The concept of specialized investment funds (SIFs) was allowed by the Securities and Exchange Board of India (Sebi), in the space between mutual funds meant for the masses and portfolio management schemes and alternative investment funds (PMS/AIFs) meant for the classes. SIFs can have a different risk-return profile than MFs, and the target audience in the mass affluent segment is expected to have a better understanding of the risk-return profile than the masses.
After the initial stage of boardroom deliberations and specific approvals from Sebi, a few SIFs have been launched, and more are in the offing. We discuss how you should look at it for your investment portfolio at this point in time.
Product differentiation with MFs
To understand the differentiation in SIFs, we will compare them with MFs, as that is something we are familiar with. While there are quite a few parameters where SIFs are different from MFs, the most prominent is the allowance for long-short funds in SIFs. In MFs, derivatives can be used only for the purpose of hedging.
For example, arbitrage schemes of MFs take a short or sell position in stocks available in the portfolio, and to the same extent as the exposure. The overall short or sell positions in the portfolio of an arbitrage fund are the same as the stocks in the portfolio–e.g. if 65% is in equity, then the contra or short position is also 65%. Similarly, balanced advantage funds (BAFs) take short positions in certain stocks in the portfolio, as per the valuations in the market. However, the contra or short positions in a BAF are less than the equity component of the portfolio. This is known as hedged exposure–i.e. a short position in derivatives against stocks in the portfolio.
However, SIFs are allowed to have short or sell positions in derivatives of stocks not in the portfolio. This is known as an unhedged or naked position in derivatives. Called a long-short strategy, it is only allowed in SIFs. The implication is that the fund manager intends to benefit from prices going up in stocks where s/he is long (i.e. the stock is there in the portfolio) and benefit from prices coming down in stocks/indices where s/he is short (i.e. sell position in derivatives). This unhedged position is allowed up to 25% of the portfolio.
As per general understanding in the market and Sebi, a long-short strategy is a higher-risk, higher-return strategy compared to a long-only strategy offered by a plain vanilla MF portfolio of stocks. But SIF managers coming up with long-short funds are calling it a lower-risk, higher-return strategy. This statement may be a marketing pitch, and may even play out in certain market conditions, provided the fund manager gets the calls right. In a conventional long-only MF product, when the market is tanking, the fund manager can at most have some cash in the portfolio instead of stocks. In an SIF, the fund manager can benefit from the short position in derivatives, up to 25%. However, in a non-trended market, the separate long and short positions can take a hit if the call goes wrong.
Evaluation parameters
For you as an investor, looking at an SIF, the relevant parameters are:
- Returns: There is no track record as of now as SIFs are just getting launched. Only in the future will we be in a position to compare the performance with MFs.
- Liquidity: Liquidity of exposures in your portfolio is relevant. Having said that, everything need not be liquid as in certain investments, the fund manager needs time for the strategy to play out. There would be a liquid component in your portfolio–like liquid funds or debt funds.
- Strategy: If you like the strategy of an SIF product, consider how it fits into your portfolio. If it suits your objectives, it is good for you.
- Product positioning: Currently, some SIFs are positioned as ‘arbitrage plus’–on the risk-return scale, slightly higher than arbitrage funds of MFs. Some are relatively aggressive long-short funds. Look at the extent of open equity in the portfolio. Open equity refers to the unhedged equity component of the portfolio, which moves up and down with the market.
- Taxation: SIFs are offered by fund houses and the tax treatment is the same as MFs. Hence, over an adequate holding period, you get the efficient taxation rate of 12.5% plus surcharge and cess.
- Ticket size: It is a minimum ₹10 lakh in SIFs, but that is across funds from the same house. Sebi allows up to 7 SIF funds per house.
Joydeep Sen is a corporate trainer (financial markets) and author
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