Equity Fund Flows

Flows continue unabated in Feb despite the LTCG overhang

At a time when the markets were worrying about the impact of LTCG on the equity fund flows, AMFI data for February shows otherwise. Consider the statistics. During the month of February, equity funds and ELSS schemes saw a net inflow of Rs.16,300 crore with more than 50% of these flows coming through the SIP route. This is despite the Nifty falling by over 5% in February. Why are retail investors not worried about the impact of LTCG?

Why LTCG should matter

In the Union Budget 2018, there was a 10% tax on LTCG on equities and equity funds if it exceeded Rs.1 lakh in a fiscal year. That should have been a negative for the markets. After all, we are talking about a 10% flat tax without the benefit of indexation. That will surely reduce the net cash flows in the hands of the equity fund investors. But despite that flows into equity funds are at a 3-month high. What explains this paradox? In fact, if one looks at the Apr-Feb data, it is a big thumbs-up for equity funds. Total inflows into equity funds has been to the tune of Rs.164,000 crore during this 11 month period with SIPs accounting for over 40% of these inflows. This is largely in contrast to what most analysts were expecting as they had believed that the rush to book profits ahead of March 31st would lead to a drop in equity inflows. Then what explains this paradox? There are 2 key reasons to explain this paradox!

SIPs part of long term goals

The fact that over 40% of the flows in the current fiscal is through the SIP route shows that retail investors are seriously looking at equity funds as potent instruments of financial planning. It has been seen in the past that equity funds offer the best method of creating wealth in the long run, more so since they were also tax efficient. When SIPs are tied to long term goals like your child’s education, child’s marriage, retirement nest egg etc there is also an emotional value attached to it. For retail investors it is finally a trade-off between booking profits and continuing on their path to their long term goals. Quite obviously, most retail investors have preferred the latter option.

Actual impact will be marginal

You will actually get the answer if you simulate the impact of the LTCG tax over longer holding periods. If you assume an 18% annualized returns, the impact on a 2 year holding period is around 1.23%. But if you go over a longer period of 12 years the impact of the LTCG tax on annualized returns comes down to just 0.87%. Obviously, when the difference is so marginal, retail investors do not see the need to tamper with their financial plan and book profits on their SIP. That explains why MF inflows into equities and ELSS have continued. That is good news for the Indian mutual fund industry! ©

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