Piyush Gupta: Liquid Fund was a major category, and is still a major category today. Much of the money would be dominated by institutional investors. Even though retail investors were investing money, a large portion of assets under management is still dominated by institutional investors.
There are a few things that have happened with regards to the category, which has led to the flat AUM we’ve seen over the past two years.
First, over the past two years, interest rates have been at a lower level. If you look at 2020 and 2021, short-term interest rates have been extremely low, which means that even Liquid Fund category returns have seen a decline. If you were to look at the period before maybe 2020, i.e. 2019, the average return would turn out to be around 6% or so.
If we look at the last two years, returns have averaged around 3-3.5%. So it’s a factor that came into play.
Second, there are structural changes that have occurred. For example, previous liquid funds were allowed to amortize the returns of the underlying holdings, which meant that the volatility of performance was limited.
After 2020, gradually, what has happened is that the entire portfolio of liquid funds is now marked to market, which means that the change in the interest rate has an impact on the price of the underlying securities. It also means that the portfolio managers have reduced their maturity, compared to the previous period of 2019 or 2018.
There is also the introduction of a seven-day exit charge that has come into effect. This means that anyone who exits a liquid fund within seven days must pay an exit charge. Sometimes the returns may not be sufficient even to cover this output load.
Institutional investors, who may be storing cash for a period of less than seven days, have begun to consider an alternative option in the form of demand funds, as the returns between demand and liquid funds do not are not very different. So if we were to do a cost-benefit analysis, might as well put money in an Overnight Fund if my horizon is less than seven days compared to a Liquid Fund.
The drop in performance is also due to the fact that liquid funds must have at least 20% of their portfolio in cash and cash equivalents, which means short-term instruments like reverse repos or perhaps treasury bills (bills Treasury), etc. and so on. Yield-generating capabilities are even more limited, given that they must construct a portfolio in this manner.
So those are some of the factors that have played out for liquid funds in terms of the slight drop in traction in terms of category that we’re seeing.