Should you invest in solution-oriented mutual fund schemes?

As per categorisation of schemes by SEBI, ‘solution-oriented schemes’ is one of the products that the AMCs can operate. Currently, these schemes cover goals like retirement and child’s education.

“This is a new category of equity mutual fund schemes. Earlier these schemes were treated as general equity or balanced schemes. In the future, we expect more schemes to get launched by AMCs under solution oriented category for ‘Child’s Marriage’ or ‘Dream Home’ goals," said Prateek Mehta, CEO and co-founder of Upwardly.in.

“Solution based schemes are particularly helpful for those investors who wish to create their retirement or children education corpuses through mutual funds but lack the skills required for taking decisions regarding fund selection, asset allocation and portfolio rebalancing, said Manish Kothari, Director and Head of Mutual Funds, Paisabazaar.com.”

Earlier investors primarily invested in pension plans and child plans offered by insurance companies for creating goal-based corpuses.

“Such investors should rather prefer retirement and children’s funds as they are not only simpler than pension and child plans, their direct plans also have very low expense ratios, which will eventually lead to higher returns," Kothari said.

“One should start investing in this scheme at the age of 25 - 30 years for retirement goal. The purpose of this scheme is to hold the investment for a longer term to gain the benefit,” said Bharat Purohit, partner at financial advisory firm Accord Wealth Solutions.

Some of these schemes used to have a lock-in of 3 years or no lock-in but exit load up to 3 years. Now, with the introduction of mandatory lock-in period of 5 years, investors will be forced to stay invested for longer period. In case of retirement funds, many of the funds are mulling to take the lock-in to 5 years or retirement whichever is earlier. Similarly, in case of children education/gift funds, the lock-in will be 5 year or the child becoming a major (whichever is earlier).

“To categories schemes under ‘solution-oriented’ basket some of the AMCs are renaming and merging their existing schemes. So, investors need to keep a track of this changes in the industry and their investments,” Kothari said.

For instance, SBI Mutual Fund has renamed its SBI Magnum Children’s Benefit Plan as SBI Magnum Children’s Benefit Fund and categorised it as a solution-oriented scheme. With this change in classification, this fund will too have a lock-in period of 5 years. Earlier there was no lock-in period in this scheme. It only had exit loads of 1%, 2% and 3% for redemption made within 1, 2 and 3 years respectively. For redemption after 3 years, there was no exit load. Steadily, other fund houses too will incorporate changes in their solution-based schemes as per SEBI’s October 2017 circular.

Anil Rego, CEO and founder of Right Horizons, highlights a scheme which was merged last year post SEBIs circular on categorisation. For instance, HDFC Children's Gift Fund Savings Plan got merged into HDFC Children's Gift Fund Investment Plan with effect from October 19, 2017. Post this merger, name of HDFC Children's Gift Fund Investment Plan was changed to HDFC Children's Gift Fund.

Some of the funds have even changed the benchmarks. For example, HDFC Children's Gift Fund now tracks Nifty 50 Hybrid Composite Debt 65:35 index, instead of the CRISIL Balanced Fund Index. Similarly, Tata Retirement Savings Moderate now tracks CRISIL Hybrid 25+75 Aggressive Index, instead of CRISIL Balanced Fund, Aggressive Index.

“The main advantage of mutual funds’ solution oriented retirement products is that you don’t have to buy an annuity, as is the case with the National Pension Scheme (NPS) or pension plans from insurer. Instead, you can opt for a systematic withdrawal plan to meet your regular cash flow needs on retirement. The same holds true for children mutual fund products," said Rego.

Purohit highlights major drawbacks which investors need to think through before investing in solution-oriented schemes. These drawbacks are mandatory longer lock-in period, investor cannot switch to other scheme in between investment period even if the performance of a scheme lags benchmark index and low returns in long term as compared to other aggressive open-ended schemes.

“We have seen in the cases of such close-ended equity schemes that often the presence of a lock-in does not translate into superior performance,” Mehta said. Also, these funds cannot be redeemed in case of an unforeseen emergency.

The performance of solution oriented schemes are typically lower than top quartile open ended equity schemes. Financial advisors advises it is better to invest in open-ended hybrid schemes with strong portfolio and performance since asset allocation is nearly similar also one can easily exit from the scheme. “The best open ended funds have delivered great returns over a long period of time (often over decades). It is yet to be proven if these solution oriented schemes will match the best funds on performance,” Mehta added.