The Rise Of Passive Funds

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Oct. 18, 2021

The Indian Mutual Fund Industry has grown manifold in the last few years. The total assets managed by the industry has more than doubled in the last 5 years to reach ₹37 trillion as of September-2021. In the last 10 years, the assets under management have increased almost six times. Relative to Banks’ the assets managed by Mutual Funds have risen to more than 20% of Bank Deposits and 40% of Bank Fixed Deposits. The point is that the Mutual Industry has grown rapidly in the last few years and has become reasonably large relative to the Banks.

Historically, the mutual fund industry has been dominated by actively managed funds. These funds are designed to generate ‘alpha’ and in return, the Asset Management Company charges an extra fee. While even today the actively managed funds dominate the total assets of the industry, at the margin, things are changing. Passively managed funds are growing faster than actively managed funds and the composition of funds is changing, especially in incremental terms.

As of September-2021, passively managed funds constituted 11% of the total assets of the industry. While this is small, 5 years back passively managed funds constituted just 2% of assets. In just the last 2 years, the share of passively managed funds has increased by almost 5ppt. In terms of flows, the picture is even stark. Almost 35% of the net inflows since April-2019 in the industry have gone into passively managed funds.

A large part of this trend is due to the EPFO investing a part of its corpus into ETFs (beginning with 2015-16). Thus almost 90% of the passive money managed by mutual funds is in non-Gold ETFs, an overwhelming majority of which will be the EPFO corpus. This is thus institutional money (although end beneficial owners are hundreds of thousands of employees. But Index Funds which are mostly subscribed to by non-institutions have also seen strong inflows in recent months. Thus, while Index funds in aggregate constitute less than 1% of total assets of the industry, they have attracted 4% of total net inflows since April-2019 and YTD (April-Sept 2021) they have constituted 6% of net inflows.

Admittedly, this is still a small number. But given that most of the Index funds are equity-oriented if we compare to just the equity funds, the numbers are material. In the last 2.5 years, inflows under Index funds totalled 20% of the inflows under Equity funds.

Whichever way one looks at the data, the conclusion is broadly the same. While in terms of total assets the passive funds are still small, incrementally they are attracting a far bigger share of the money/net inflows. There are three interesting questions that follow from this. 

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