Understanding Retail Financial Products - 2 - Liquid Funds & FMPs

8/13/2019 Understanding Retail Financial Products - 2 - Liquid Funds & FMPs

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2/28

Insurance

Insurance

Insurance

Insurance

Products

Products

Products

Products

Invest

ment

Investment

Invest

ment

Investment

Products

Products

Products

Products

Credit

Credit

Credit

Credit

Products

Products

Products

Products


3/28

Session2

Session2

Session2


4/28

Risk Risk -+

SavingsBankDepos

its

S

hortTermDebt

Funds

LiquidFunds

LongTerm

DebtFunds

Gold

SecuredDebentures

BankFixedDeposits

FixedMaturityPlans

Unse

curedDebentur

es

SectoralEquityFunds

DirectE

quity

Hybri

dFunds

D

iversifiedEquityFunds


5/28

Risk Risk -+

SavingsBankDepos

its

S

hortTermDebt

Funds

LiquidFunds

LongTerm

DebtFunds

Gold

SecuredDebentures

BankFixedDeposits

FixedMaturityPlans

Unse

curedDebentur

es

SectoralEquityFunds

DirectE

quity

Balan

cedFunds

D


Attheen

dofsession1wehad

reachedh

ereonthe

spectrum

of

Inve

stmentPr

oducts.

Now,

welookalittledeeper

intotheLiquidFundsand

FMPs.


6/28

Risk Risk-+

LiquidFunds

FixedMaturityPlans

Let

us

now

get

backtoLiquid

FundsandFMPs.


7/28

Liq

uidFunds(alsocalled

CashFundsor

MoneyM

arketFund

s)areschemesthatinvest

theircorpusin

de

btinstrumentsofmaturity

between

1dayan

d180day

s,

buttypically

around30to60d

ays;them

aturityins

ome

casesm

aygouptooneyear.

These

securit

iesarehighlyliquid.

The

typicalinvestment

optionsforthesef

unds

includeTreasuryBills(issuedb

ygovernme

nts),

CommercialPapers

(issuedby

companies)and

CertificatesofDepo

sit(issuedb

ybanks).


8/28

*

Defaultrisk:S

incetheliqu

idfundsinvestin

veryshortmaturity

securities

they

car

ry

a

relativelylow

defau

ltrisk.

Also,asanorm

,the

liquidfu

ndsinvestinsecuritieswithahighcredit

quality

thatis,t

heyinvestinshortma

turity

governm

ent

securities

orfinanciallys

ound

compan

ies/banks.

LiquidFundshaveaverylowriskprofile:

*

Ma

rketrisk:A

gain,since

theliquidfu

nds

investin

veryshortmaturitysecuritiestheyc

arry

arelativ

elylowinterestraterisk.


9/28

Debtsecuritie

s,

traded

inthema

rket,

aresubjecttointerestraterisk

.

Thepricesofthesesecuritiesvaryas

the

gen

erallevel

ofinteres

tratesin

the

marketvariesw

henthein

terestrate

sgo

up,

thep

ricesofthesesecuritiesfall,and

vice

versa.


10/28

The

logicis

very

simp

le.

When

new

securitiespayinghig

herratesofinterestcomein

themarket,theold

ersecuritiespayinglower

ratesof

interestbe

comeless

valuablethe

demand

forthesese

curitiesfalls.

Sotheirp

rices

fall.

Wh

enthepricesofthesecuritiesfall,the

valueofholdingsofthefundsfa

lls.

Thisfallinthevalueofholdingsisreflected

intheNA

Vofthefun

d.

Thisisthe

int

erestrater

isk.


11/28

The

effectofa

changein

interestra

teon

theprice

ofthedebtsecurity

dependso

nthe

term

ormaturityofthesecur

itylonge

rthe

term,

hig

heristhee

ffect.


12/28

The

totalcorp

usofaMFisdividedinto

units.

E

ach

unit

represents

an

inve

stor's

proportio

nateowne

rshipofth

eportfolio

held

bytheM

F.

