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RETAIL PARTICIPATION IN MUTUAL FUNDS SINCE 2008 CRISIS
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RETAIL PARTICIPATION IN MUTUAL FUNDS SINCE 2008 CRISIS
AUTHORED BY
- RISHINGYA PATNAIK
& SHREYA
MUKHERJEE
INTRODUCTION
The 2007–2008 financial crisis, often
known as the global financial crisis (GFC), was a major global economic
disaster. Prior to the COVID-19 recession in 2020, many economists anticipated
it to be the worst financial crisis since the Great Depression. Predatory
lending to low-income homebuyers, excessive risk-taking by global financial
institutions, and the implosion of the US housing bubble all combined to create
a "perfect storm." Mortgage-backed securities (MBS) backed by
American real estate, as well as a massive network of derivatives connected to
that MBS, have all plummeted in value. Financial institutions around the world
were severely harmed, culminating in the collapse of Lehman Brothers on
September 15, 2008, and a subsequent international banking crisis.
The crisis put the Indian mutual fund
sector's durability to the test, since its asset base and returns had been
increasing significantly faster than the worldwide industry average rates
previous to the crisis. The industry's post-crisis performance was more or less
stable, with overall assets under management (AUM) and gross aggregate inflows
above the pre-crisis peak. Net fresh inflows, on the other hand, have stayed
substantially below pre-crisis levels, with funds incurring large net outflows
during years of increased economic uncertainty.
Before the financial crisis hit in
2008, regulations passed in the U.S. had pressured the banking industry to
allow more consumers to buy homes. Starting in 2004, Fannie Mae and Freddie Mac
purchased huge numbers of mortgage assets including risky Alt-A mortgages. They
charged large fees and received high margins from these subprime mortgages,
also using the mortgages as collateral for obtaining private-label
mortgage-based securities.
One of the principle motives for the
boom with inside the retail investor base may be attributed to a growth in
cognizance approximately the inventory markets. In fact, Upstox, one of the
many bargain agents in India, suggested that approximately 80% of its overall
patron base received at some stage in the pandemic length got here from Tier-2
and Tier-three cities. This statistics factor strongly shows a boom inside the
penetration of proportion buying and selling and the inventory markets.
What happened before 2008 crisis?
Before the financial crisis hit in
2008, regulations passed in the U.S. had pressured the banking industry to
allow more consumers to buy homes. Starting in 2004, Fannie Mae and Freddie Mac
purchased huge numbers of mortgage assets including risky Alt-A mortgages. They
charged large fees and received high margins from these subprime mortgages,
also using the mortgages as collateral for obtaining private-label
mortgage-based securities .Many foreign banks bought collateralized U.S. debt
as subprime mortgage loans were bundled into collateralized debt obligations
and sold to financial institutions around the world. When increasing numbers of
U.S. consumers defaulted on their mortgage loans, U.S. banks lost money on the
loans, and so did banks in other countries. Banks stopped lending to each
other, and it became tougher for consumers and businesses to get credit.
Reason for the economy crash in 2008
We are aware of the financial crisis
that occurred in 2008 also known as the recession, that occurred in 2008. It
was considered worse than 1930s Great Depression. The mortgage crisis in USA in
2007 marked the beginning of this financial crisis.The collapse ofAlso the
major investment bank Lehman Brothers collapsed on September 15, 2008, which
led to a full-fledged international banking crisis[1].
The primary cause of the financial
crisis was the crash of the US housing bubble in the FY 2006-07. The terrorist
attacks of September 11, 2001 assured the beginning of the crisis . As the US
economy was entering into recession, the Federal Reserve System (Fed) reduced
its interest rate to 1%. As 1% is really low interest rate the fixed income
investors began to search for other investment options. Investment banks in the
United States started applying some of their financial ideas to mortgages became aware of the situation and began to
apply some of their financial wizardries to mortgages.Initially,the investment
banks used to securitize into
Mortgage-Backed Securities (MBS), a form of asset-backed securities. MBS was
used by Investment banks in order to keep future returns from such investments
as high as possible while lowering risk.
