does your pension have an IPO flavour

does your pension have an IPO flavour

Warren Buffett believes in the 90/10 formula. he says 90% of the retirement funds should be put into equity-linked instruments while 10% should go into low-risk products like bonds. 

but considering the nature of the retirement sector in India, options for equity-linked products in pensions are limited. the Pension Fund Regulatory and Development Authority (PRFDA) wants to change that now. 

its flagship scheme, the National Pension System (NPS), will now allow investment into mid-cap funds and initial public offerings (IPOs). this means pension fund managers can effectively hedge their returns by investing in buzzing IPOs.

then fund returns can zoom, right?

not exactly. one needs to remember that market investments are subject to volatility. retirement funds are something that cannot be tampered with. fund managers will do their due diligence but stock markets are unpredictable. 

effectively this means that the returns can slump to 0 or rise to 50% in a matter of months. some stocks like retail are also cyclical, meaning they rise during peak festive season between October and November each year. 

some caveats have been placed. companies with a market cap higher than the 200th company on BSE or NSE. the lower number of the IPO price band will be used to calculate this. so, tiny companies with no track record have been kept out.

equity returns to beat the rest?

NPS had a total assets of  ₹6.37 lakh crore under the non-government retail customers as of August 12.

here, equity gave far higher returns than debt. for a one-year period, the equity returns are at 46.18% while those under corporate bonds are only 6%. for a five-year period, the equity returns are 12.94% while corporate bonds are 9.92%. 

there are 45 million subscribers under various pension schemes of PFRDA. getting additional options for equities could help improve returns on a longer term, provided that the fund manager chooses the underlying stock carefully.

unlike other equity products offered by insurers and mutual funds, there won’t be switch options under NPS. so once a customer has opted for an equity fund investment, it stays that way.

so, what’s next? investing directly into startups? the proposal is on the table, but PFRDA isn’t in a hurry to approve it yet.