Mutual fund NFOs in 2023, fail to set the street on fire

10 Jan 2024 , 10:05 AM

It is normally axiomatic that at higher levels of Nifty and Sensex, the Mutual Fund NFOs also tend to peak. However, despite the Nifty and the Sensex being at lifetime highs, the NFOs have really not fired on all cylinders in 2023. A more optimistic way to look at this would be that the sense of euphoria and frenzy that we get to see at market peaks is missing in the NFO market and that could mean we are far from the peak. That is a good thing, but let us look at what drives the surge in NFOs; and what has been the story in recent years.

Triggers for Mutual Fund NFOs in India

The first trigger for NFOs has been the relatively interesting “me too” syndrome. When a particular theme like small cap funds, commodity funds or BAFs is in vogue, no AMC really wants to lose the opportunity and they tend to jump on the bandwagon. The second justification for NFOs is what is now called the filling of gaps. For instance, an AMC can have just one large cap fund in its offering. Hence, most AMCs want to ensure that they have all possible categories of funds so that they do no miss out on any of the possible ways to raise funds through the NFO route.

The third driver for NFOs is the diversification factor. Today, it is possible to have multiple sectoral funds for the same AMC as long as the sector or theme is different. Also, one can combine equity and debt in different way and open the doors for an NFO. That explains the massive demand for NFOs of sector funds, thematic funds, and hybrid funds in the recent past. There is a demand and supply for such funds. Lastly, the rising importance of passive funds has also fuelled a surge in NFOs of passive funds; which are again not subject to the restrictions on the number of funds that an AMC can have 

Let us now turn to a quick recap of NFO flows in calendar 2022 and 2023, so that the colour and direction of NFO flows can be seen in the proper perspective.

Recap – NFO story in Calendar Year 2022

In fact, the NFO story of year 2021 was one of the best in recent years, when the hybrid categories became big hits with the investors. In comparison, year 2022 was relatively subdued with total NFO collections of just about Rs62,187 crore. The reasons were not far to seek. October 2021 had seen the peak of the Nifty and Sensex and the fall had been spurred by a spate of FY selling. In fact, between October 20211 and June 2022, the foreign portfolio investors (FPIs) sold close to $25 billion in Indian equities. That largely unnerved the investors and the impact was there for all to see. By 2022, the helicopter money, introduced during the pandemic, was starting to dry up and inflation was starting to bit the household budgets of investors. Not surprisingly, even the AMCs were wary of taking the risk of launching NFOs at this juncture. The table below captures a quick picture of how the NFO story panned out for mutual funds in calendar 2022.

Calendar 2022	Thematic Funds	Flexi/Multi Cap Funds	Index Funds	Other ETF FOF	Close End FTPs	Dynamic Funds BAF	Income Funds	Total  (Rs cr)
Jan-22	0	0	2,490	228	227	0	285	3,230
Feb-22	640	1,276	1,062	332	203	0	0	3,513
Mar-22	0	8,170	3,596	121	1,364	0	24	13,275
Apr-22	3,130	0	91	19	0	0	0	3,240
May-22	0	0	0	0	0	0	0	0
Jun-22	0	0	0	0	0	0	0	0
Jul-22	0	0	5	11	1,430	0	0	1,446
Aug-22	1,100	1,962	203	79	2,293	746	1,602	7,985
Sep-22	4,156	1,680	487	130	1,117	745	59	8,374
Oct-22	2,624	426	1,750	11	598	0	30	5,439
Nov-22	2,426	0	980	90	3,703	0	0	7,199
Dec-22	1,586	410	571	2,798	1,532	0	1,589	8,486
NFO Flows	15,662	13,924	11,235	3,819	12,467	1,491	3,589	62,187

Data Source: AMFI

The full calendar year 2022 saw total NFO flows of Rs62,187 crore. That makes it a relatively modest year int terms of NFO flows. You may be wondering why there were no NFOs in May and June 2022. That was due to SEBI order to AMCs to desist from NFOs till the AMCs had their back office systems in place to avoid accepting deposits from the investors and allowing brokers to syndicate investments. This refers to the practice of mutual fund agents collecting money and investing jointly and then allocating to their clients. SEBI felt this was fraught with risks (especially in the aftermath of the Karvy fiasco) and wanted AMCs to desist from NFOs till this issue was resolved. That explains the 2-month gap in 2022.

Now for the actual NFO flow story in 2022The biggest contributor in FY22 was the thematic category, which contributed Rs15,662 crore. Of course, here thematic refers to small caps, mid-caps, sectoral and thematic funds combined. The other big contributor was the multi cap / flexi cap fund category which saw flows of Rs13,924 crore via NFOs. The more conservative investors saw multi-caps and flexi caps as a safer way to venture into alpha hunting, than directly jumping into smaller cap funds. 

The surprising inclusion was the fixed term plans or the closed ended FTPs, which saw NFO flows of Rs12,467 crore in the year 2022. There is still a section of investors who prefer to lock in their monies into debt funds with predictable yields. Also, the double indexation benefit, which is one of the key benefits of these FTP plans, makes this plan relatively attractive to the HNI investors. The other category that saw good NFO interest was index funds at Rs11,235 crore. Through 2022, passive funds continued to attract interest; both in terms of NFO flows and also in terms of secondary flows. It is only in 2023, when alpha became the buzzword, that the passive funds went slightly out of favour in the market.

