The turmoil in the mutual fund (MF) industry is hurting the outlook for asset management companies (AMC). From their mid-February highs, shares of Nippon Life Asset Management Co. Ltd and HDFC Asset Management Co. Ltd are down 26% and 46%, respectively.
With debt and equity assets under management (AUM) falling since March, asset managers will see lower fees. This will squeeze profitability in the coming quarters.
Loan funds have been struggling for two years. With some indebted companies defaulting from time to time, investor confidence in debt funds has been shaken. After Franklin Templeton Asset Management (India) Pvt. Ltd closed up to six debt programs last week, the problems have only grown.
While debt assets under management are generally up so far in April, there has been an increase in redemptions since the Franklin episode, primarily in the credit risk category, followed by short duration funds and ultra-short duration.
“Since August 2018 (default IL&FS), assets under management for debt mutual funds have stagnated and are down 14%, more so for liquid funds, where assets under management are down 45% “Morgan Stanley analysts said in a note after the Franklin episode.
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Given the issues, analysts are not ruling out an increase in MF debt repayments in the coming quarters. “These events bode ill for debt funds as a product and are likely to keep retail investor sentiment subdued over the medium term. The recent unwinding of six major debt market programs by one of the 10 leading AMCs will likely lead to another round of credit fund redemptions,” said JM Financial Institutional Equities.
In addition, turmoil in the equity market is mounting pressure on AMCs. Assets under management fell 23% month-on-month in March. Equity assets under management are up around 8% so far this month, helped by the market rebound.
Note that fees charged on equity funds are 100 to 150 basis points higher than on debt funds. This will add to management fee erosion.
Furthermore, the increase in volatility could impact flows to equity funds. Admittedly, the flows of systematic investment plans (SIP) are holding up well, until ₹8,641 crores per month. However, the shutdown could also impact new SIP registrations in the coming months.
Additionally, the nature of the business’ fixed costs can impact operating metrics when AUM declines. “Under the new full commission regime, most AMC costs are fixed/quasi-fixed in nature – and while this helps profitability (after-tax profit as a percentage of AUMs) in good times, it can drive to ‘the exploitation of leverage’ in weak stock market conditions,” added JM Financial.
Despite the drop, AMC shares are still trading at price-earnings valuations of 30 to 57 times. Well, these investments may still be subject to market risks
