involves high transaction costs CONCLUSION The regulatory framework for REIT in India is very stringent, and SEBI guidelines and norms for REITs ensure that the interest of investors is safeguarded at all times when it comes to REIT investments. If you are looking out for exposure in quality real estate, then REITs may be the perfect investment option for you. Reach out to our experts at IndiaNivesh, who can guide you with the ins and outs of REIT investment in India best suited for you. Disclaimer: Investment in securities market / Mutual Funds are subject to market risks, read all the related documents carefully before investing.
What is a Unit Linked Insurance Plan, Types & Benefits
What is ULIP? Insurance plans are meant to provide financial security to you so that in case of premature demise, your family does not face any financial trouble. Though insurance plans provide unmatched financial security, many individuals also seek good investment returns on their premiums. Keeping this sentiment in mind, ULIPs were launched in the year 2000 when private life insurers were also allowed to operate in the insurance domain. Today, ULIPs have become quite popular, and insurance companies are offering different types of ULIPs to their customers. Let’s understand ULIP meaning in detail and its benefits – What is a ULIP plan? ULIP’s full form is Unit Linked Insurance Plan. A ULIP is an investment-oriented life insurance plan. The plan gives you the dual benefits of investment returns and insurance coverage. The premiums that you pay for the plan are invested in market-linked investment funds, which offer attractive growth. Returns under ULIPs are, therefore, not guaranteed but can be attractive if given time. How do ULIPs work? ULIPs are considered to be a transparent insurance plan as the premiums you pay, and the growth can be easily monitored. When you buy a ULIP, you can decide the amount of premium you wish to pay (provided it is at least the minimum required premium under the plan). The sum assured is then calculated based on the amount of premium paid. ULIPs have different kinds of investment funds which include the following – Equity fund wherein at least 65% of the portfolio is invested in equity-oriented securities Debt fund wherein at least 65% of the portfolio is invested in debt-oriented securities Balanced fund which combines both equity and debt investments for moderate risks and moderate returns You can choose one or more of these investment funds as per your risk appetite. After that, relevant charges are deducted from the premium, and the premium is directed towards the selected fund. As the value of the underlying assets grows, the value of the fund grows. Your investment in the fund also grows, and you get market-linked returns. ULIPs also provide you with various flexible benefits which are as follows – Switching – under switching, you can change the investment funds if your investment preference has changed Partial withdrawal – you are allowed the flexibility of withdrawing from your fund value partially after the first five years of the policy have expired Top-ups – additional investments can be done towards the plan through top-up premiums Premium redirection – you can choose to redirect your subsequent premiums to another fund from the next policy year under this facility Surrender of the plan – if the first five years of the policy have been completed, you can surrender your policy to terminate the coverage before the chosen term. When the policy is surrendered, the available fund value is paid as surrender value, and the plan is terminated. Benefits payable under ULIPs Under most unit-linked plans, you get either a death benefit or a maturity benefit. These benefits are as follows – Death benefit – the death benefit is higher of the available fund value as on the date of death or the sum assured. If the fund value is higher than the sum assured, the fund value is paid otherwise, the sum assured is paid. Maturity benefit – when the term of the plan comes to an end, the fund value is paid as maturity benefit. The maturity benefit can be taken in a lump sum, or you can also avail the benefit in instalments over the next five years through the settlement option feature, which is available under most unit-linked plans. Types of ULIPs Though ULIPs are aimed at creating wealth, there are different types of ULIPs based on the financial goal that they fulfil. These types include the following – Investment ULIPs Investment ULIPs are the most common unit-linked plans which aim to create wealth over the term of the policy. Child ULIPs Child ULIPs are especially designed unit-linked plans for the financial security of the child if the parent is not around. Under these plans, the parent is insured while the child is the beneficiary. These plans have an inbuilt premium waiver rider. If the parent dies during the policy tenure, the death benefit is paid. However, the plan does not terminate. The policy continues, and future premiums are paid by the company on behalf of the insured parent. On maturity of the policy, the fund value is again paid as the maturity benefit which provides the child with the financial corpus needed to pursue his/her dreams. Pension ULIPs These are other specific unit-linked plans which help in creating a retirement fund. Pension ULIPs are deferred annuity plans wherein you pay premiums during the policy tenure to build up a retirement corpus. In case of death, the death benefit is paid. However, if the policy matures, pension ULIPs allow you to receive annuity pay-outs from the corpus created or defer the vesting age from which you would receive an annuity, or withdraw 1/3rd of the corpus in cash and use the remaining fund value to receive annuity payments. Thus, pension ULIPs create a source of income after retirement and are suitable for individuals looking to fulfil their retirement planning needs. Benefits of ULIP A ULIP is popular because of the following benefits it provides – It allows you to avail insurance coverage as well as investment returns in a single product The premiums paid and the benefits received under ULIPs are completely tax-free in nature helping you save tax The flexible benefits of ULIPs allow you to manage your investments as per your investment strategy The different types of ULIPs help you fulfil the various financial goals that you might have Switching and partial withdrawals do not attract any tax making ULIPs tax efficient Since the returns are market-linked, you get inflation-adjusted returns from ULIP ULIPs are attractive insurance policies that give you coverage as well as returns. Now that you understand ULIP meaning, its types and advantages, use our IndiaNivesh platform to invest in a plan as per your insurance and investment needs and enjoy all the benefits that the plan has to offer. Disclaimer: Investment in securities market / Mutual Funds are subject to market risks, read all the related documents carefully before investing.
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