Among the other mutual fund categories that saw moderate NFO flows of over Rs3,000 crore in the year 2022 were index ETFs and bond funds. Most of the bond funds, other than the closed ended FTPs, were concentrated at the short end of the duration curve. To sum up, unlike in 2021, the year 2022 lacked some big themes to set the NFO market on fire. In the year 2021, Dynamic asset allocation funds (BAFs) and flexi cap funds accounted for inflows of over Rs60,000 crore. Those kind of big themes were missing in 2022.

Update – NFO story in Calendar 2023

The NFO story of calendar 2023 was almost at par with 2022 in terms of NFO collections. However, it must be noted here that 2022 had only 10 months due to the 2-month ban in NFOs. In comparison, year 2023 saw the same amount flow in through NFOs, despite having a full 12 months of NFO flows. For the full calendar year 2023, the total flows from NFOs stood at Rs63,854 crore. Once again, like in 2022, there was the absence of big themes, although the thematic funds did dominate 40% of the total NFO flows in calendar year 2023. The table below captures the story of calendar 2023 in the NFO arena.

Calendar 2023	Thematic Funds	Flexi/Multi Cap Funds	Index Funds	Other ETF FOF	Close End FTPs	Dynamic Funds BAF	Income Funds	Total  (Rs cr)
Jan-23	0	1,204	420	27	851	1,572	348	4,422
Feb-23	2,540	2,508	863	30	954	292	0	7,187
Mar-23	3,841	0	634	181	3,878	0	30	8,564
Apr-23	1,612	0	34	10	0	101	71	1,828
May-23	174	0	142	0	103	64	0	483
Jun-23	2,818	220	63	15	0	112	0	3,228
Jul-23	1,540	1,471	176	122	0	0	3,414	6,723
Aug-23	2,556	2,446	31	63	188	2,247	0	7,531
Sep-23	1,629	874	48	11	0	5,233	0	7,795
Oct-23	2,021	975	71	346	0	199	26	3,638
Nov-23	1,356	551	96	10	447	96	27	2,583
Dec-23	6,321	0	167	64	2,060	1,260	0	9,872
NFO Flows	26,408	10,249	2,745	879	8,481	11,176	3,916	63,854

Data Source: AMFI

Like calendar 2022, even the NFO collections in calendar 2023 were sharply lower than in 2021. Year 2023, was when the RBI had stopped hiking rates in February and held status quo through the year. However, unlike the general expectations in the market, the rate cuts did not come about. Although, there were no indications about rate cuts. This kept a lot of AMCs on tenterhooks and they could not really plan their NFO positioning accordingly. Typically, falling rates are positive for equity funds and also for long duration debt funds.

For the calendar year 2023, more than 40% of the full year flows were from thematic funds at Rs26,408 crore came in through thematic funds. That is not surprising as investors sought alpha through categories like sector funds, thematic funds, small cap fund and mid-cap funds. In most cases, these thematic funds also delivered the goods. Large cap fund investors veered towards low-cost passive funds while the alpha seekers gravitated towards thematic funds of different hues. In a market, where focused themes were being richly rewarded, it was only obvious that investors preferred the thematic fund NFOs in a big way.

The second highest contributor of NFOs in calendar 2023 were the dynamic asset allocation funds (BAFs), which saw NFO collections to the tune of Rs11,176 crore. Not just in NFOs, even in secondary flows, investors were willing to experiment with multiple asset class amalgams like BAFs, multi asset allocation funds, equity savings funds etc. Clearly, there was a much greater focus on asset allocation in the calendar year 2023. Among other categories, multi-cap funds and closed ended FTPs also contributed Rs10,249 crore and Rs8,481 crore respectively.  While multi-cap funds represented the more conservative approach to alpha hunting, the FTP flows hinted at the belief that interest rates had effectively peaked out. 

Kye takeaways for the NFO story for Calendar 2024

As we enter calendar year 2024, the Nifty and the Sensex stand close to their lifetime highs. The market cap of the BSE at $4.40 trillion is also at a life-time peak. Here is what could drive the NFO story in 2024.

• With the Indian economy likely to transition from a $3.5 trillion GDP economy to a $5.0 trillion economy by 2029, the equity boom may be just about scratching the surface. For the non-retail players and even for retail players, index funds and index ETFs could be big themes for the NFO story in 2024. As Jack Bogle said, “Why look for a needle in the haystack, when  you can just buy the entire haystack.”

   

• Thematic funds will continue to be the flavour of 2024 as sector rotation remains a dominant theme in the markets. That is the perfect scenario for fund categories like mid-cap funds, small cap funds, sector funds and thematic funds to make hay. We are likely to see a deluge of such thematic funds in the year 2024.

   

• The asset allocation theme has already taken off in a big way and it will only get consolidated in the coming year. One can logically expect an increase in NFOs from focused hybrid stories like balanced allocation funds (BAF), multi asset allocation funds and equity savings funds. These would be less about chasing returns and more about asset allocation and managing risk.

   

• Lastly, with the Fed hinting at 3 rate cuts in 2024 and 4 rate cuts in 2025, the RBI would also be looking to bring down rates, at least, to the pre-COVID levels. That would set the tone for long term debt funds to come back into the market. We have not seen that for some time and year 2024 could just be the start.

It remains to be seen if NFOs in 2024 can recreate the magic of 2021. The good news is that there is a supportive story for all categories of mutual fund NFOs in the year 2024.