Thenetvalueoft

hisshareofthe

portfolioisNAV(NetAssetVa

lue).

Netvalue

oftotalpo

rtfolio

Netvalue

oftotalpo

rtfolio

Netvalue

oftotalpo

rtfolio

Netvalue

oftotalpo

rtfolio

dividedby

Totalnumberofu

nits

Totalnumberofu

nits

Totalnumberofu

nits

Totalnumberofu

nits

isequalto

NAV

NAV

NAV

NAV

Netvalue

oftotalpo

rtfolio

Netvalue

oftotalpo

rtfolio

Netvalue

oftotalpo

rtfolio

Netvalue

oftotalpo

rtfolio

dividedby

Totalnumberofu

nits

Totalnumberofu

nits

Totalnumberofu

nits

Totalnumberofu

nits

isequalto

NAV

NAV

NAV

NAV


13/28

SECURITIESANDEXCHANGEBOARDOFINDIA

MUTU

AL

FUN

DS

REG

ULATIO

NS,

1996

SECURITIESAND

EXCHANGEBOAR

DOFINDIA

MUTU

AL

FUN

DS

REG

ULATIO

NS,

1996

Comput

ationofNetAssetValue

48.(1)Eve

rymutualfun

dshallcompu

tetheNetAs

set

Valueofeachschemebydividin

gthenetassetsof

the

schemebythe

numberofun

itsoutstandingon

the

valuationdate.

(2)The

NetAssetVa

lueoftheschemeshallbe

calc

ulatedandpu

blishedatleastintwodaily

new

spapersatintervalsofnotexceedingone

week.


14/28

SincetheLiq

uidFunds

holdsecu

rities

withvery

shortmaturities,

theycarryver

ylow

interestr

aterisk.

As

wehaves

aidearlier,

theeffectofa

changeininterestrateonthepriceofthe

debt

security

dependso

ntheterm

ormatur

ityof

thesecu

ritylong

ertheterm

,higheristhe

effect.


15/28


16/28

Fixed

MaturityPlans

Fixed

Maturity

Plans(FMPs)arec

losed

(FMPs)arec

losed

endedM

Fschemes

investingindebtsecurities

endedM

Fschemes

investingindebtsecurities

withmediumtolong

maturities.

withmediumtolongmaturities.

CLOSEDENDEDSC

HEMES

CLOSEDENDEDSC

HEMES

CLOSEDENDEDSC

HEMES

CLOSEDENDEDSC

HEMES

CLOSEDENDEDSC

HEMES

CLOSEDENDEDSC

HEMES

CLOSEDENDEDSC

HEMES

CLOSEDENDEDSC

HEMES

Clo

seendedschemesaredefi

nedasschem

esin

whichtheperiodofm

aturityisspe

cified.

Intermsof

currentr

egulationfur

therpurchas

eofunitso

fthe

schemeis

notalloweda

fterinitialissue,butredem

ption

is

allowed

with

res

trictions,usually

asperiodic

redemptio

nfacility.Th

eschemesm

ayormayn

otbe

listedon

astockexcha

nge.

Incase

ofFMPs,how

ever,

redemptio

npriortoma

turityisnota

llowed,andlisting

ismandatory.


17/28

Sinc

eFMPsare

closedende

d,andthere

isno

provisionforpremature

redemption,

theyholdsecurities

withmaturitiesexactly

matchingth

eirownmaturities;

thatis,

iftheFMPiso

f13months

,theywill

investin

securitiesthataregoingtomaturee

xactlyin13m

onths

orearlier.

Sotheydonothavetos

ellsecurities

inthe

market.So

themarket

pricesofthe

securitiesthatthey

holdisof

noconseque

ncetothem.

Thereforetheydo

notcarryin

terestraterisk.

Thereforeonma

turity,

theFM

Psaresure

tobe

redeemed

attheirface

valueplusa

ccumulatedinterest

(minusthe

fundmanage

mentexpens

es);thereis

norisk

ofachang

einvalueduetointerestratemovements.


