Sunday, August 31, 2003

The threefold path

Why funds have not found favour with small investors yet.
Gautam Chikermane
Despite the higher returns they offer and the superior levels of transparency they practise, the penetration of mutual funds in India is a meagre 6 per cent compared to 76 per cent for banks. A Sebi-NCAER study says only 3 per cent of India’s household savings is invested in shares, debentures and the UTI; the rest is in FDs (44 per cent), government-backed instruments including PF and pensions (32 per cent), insurance (11 per cent), and idle cash (10 per cent). This is easily explained: having grown on a staple of government-backed, high-assured-returns schemes, made juicier by tax benefits, households are completely averse to risk.
Which was fine till yesterday. It’s a different, riskier world today. First, the returns on small savings have crashed by more than 4 percentage points in as many years. Second, tax benefits are disappearing. Third, sacred institutions, including state governments, are defaulting. Fourth, there’s inflation, invisible yet deadly. The real return (the difference between interest rate and inflation) on the 6.5 per cent tax-free RBI Relief Bond works out to 2.3 per cent today. It hurts–ask the retired.
An alternative is in place, in the shape of a relatively clean and regulated mutual funds industry. But to scale up, the industry needs to do three things:
Opinion in Outlook Money