However, the minimum ticket for this, as per regulations, is ₹1 crore, and they are unsure if it really fits into their portfolio.
Meanwhile, Arindam, retired and in his mid-60s, has been carefully managing his corpus, which stands at ₹9 crore. His bank relationship manager has also proposed several AIFs to him, including private equity and real estate.
He feels he can afford to commit ₹1 crore, but given his age, he is wary of the long locked-in tenures. Additionally, he is unsure how to assess the risks involved.
Srinivas, 44, the founder of a chain of cafes, believes he has his finances sorted out. His investment portfolio is at ₹12 crore and diversified between listed equities, mutual funds and angel investments. He, too, has been hearing about venture capital funds for a while and is not sure if that’s something he should have exposure to.
Let’s go through a quick tutorial to assist these individuals in making an informed choice.
Structure: First and foremost, AIFs are ‘privately’ pooled vehicles (that’s why no newspaper advertisements), that invest in strategies different from traditional listed equity or debt, and are mostly suitable for investors willing to take higher risks for potentially higher returns.
Ticket Size: To create a filter and let in only sophisticated investors, the Securities and Exchange Board of India (Sebi) has prescribed a minimum ₹1 crore investment in AIFs. So as a starting point, an investor needs to evaluate if a single investment of this size really fits into their portfolio, or would it create too much concentration risk.
Types: There are three categories of AIFs in India (I, II and III) – of which I and II are primarily for making unlisted (and relatively illiquid) equity or debt investments into start-ups, growing and established corporates, real estate projects, infrastructure assets etc. Category III AIFs primarily invest into listed securities and we’ll keep them out of consideration in this column.
Liquidity: Category I and II funds are close-ended with a fixed life (plus possible extensions) where there is no option for an investor to redeem in between. Hence, you need to be comfortable with the money being locked away for say 5-8 years.
Periodic investments
Having said that, an AIF would typically call for your ₹1 crore in tranches over the first two-three years (as they make investments), and will make periodic distributions to you during the latter half of the fund life (as they exit investments).
Some interest or rent-yielding funds also make periodic distributions throughout the fund’s life. So, though the lock-in/illiquidity is not as draconian as it seems at first glance, an investor must have a clear view of their liquidity requirements before investing into an AIF.
Investment Strategy: An interesting consideration to think about is the differentiated investment universe that AIFs open up for investors. Currently, there are no comparable structures (regulated, actively managed, diversified) for investors seeking exposure to the world of upcoming businesses and asset owners that regularly need capital and are willing to pay a premium for it. Investors in AIFs thus get to participate in these potential growth stories in a regulated and structured manner.
Risks/Returns: The targeted returns of AIFs vary as per their strategy – venture capital funds are looking for high absolute returns; private equity funds are looking for high returns relative to public markets; while credit funds and real estate funds are looking at downside protection, on-going yield and mid-range returns. There are also focused funds investing into say, healthcare or AI or deep-tech. You have to see what strategy and sector suits your risk/return profile.
Costs: Having said that, these are funds that require active, specialised management from the fund managers. The fees and expense ratios therefore tend to be higher than a mutual fund. There is also the concept of carry or profit sharing where the manager gets a share of profits once investors have made a minimum hurdle return (typically 8-12% IRR). The idea behind profit share being that through such hands-on management and unique strategies, the investor could potentially earn a higher return compared to a mutual fund.
Benchmarking: When it comes to returns generated by AIFs, there is a bell-curve of performance just like other asset classes, like PMS and mutual funds. There are some laggards, many mid-tier performers and some superstars. But unfortunately, this is an asset class where information is not readily available in the public domain, so the investor or their advisor must evaluate the track record and seek benchmarking data from the fund manager before making a decision.
To summarise, let’s also examine how investors have responded to these positives and concerns.
Interestingly, AIFs in India are growing at a scorching 30%+ CAGR, with nearly ₹14 trillion committed across over 1,600 registered funds so far. As per some reports, over 73,000 investors have already invested in the asset class.
However, it’s essential to reiterate that each AIF is unique, and an investor must determine if and where it aligns with their asset allocation mix, taking into account their portfolio size, risk tolerance, return expectations, and liquidity considerations. What works for Smita may not work for Srinivas.
Ritesh Vohra is managing partner at Stoicap Ventures and teaches an executive program on AIFs at IIM Bangalore. Views are personal.
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