Almost all the nations in the world
both developing or developed, has suffered thr wrath of the US financial crisis.In August 2007, it
became significant that the problems had spread beyond the country’s borders.It
led to the shutdown of The inter-banking market fully shut down. As a result
all the central banks and government all over the world started to fuse in
together to overcome the global
financial crisis.But sadly at the end of
2008, all of the world’s major economies were either in or fighting to stay out
of recession.The World Bank predicts a 0.9 per cent rise in global economic
activity in 2009, the slowest growth rate since records began in 1970.
Reasons why Retail Investors Increased:
There has been a lot of instances
where we have seen that, during times of economic crises and recessions,
investors from the retail and institutional categories have always maintained
distance from investing in the stock markets. Instead, they have always
preffered to safe-haven assets such as the U.S. Dollar and gold. But during the
current economic crisis by the ongoing COVID-19 pandemic, the situation has
been quite the opposite. In a surprising move, the number of retail investors
has actually increased during this period of uncertainty.
1. More awareness and easier entry
One of the principle motives for the
boom withinside the retail investor base may be attributed to an growth in
cognizance approximately the inventory markets. In fact, Upstox, one of the
many bargain agents in India, suggested that approximately 80% of its overall
patron base received at some stage in the pandemic length got here from Tier-2
and Tier-three cities. This statistics factor strongly shows an boom withinside
the penetration of proportion buying and selling and the inventory markets.
Also, with the creation of eKYC and
Aadhaar eSign, nearly all stockbrokers have followed this methodology. This has
made the buying and selling and demat account starting method without a doubt
paperless and absolutely online, making the access into proportion buying and
selling easy and seamless. Additionally, the various incentives and reductions
furnished with the aid of using brokerages have additionally performed a chief
function in attracting a large retail investor population[2].
2. Market crash and bottom fishing
The latest inventory marketplace
sell-off in March 2020 spark off a kind of a frenzy among the investor
population. Almost all of the sectors, industries, and groups confronted a
great drop of their marketplace value. Both the essential Indian indices,
Sensex and Nifty, dropped with the aid of using round 30% in a count of some
buying and selling sessions[3].
Many retail buyers possibly concept
that with the aid of using getting into whilst the marketplace turned into
bottoming out, they might experience a few short-time period profits whilst the
markets sooner or later went on a upward push. This caused a massive wave of
latest and first-time investors flooding the marketplace and attempting their
hand at backside fishing. Even penny shares have been now no longer spared,
with many such shares experiencing a by no means earlier than upward push of
their inventory prices.
3. Retail investors getting out of
busy schedules
Nations across the world, along with
India, have been pressured to undertake stringent measures to fight the unfold
of coronavirus. One such degree turned into the string of enormous lockdowns
that actually pressured human beings to live interior for months. With nearly
the whole operating populace operating from home, their schedules have been now
no longer so busy anymore.
They unexpectedly had greater time on
their fingers and therefore attempted to place it to appropriate use through moving
into on a number of the inventory marketplace action. Hordes of retail buyers
took out part of their financial savings and attempted their hand at proportion
buying and selling. This in the long run caused a report quantity of buying and
selling and demat account openings withinside the records of inventory markets.
4. Retail investors looking for
alternative sources of income
As a outcome of the significant
lockdowns, many organizations had been compelled to droop their operations and
needed to go through severe setbacks. This at once impacted the sales of many
those who needed to cope with little to no remuneration at some stage in this
phase. Some of them unexpectedly observed themselves laid off and with out a
job.
Under such dire circumstances, many
such people grew to become to the inventory marketplace searching out
opportunity reassets of income. The boom in retail investor participation
withinside the month of June 2020 is in itself clean proof of the upward thrust
withinside the retail and excessive networth person investors’ percentage
withinside the inventory marketplace.
5. Weak returns from other investment
options
In the modern-day financial scenario,
the returns supplied via way of means of many conventional funding options,
barring gold, had been very lacklustre. The financial institution hobby prices
are pretty low and the actual property quarter is suffering to get again on its
feet. Considering those circumstances, extra range of people have became to the
inventory markets withinside the hopes of producing a few short-time period
income to meet their economic goals. This has brought about a growth withinside
the range of retail buyers withinside the inventory market.
