What are feeder funds?

Here is my article on the subject "What are feeder funds?", published in Mid-day Gujarati edition.

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The English translation is as under:

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In some of our earlier articles, we have talked about gold mutual funds. These come in two varieties – Gold ETFs and Gold Savings Fund. While the former invests in gold, the latter invests in the units of a Gold ETF. Such an arrangement makes it a feeder fund.

A feeder fund is a type of mutual fund that invests in the units of another mutual fund scheme. Unlike a fund of funds, which invests in multiple schemes, a feeder fund invests in only one scheme.

One may wonder:

·      Why should a mutual fund scheme invest into another?

·      Why can’t one launch a new scheme?

The questions are valid and still we have a few feeder funds.

So let us start with what kind of feeder funds we have in India. We have already referred to one category: Gold savings funds that invest in units of Gold ETFs. The second category of funds invests in units of another international mutual fund. An international mutual fund may be investing in various assets outside of India.

First of all, when SEBI allowed mutual funds to buy gold, it was only under the ETF structure. However, as the limitations of ETFs surfaced, the chief among those being that one could not do systematic investing in an ETF, need was felt for an open-ended fund that allowed investment in gold. Instead of going to SEBI for change in regulations, the mutual fund companies found out that even within the existing regulations, it was possible to create a feeder fund structure and that is how gold savings funds came into existence.

The other structure – funds feeding into international mutual funds – was a result of costs involved in managing schemes investing in international markets while being in India and of small size. The costs involved may become prohibitively high and all the potential gains through active management may vanish. So funds innovated and came out with feeder funds feeding into some of the global biggies’ funds – most often, their parent company’s schemes.

Thus, feeder funds came due to one of two reasons: (1) limitations imposed by regulations, or (2) economic viability

In both the cases a feeder fund was the most appropriate option.

- Amit Trivedi, Author of "Riding The Roller Coaster - Lessons from financial market cycles we repeatedly forget"