Like any other type of investment, investing in Mutual funds has its own set of ‘Risks’ as well. Since July 2013, all the Mutual fund houses have been implementing a framework called “Product Labeling” with ‘color coding’ to help MF investors assess the risk associated with the Schemes. The color codes depict the ‘level of risk’.
As per the existing norms, product labels carrying details about the schemes would be disclosed on the front page of initial offering application forms. Besides, the labels have to be placed in common applications forms and all Mutual Fund product advertisements. (These norms were issued by Securities Exchange Board of India)
You might have observed these ‘colour codes’ in Mutual Fund Ads and Application forms.
For example – Below is an Advertisement by HDFC mutual Fund for one of its flagship product “HDFC Top 200”. This product is labeled as “High Risk” with BROWN color code.
A Blue colour coded box indicates ‘low risk’ and Yellow colour box signifies ‘Medium risk’. The labels also include details about the nature of schemes “such as to create wealth or provide regular income in an indicative time horizon (short/ medium/ long term)”. It also states a brief about the investment objective in a single sentence followed by kind of product in which investor is investing (equity or debt).
Effective from 1st July 2015, SEBI is going to replace the existing ‘mandatory colour codes’ by a pictorial meter named as “RISKOMETER”, containing Five levels of risk from LOW to HIGH. The five risk levels would be low, moderately low, moderate, moderately high and high.
- Low Risk Level – Principal at low risk. Liquid funds and ultra-short term bond funds having average maturity of less than 90 days should be listed under this category. (Example – Ultra Short Term Debt Funds)
- Moderately Low – Principal at moderately low risk. Short to medium term funds having average maturity between 91 days and 3 years should be listed under this category. (Ex – Short Term Debt Funds)
- Moderate – Principal at moderate risk. Income funds and gilt funds having average maturity of over 3 years; arbitrage funds and debt oriented hybrid funds having up to 20% exposure to equity components in the portfolio will fall under this risk category. (Ex – Arbitrage Funds)
- Moderately High – Principal at moderately high risk. Diversified equity funds, balanced funds, indexed ETF and gold ETF (Exchange Traded Funds) will come under this category. (Ex- Large cap, Multi-cap Funds)
- High – Principal at high risk. Examples – Sectoral funds/thematic funds, international funds and sectoral ETF.
For example, a Balanced Mutual Fund scheme having moderate risk would be depicted as below;
Is new MF Riskometer useful?
- Mutual Fund houses can now publish black & white advertisements 🙂 , as the existing ‘color code’ system is going to be replaced with Riskometer.
- As per the existing ‘product labeling’ norms, all the equity oriented schemes (Large cap or Small cap or Sector oriented) are grouped under one label i.e., BROWN colour. As per the new norms (Riskometer), the equity oriented MF schemes can be classified either under ‘Moderately High’ or ‘High’ risk labels.
- I believe that RISK is a subjective and relative term. You can observe that at all levels, your Principal is at risk. The returns from Mutual funds are volatile, but volatility is not risk, how we manage and react to it is RISK (Courtesy – Subramoney.com).
- Try to analyze Risk-Return relationship at portfolio level rather than at individual fund level.
- This new Riskometer just gives you a bird eye of view of the perceived risk. Do not just go by it. It is prudent to diversify your investments across different MF categories and across different financial securities.
(These new guidelines shall be applicable with effect from July 01, 2015, to all the existing MF schemes and all schemes to be launched on or thereafter. However, mutual funds may choose to adopt this new framework before the effective date.)
(Image courtesy of Stuart Miles at FreeDigitalPhotos.net)