WHAT EFFECTS HAS THE CRISIS HAD ON INDIA
India's financial markets - equity
markets, money markets, forex markets, and credit markets - had all come under
pressure from a variety of sources. First, as a result of the global liquidity
squeeze, Indian banks and corporations saw their overseas financing dry up,
forcing corporations to shift their credit demand to the domestic banking
sector. In their hasty search for alternative financing, corporations withdrew
their investments from domestic money market mutual funds, putting redemption
pressure on the mutual funds and, ultimately, non-banking financial
institutions.
Second, the forex market was impacted
by a reversal of capital flows as part of the global deleveraging process.
Simultaneously, corporations were converting funds raised locally into foreign
currency in order to meet their external obligations. Both of these factors put
downward pressure on the rupee.
Third, the Reserve Bank's intervention
in the forex market to manage rupee volatility added to the tightening of
liquidity. The transmission of global cues to the home economy has been
relatively straightforward — via a drop in export demand.[4]
The United States, the European Union, and the Middle East, to name a few which
account for three-quarters of India's commodities and services trade are
experiencing a coordinated decline. Service export growth is also expected to
decrease in the near term as the recession intensifies and financial services
businesses, which have traditionally been heavy users of outsourcing services,
restructure. Migrant worker remittances are also expected to drop as the Middle
East adjusts to lower petroleum prices and advanced economies enter a slump.
Aside from the above-mentioned financial and
real channels of transmission, the crisis also expanded via the confidence
channel. In sharp contrast to global financial markets, which were paralysed by
a confidence crisis, Indian financial markets continued to function normally.
Nonetheless, the tightening global liquidity position in the period immediately
following the Lehman crisis in mid-September 2008, which coincided with a
change in the credit cycle, raised the financial system's risk aversion and
made banks cautious about lending.
Despite India being not a part of the
financial sector problem, it has been affected by the crisis through the
feedback loops between external shocks and domestic vulnerabilities by way of
the financial and real channels.
HOW BANKING SECTOR WAS AFFECTED BY 2008 FINANCIAL CRISIS
In the short term, the 2008 financial
crisis impacted the banking industry by forcing banks to lose money on mortgage
defaults, freezing interbank lending, and drying up credit to consumers and
companies. Longer term, the financial crisis had an impact on banking by
spawning new regulatory acts, both internationally through Basel III and in the
United States through the Dodd-Frank Wall Street Reform and Consumer Protection
Act.
BEFORE THE CRISIS –
Prior to the 2008 financial crisis,
rules implemented in the United States put pressure on the banking system to
allow more customers to buy homes. Beginning in 2004, Fannie Mae and Freddie
Mac purchased massive amounts of mortgage assets, particularly problematic Alt-A
mortgages. They charged hefty fees and gained big margins on these subprime
mortgages, which they also used as collateral for private-label mortgage-based
products.
As subprime mortgage loans were
bundled into collateralized debt obligations and sold to financial institutions
around the world, several foreign banks purchased collateralized US debt.
When an increasing number of US
consumers defaulted on their mortgage loans, US banks, as well as banks in
other countries, lost money on the loans. Banks ceased lending to one another,
making credit more difficult to get for households and businesses.
AFTER THE CRISIS –
As the United States entered a
recession, demand for imported goods fell precipitously, contributing to a
global recession. Confidence in the economy plummeted, as did share values on
global stock exchanges.
In the aim of averting another
financial crisis, the worldwide Basel Committee published a set of suggestions
for stricter capital and liquidity criteria for the global banking sector in
December 2009. The Basel III changes were approved by the G-20 in November
2010, but the committee left it up to member governments to apply the rules in
their individual countries.
According to the Dodd-Frank Act:
The Dodd-Frank Act, passed in the
United States in 2010, requires bank holding companies with more than $50
million in assets to adhere to tough capital and liquidity criteria, as well as
additional prohibitions on incentive compensation.
