CHAPTER III MUTUAL FUND INDUSTRY IN INDIA 3.1. Introduction India is the fifth largest economy in the world and it ranks above France, Italy, the United Kingdom, and Russia. It has the third largest GDP in Asia. It is the second largest of the emerging nations. India is also one of the few markets in the world which offer high prospects of growth and earning potential in all sectors of business. The Indian capital market has been increasing tremendously during last few years. With the reforms of economy, reforms of industrial policy, public sector, and the financial sector, the economy has been opened up and many developments have been taking place in the Indian capital market. In order to help the small investors, mutual fund industry has come and occupies an important place 1 . A mutual fund is a trust or an investment company that pools resources from thousands of investors who share investment goals and then diversifies its investment into different types of securities in order to provide 1. Nalini Prava Tripathy, (1997), Mutual Fund in India A financial service in Capital Market, edited by Mathur B.L., Changing Profile of Financial Services, Discovery Publishing House, New Delhi, p.21.
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CHAPTER III
MUTUAL FUND INDUSTRY IN INDIA
3.1. Introduction
India is the fifth largest economy in the world and it ranks above
France, Italy, the United Kingdom, and Russia. It has the third largest GDP in
Asia. It is the second largest of the emerging nations. India is also one of the few
markets in the world which offer high prospects of growth and earning potential
in all sectors of business. The Indian capital market has been increasing
tremendously during last few years. With the reforms of economy, reforms of
industrial policy, public sector, and the financial sector, the economy has been
opened up and many developments have been taking place in the Indian capital
market. In order to help the small investors, mutual fund industry has come and
occupies an important place1. A mutual fund is a trust or an investment company
that pools resources from thousands of investors who share investment goals and
then diversifies its investment into different types of securities in order to provide
1. Nalini Prava Tripathy, (1997), Mutual Fund in India A financial service in Capital Market,
edited by Mathur B.L., Changing Profile of Financial Services, Discovery Publishing
House, New Delhi, p.21.
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potential returns and reasonable safety. The emergence and rapid growth of
mutual fund can be described to the diversified dimension of the Indian capital
market. It has become a major vehicle for the mobilization of savings, especially
from small and house hold savers for investments in capital market. Indian
households started allocating more of their savings into the capital markets in
1980s, with investments flowing into equity and debt instruments, besides the
conventional mode of bank deposits. Until 1992, primary market investors were
effectively assured good returns as the issue price of new equity shares was
controlled and low. After introduction of free pricing of shares, new issue prices
were higher and with greater volatility in the stock markets, many investors who
bought highly priced shares lost money. Even those investors who continued as
direct investors in the stock markets realized that the key to successful investing
in the capital markets lay in building diversified portfolio, which in turn required
substantial capital. Besides, selecting securities with growth and income
potential from the capital market involved careful research and monitoring of the
market, which was not possible for all investors. Various scams in stock market
like Harsheth Metha , Ketan Parek, Satyam Computers etc reduced the
confidence of investors those who are directly invest in shares. Under these
circumstances mutual funds are the best alternative investment to direct
investment in capital market.
3.2. History of Mutual Fund in India
The mutual fund industry in India started in 1963 with the
formation of Unit Trust of India, at the initiative of the government of India and
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Reserve Bank of India. The history of mutual funds in India can be broadly
divided into four distinct phases.
3.2.1. First Phase – The Monolithic Phase (1964-87)
Unit Trust of India (UTI) was established on 1963 by an Act of
parliament. It was set up by the Reserve Bank of India and functioned under the
regulatory and administrative control of the Reserve Bank of India. In 1978 UTI
was de-linked from the RBI and the Industrial Development Bank of India (IDBI)
took over the regulatory and administrative control in place of RBI. The first
scheme launched by UTI was Unit Scheme 1964 (US-64), which attracted the
largest number of investors in any single investment scheme over the years. UTI
launched more innovative schemes in 1970s and 80s to suit the needs of different
investors. It launched ULIP in 1971, six more schemes between 1981-84,
Children's gift growth fund and India fund (India's first offshore fund) in 1986,
Master share (India’s first equity diversified scheme) in 1987 and monthly
income schemes (offering assured returns) during 1990s. By the end of 1987,
UTI's assets under management grew ten times to ` 6700 crores2.
