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Capital Protected Funds SEBI has recently given the nod for Mutual Funds to launch ‘capital protection oriented schemes’, under which investors are assured of their investment (capital). So, what is a ‘Capital Protected Fund’? How does it work? And how beneficial is it for you? The Concept This works on a simple principle. If you invest Rs. 1,00,000 in such a fund, with a 3 year maturity (SEBI has stated in its circular that all capital protected plans must be close-ended, which means there is no exit and the investor has to hold till maturity), the fund will invest a major portion of your money in a basket of 3-year bonds. For instance, if the 3-year bond yield is 8.5% then the portion of the capital that will get invested in bonds would be around Rs. 79,000, which during maturity will be Rs. 1,00,906 (i.e. Rs. 79,000 x (1+8.5%) ^ 3 = Rs. 1,00,906). So the portion invested in bonds “protects” your capital, leaving the balance Rs. 21,000 free to be invested aggressively to generate returns for you. The major risk to your capital, of course, is credit risk – i.e. when the issuer of a bond defaults. To avoid this, a typical capital protected fund may just buy very few bonds of high quality (mostly government bonds). In fact, capital protected funds also need to get a rating for the quality of the protection from a reputed rating agency. What happens to the unprotected part? The balance 10%-20% of your investment amount will typically find its way into equities (and derivative instruments in some cases), which will provide the returns in line with the market. Since only a small portion is invested in equities, the impact on the overall return of the fund is limited and is dependent on the fund manager's ability to deliver higher returns. Let us get back to the above example, where Rs. 79,000 of your investment is in debt and Rs. 21,000 is in equity. The current 3-year yield of bonds is 8.50%. Your debt component grows back to Rs. 100,906. thereby protecting your capital. The balance Rs. 21,000 is invested in equities to earn market return (the tables below show the maximum & minimum return on a 3-year basis on Sundaram BNP Paribas Growth Fund).
Best and worst 3-year returns generated by Sundaram BNP Paribas Growth Fund between Apr 1, ’99 to Sep 20, ’06. A total of 641 returns were generated, by computing 3-year returns on a daily basis. Past performance may or may not be sustained in the future. As can be seen, in either case, your capital is protected. But if the market is favourable, the possibility of you earning more returns than the normal fixed income instruments is higher. Investors should not expect terrific returns from capital protected funds. Since the investments are made in very safe instruments, the returns are relatively low, but with a 3 to 5 year horizon, one can be assured that the equity part will provide the necessary fillip while the capital remains protected. Capital protected plans are ideal for investors who would want to ensure that their money is safe, but would want to aim a little higher than what they traditionally make from fixed income instruments. Courtesy: Sundaram BNP Paribas Mutual Fund. Risk Factors : Please refer the offer document before taking any investment decision. Past performance may or may not be sustained in the future. |
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