The legislation also established the
Financial Stability Oversight Council, which includes the Federal Reserve Bank
and other authorities, to coordinate the regulation of larger,
"systemically important" banks. The council has the authority to
break up major banks that may pose a risk due to their size. A new Orderly
Liquidation Fund was formed to give financial help for the liquidation of
troubled large financial organisations.
MUTUAL FUND PERFORMANCE DURING THE FINANCIAL CRISIS
The subprime mortgage crisis, which
began in late 2007 and grew into a global financial and economic catastrophe by
late 2008, had an impact on both the volume of resources flowing into the
mutual fund sector globally and the distribution of these resources across
funds with varying degrees of risk. The worldwide mutual fund industry suffered
a substantial setback during the crisis, with net assets and inflows remaining
below the pre-crisis peak in all post-crisis years.
The crisis put the Indian mutual fund
sector's durability to the test, since its asset base and returns had been increasing
significantly faster than the worldwide industry average rates previous to the
crisis. The industry's post-crisis performance was more or less stable, with
overall assets under management (AUM) and gross aggregate inflows above the
pre-crisis peak. Net fresh inflows, on the other hand, have stayed
substantially below pre-crisis levels, with funds incurring large net outflows
during years of increased economic uncertainty.
The mutual fund business is projected
to play a critical role in financial intermediation in the Indian economy;
thus, the aggregate ability of mutual funds to attract investment capital and
the utilisation of those funds is of great interest. Unsurprisingly, the global
financial and economic crisis that unfolded in 2007 had an influence on both
the volume of money channelled into mutual funds around the world and the
distribution of resources among mutual fund classes with varied degrees of
risk.
TRENDS IN INVESTEMENTS BY MUTUAL FUNDS –
Mutual funds' aggregate investments
in financial markets are determined by the amount of resources mobilised,
whereas their investments in different segments of financial markets are
determined by investors' preferences for different classes of funds, such as
debt or equity-oriented funds, and variations on these. The aggregate
investments of 30 mutual funds in Indian stock and debt markets fell shortly
after the crisis in the fiscal year ended March 2009. Following that, their
total investments returned more than 120% the following year, and another 40%
the following year. This rise was primarily driven by significant growth in
mutual fund investments in the debt market[5].
Since the fiscal year ending March
2006, mutual funds have become substantial participants in the equity market,
with net investments expanding dramatically over the preceding year. Since
then, mutual fund investments in equity markets have changed drastically and
stayed negative in the previous two fiscal years, reflecting sharp redemption
pressures and the resulting net outflows encountered by these funds. Mutual
funds' (net) equity market flows remained generally positive from June 2008 to
August 2009, when FIIs were making a tentative return to Indian equity markets
following the first phase of the global financial crisis.
However, since August 2009, when a
new set of regulations pertaining to the charging of entry and exit loads by
all mutual funds went into effect, the industry's deployment of funds in the
equity market has suffered continuously for a FIGURE 3 Equity Market
Investments by Mutual Funds and Foreign Institutional lnvestors. In the last
two fiscal years, mutual fund investments in the equity markets have varied
dramatically and remained negative. Following that, while equities prices in
India improved in line with global financial market recovery and were fueled by
strong FII inflows,32 mutual fund flows to equity markets were negative
practically every month in September (2009-2010).
During the fiscal year ended March
31, 2011, mutual funds' net equity disinvestments nearly doubled compared to
the previous year. The sustained net outflows could be attributed to both net
withdrawals from funds and profit-taking by equities fund managers whose
profits have been squeezed as a result of the new SEBI regulations. With the
large scale flight of FII funds from the Indian equity market in the latter
half of 2011, mutual funds turned net investors in the Indian equity market,
making small but positive net investments in most months between April and
December 2011; this is consistent with possible value buying by investors and
fund managers as well.