3.2.2 Second Phase – 1987-1993 (Entry of Public Sector Funds)
The Indian capital market had undergone an unprecedented
transformation in its over 100 years history by the end of 1987. This year marked
the entry of non- UTI, public sector mutual funds set up by public sector banks
and Life Insurance Corporation of India (LIC) and General Insurance Corporation
of India (GIC). SBI mutual fund was the first non- UTI mutual fund established
in June 1987 followed by Canbank mutual fund (Dec 87), Punjab National Bank
2. AMFI Mutual Fund Work Book, p.7.
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mutual fund (Aug 89), Indian Bank mutual fund (Nov 89), Bank of India (Jun
90), Bank of Baroda mutual fund (Oct 92). LIC established its mutual fund in
June 1989 while GIC had set up its mutual fund in December 1990. At the end of
1993, the mutual fund industry had assets under management of ` 47,004 crores.
From 1987 to 1992-93, the fund industry expanded nearly seven times in terms of
asset under management. However, UTI remained to be the leader with about 80
per cent market share.
3.2.3. Third Phase – 1993-2003 (Entry of Private Sector Funds)
A new era in the mutual fund industry began with the permission
granted for the entry of private sector funds in 1993, giving the Indian investors a
wider choice of fund families and increasing competition for the existing public
sector funds. Also, 1993 was the year in which the first mutual fund regulations
came into being, under which all mutual funds, except UTI were to be registered
and governed. The erstwhile Kothari Pioneer (now merged with Franklin
Templeton) was the first private sector mutual fund registered in July 1993. The
1993 SEBI (Mutual Fund) regulations were substituted by a more comprehensive
and revised mutual fund regulations in 1996. The industry now functions under
the SEBI (Mutual Fund) regulations 1996. The number of mutual fund houses
went on increasing, with many foreign mutual funds setting up funds in India and
also the industry has witnessed several mergers and acquisitions. As at the end of
January 2003, there were 33 mutual funds with total assets of ` 1,21,805 crores.
The Unit Trust of India with ` 44,541 crores of assets under management was
way ahead of other mutual funds.
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3.2.4. Fourth Phase – since February 2003
In February 2003, following the repeal of the Unit Trust of India
Act 1963 UTI was bifurcated into two separate entities. One is the specified
undertaking of the Unit Trust of India with assets under management of ` 29,835
crores as at the end of January 2003, representing broadly, the assets of US 64
scheme, assured return and certain other schemes. The specified undertaking of
Unit Trust of India, functioning under an administrator and under the rules
framed by government of India and does not come under the purview of the
mutual fund regulations. The second is the UTI Mutual Fund, sponsored by SBI,
PNB, BOB and LIC. It is registered with SEBI and functions under the mutual
fund regulations. With the bifurcation of the erstwhile UTI which had in March
2000 more than ` 76,000 crores of assets under management. In 2007, mutual
funds were permitted to introduce gold exchange funds and also the guidelines
for ‘Capital Protection oriented scheme’ were notified by SEBI. As on March
31st 2010, the total AUM is ` 614545.98 crores.
3.3. Management of Mutual Funds in India
A mutual Fund is set up in the form of a trust. The three tier
structure of mutual fund is as follows:
• Sponsor
• Trustee Company/Board of Trustees
• Asset Management Company
3.3.1. Sponsor
Every mutual fund has a sponsor. The trust is established by a
sponsor or more than one sponsor who is like the promoter of the company. The
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sponsor establishes the mutual fund and registers it with SEBI. He also appoints
the trustees, the custodian and the asset management company in accordance with
SEBI regulations. The sponsor has to contribute at least 40 per cent of the net
worth of the AMC3. For example, for SBI Magnum, the sponsor is the State
Bank of India.
3.3.2. Trustee
The trustees of the mutual fund hold its property for the benefit of
the unit holders. They are the first level regulators of the mutual fund and are
governed by the provisions of Indian Trust Act 1908. It is the responsibility of the
trustees to protect the interest of investors whose fund is managed by the AMC.
Trustees must ensure that the transaction of the mutual fund is in accordance with
the trust deed. Trustees must furnish to SEBI, on half yearly basis, a report on the
activities of the AMC4.
3.3.3. The AMC
The investment manager in a mutual fund is technically known as
asset management company5
. The trustees appoint the asset management
company (AMC) with the prior approval of the SEBI. The AMC is a company
formed and registered under the Companies Act 1956, to manage the affairs of
the mutual fund and operate the schemes of such mutual funds. It charges a fee
3. Madhu Sinha, (2008), Financial Planning: A Ready Reckoner, Tata McGraw Hill Limited,
New Delhi, p.201.
4. Sasidharan, Alex K Mathews, (2008), Financial Services and System, Tata McGraw- Hill