Thursday, March 20, 2014

SEBI's Mutual Fund Colour Code and How Risk Assessment

A Riot of Colours  is what is going to be followed here, and with a different perspective.

Most of us have gone through the Holi Celebrations in some way or other, especially when it was a long weekend. HAPPY HOLI TO ALL,YEH I KNOW BELATED.

Most of us must have also gone through the colour codes introduced by SEBI ( Securities and Exchange Board of India) via circular dated 18th March,2013. (Read this for detailed circular-

But what does all this colour coding mean to a regular investor and how one must understand, decode, and apply to his / her investment portfolio? SEBI is very right in this colour coding decision, but how does this help investor’s to take INFORMED DECISSION?

OK. Here I try and make this colour code Jargon Simple and also explain all about it in a simplistic manner in a much larger perspective. First read below to have brief idea of SEBI’s colour code model-

MEANS PRINCIPAL AT LOW RISK   i.e. Investor understands that their principal is at low risk

    MEANS PRINCIPAL AT MEDIUM RISK i.e. Investor understands that their principal will be at medium risk

  MEANS PRINCIPAL AT HIGH RISK i.e. Investor understands that their principal will be at high risk 

Above are not my wordings, but those are used in SEBI Circular. Now tell me when the Mutual Fund house is collecting money from investors, how can the investor know the amount of Risk involved in the scheme and with the portfolio assigned in the particular scheme, in conjunction with individual investors needs and different time perspective and motive.

EVEN a Hybrid scheme ( i.e. certain portion of portfolio is assigned to Equity investments) is shown in BROWN Colour code.A MID and SMALL cap Mutual Fund scheme, a SECTORAL Mutual Fund Scheme ( like Banking fund or infra fund or Media or FMCG or IT fund are all examples of Sectoral schemes)  and Top 100, Top 200, or Large Cap fund or Multicap funds , or Focused Bluechip-are also allotted BROWN Colour code.

A Short term Bond Fund, a Long term Duration Fund, a Gilt Fund-Short , medium or long , Ultra short term fund, Liquid funds, Money Market or Call funds maximum all in same category as to BLUE Colour code.?

A MIP with longterm Debt portfolio or short term Debt portfolio and with either low or relatively higher Equity Exposure all fall in same category of YELLOW Colour code.?

 How can an Investor understand Different levels of Risk associated to all this schemes and all this different categories do have different risk levels and plus there is also Risk Associated at Fund Manager level or Technology level.Who will assess all this different kinds of Risks?

I am sure even a non-regular or occassional investor if reads this article will know that there is a huge difference in product composition, term of investment and risk profile even within these three colour category. While SEBI has done good to atleast start and initiate this process, but actually this has to be all individualistic approach.

For Example, if two different  investors  invests in same category fund i.e. BROWN Colour coded , say for eg. HDFC Top 200 fund and if markets or it’s NAV (Net Asset Value or Price of one unit of HDFC Top 200 Mutual Fund of that option) goes down by say 10% after exactly a year, one of the investor may like to add more and another may book loss and exit. So where is the risk differentiation? Why one investor has added and another has exited the same fund, within same holding period, bearing same percentage of loss?

So why I say Risk has to be a very individualistic assessment or approach, as I have experienced that Risk means differently for different individuals and family’s and is always a combination of few of the following components-

Family Members
Number of Dependents
Income Level and Number of Earning members in Family
Expense Level
Surplus available
Investment Perspective of Individual and Family as a whole 
Family History
Recent Investment past experience
Future Expectation Behaviour
Sourroundings and Environment
Circumstances / Events
Goals, Dreams and Aspirations of Individual & Family
Family members and the whole family in total
Standard of Living
Joint Risk Profile of Family
Motive of Investment
Overall Portfolio components
Market Conditions-individual as well as overall
Individual Risk Apetite
Family Risk Apetite
Etc……..Many More…..

So now tell me how can S.E.B.I. help an individual Investor or a family take informed Investing Decissions upon above listed criteria’s by their colour coding method or model with so many options of investing available to informed Investor?

Coming back to the above example, one of the above investor who intends to invest in the same fund even when his investment is down by 10% in a year may have researched the fund and may be investing for longterm only, with a target in mind while the other investor may have studied the past record and thought to invest for 1 yr. only and get the positive returns and move out, but he decides to exit as there is a loss instead of profit.

In my way of Financial Plan writing I study Individual Family earning members or Partner’s behavior visa vis his / her risk behaviour and measure Risk of the Family from above all possible angles and that is also reviewed every now and then (as per time or major event) and then accordingly as per the goal duration a Portfolio is designed, which is a very individualistic approach and more nearer to the exact risk assessment and measurement.

I have always believed, no third party can define risk for you other than self, unless it is measured in a very structured and individualistic manner.

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