18/28

How

ever,beforethematuritytheinvestorsc

ansell

FMPsinth

emarket;inthemarketth

epriceofthe

FMPs

maynotbeequaltothe

irnominalvalue(facevalu

eplus

accumulated

interest

minus

the

fund

manag

ement

expenses

).Firstofall,

theywill

be

discountedforthe

waitingpe

riodtheonewhobuys

themhastowaittill

theirmatu

ritytogetbacktheinvestment.Their

value

mayalsoc

hangedueto

interestrate

movements.

The

marketrisk

inFMPsiszeroifthein

vestor

intendsto

holdthemtill

maturity;ifth

eintentionis

tosell

them

inth

emarket,theinvestoris

exposedtothefull

marketrisk

.


19/28

The

FMPsalso

carrydefault

riskeven

ifthe

investorintendstohold

themtillmatu

rity.

Thedefa

ultrisk

canarisefromtwofacto

rs

-maturitym

ismatch

-defaultby

theborrower.

Maturitymismatc

hariseswhe

nthefundinvests

any

part

ofthe

FMP

corpusin

securities

whose

maturities

arelongerth

anthoseoftheFMP.

So,when

theFMP

matures,

the

fundmay

havetosell

these

securities

inthemarke

t,andthem

arketpricem

aybe

lessthantheirnominal

value.

Insuchacase,th

efund

mayhavetodefaultontheredemptio

noftheFMPs.


20/28

The

defaultriskonaccounto

fthisfactorcanbe

assessedbycomparing

thematuritiesoftheFMPsand

ofthesecu

ritiesinwhichtheircorpus

isinvested.

The

secondfacto

rwhichgivesrisetodefaultrisk

inFMPsisthepossib

ilityofdefau

ltbytheborrower.

Underlying

everydebts

ecurityinwhichtheFMPinvests,

isaborrow

ingbyaborr

ower.Thepo

ssibilityofde

faultin

repaymentofprincipaland/orpay

mentofinterestby

thisborrow

ergivesrise

tothedefault

risk.

The

defaultriskonaccounto

fthisfactorcanbe

assessedfromthecred

itratingofth

eborrower.

WhatisCreditR

ating?

WhatisCreditR

ating?

W

hatisCreditR

ating?


21/28


22/28


23/28


24/28

CREDITRATINGPROCESS

CREDITRATINGPROC

ESS

CREDITRATINGPROC

ESS


25/28

ME

THODOLOGYFOR

RATING

ME

THODOLOGYFOR

RATING

C

REDIT

C

REDIT

ASSESSMENTOFBUSINESS

RISK.

ASSESSMENTOFFINANCIAL

RISK.

MANAG

EMENTEVALUATION

.

BUSINE

SSENVIRO

MENT

ANALY

SIS.


26/28

CREDITRA

TINGSY

MBOLS

AAA

:HighestSafe

ty

AA

:HighSafety

A

:AdequateSa

fety

BBB

:ModerateSa

fety

BB

:InadequateS

afety

B

:HighRisk

C

:SubstantialR

isk

D

:Default

CRISIL


27/28

Inv

estmentGrad

e

InvestmentGrad

e

LAAA

LAA+

LAA

LAA-

LA+

LA

LA-

LBB+

LBBB

LBBB-

CREDITRA

TINGSY

MBOLS

ICRA

Non

Non--

investmentG

rade

investmentG

rade

LBB+

LBB

LBB-

LB+

LB

LB-

LC+

LC

LC-

LD


28/28

Risk Risk -+

SavingsBankDepos

its

S

hortTermDebt

Funds

LiquidFunds

LongTerm

DebtFunds

Gold

SecuredDebentures

BankFixedDeposits

FixedMaturityPlans

Unse

curedDebentur

es

SectoralEquityFunds

DirectE

quity

Balan

cedFunds

D


Atth

eendofsession2,

wehavec

overedup

tohereon

the

spectrum

ofInvestm

entProdu

cts.

Inth

enextsessio

nwe

mov

efurtherupo

nthe

riskscale.

Documents

Understanding Retail Financial Products - 2 - Liquid Funds & FMPs