INCREASE OF NPA IN BANKS AFTER 2008
FINANCIAL CRISIS
The reason of the rise in NPA can be
traced back to the tremendous credit boom that the country experienced between
2003 and 2004. The outstanding non-food credit increased threefold between
2003-04 and 2007-08. It more than doubled between 2007-08 and 2011-12. It rose
by 1.5 times over the next four years. In absolute terms, the rise in three
successive years is 15 trillion, 22 trillion, and 26 trillion, and by 26
trillion throughout the three-year period (2016-19).
Furthermore, the assets under control
of mutual funds and the loans given by NBFCs have grown dramatically. During
these eras, nominal GDP expanded by 15.08 percent, 15.56 percent, 12.05
percent, and 11.3 percent, respectively. It should also be remembered that
monetary policy was significantly tightened between 2004 and 2008. The repo
rate was hiked from 6% in March 2004 to 9% in August 2008. The CRR was likewise
raised from 4.75 percent to 9 percent during this time period. Thus, despite
tightening between 2004 and 2008, lending expanded. However, in reaction to the
global financial crisis, the repo rate and CRR were significantly reduced in
2008. Between 2009 and 2012, there was a little reversal. During 2014-19, the
repo rate was reduced. Real growth slowed during this time period[6].
Credit booms are usually followed by
banking system stress. This has also occurred in India. Credit expansion was
spectacular, with an average annual growth rate of 18.69% compared to nominal
GDP growth rates of 12.62. It is true that during a moment of economic
expansion, every initiative appears to be a success. Exuberance becomes
all-encompassing, both reasonable and irrational. It has also been observed
that there has been a significant flow of credit to particular industries such
as infrastructure (roads, power, and telecommunications), iron and steel,
mining, and aviation. While all of these industries are vital for growth, they
have also seen significant production variations.
Because many institutions, whether
large and small, public, private, and international, were part of the same
consortium, attributing the problem to a lack of capabilities just among public
sector banks is an oversimplification of the problem. There was also
considerable regulatory slack. The Asset Quality Review, which was implemented
in 2015, tightened the situation and increased transparency. It resulted in a
one-year doubling of the NPA ratio. But, by then, the damage had been done, and
the banks were faced with a massive crisis that had no apparent solution. The
resolution procedure is time-consuming.
CONCLUSION
The subprime mortgage crisis, which
began in late 2007 and evolved into a global financial and economic catastrophe
by late 2008, had an impact on both the volume of resources flowing into the
mutual fund sector globally and the distribution of these resources across
funds with varying degrees of risk. The worldwide mutual fund industry suffered
a substantial setback during the crisis, with net assets and inflows remaining
below the pre-crisis peak in all post-crisis years.
The crisis put the Indian mutual fund
sector to the test, since its asset base and returns had been increasing
significantly faster than the worldwide industry average rates previous to the
crisis. The industry's post-crisis performance was more or less stable, with
overall AUM and gross aggregate inflows above the pre-crisis peak. Net fresh
inflows, on the other hand, have stayed substantially below pre-crisis levels,
with funds incurring large net outflows during years of increased economic
uncertainty.
In response to the global reaction,
Indian mutual funds fled to safety in the immediate post-crisis era. Gross
flows into liquid money market funds and gilt funds increased sharply, whereas
resource flows to equities mutual funds decreased. As a result, mutual funds'
investments in the Indian equities market decreased throughout the period,
while their investments in the debt market increased.
[2] https://www.tatacapital.com/blog/wealth-management/why-has-the-number-of-retail-investors-increased-during-an-economic-crisis/
[3]
https://www.investopedia.com/ask/answers/033015/how-did-financial-crisis-affect-banking-sector.asp
[6] https://www.thehindubusinessline.com/opinion/some-key-lessons-from-the-npa-crisis/article30331406.ece
Article Information
RETAIL PARTICIPATION IN MUTUAL FUNDS SINCE 2008 CRISIS
Authors: RISHINGYA PATNAIK, SHREYA MUKHERJEE
- Journal IJLRA
- ISSN 2582-6433
- Published 2024/02/07
- Issue 7
About Journal
International Journal for Legal Research and Analysis
- Abbreviation IJLRA
- ISSN 2582-6433
- Access Open Access
- License CC 4.0
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