How to beat the risks in PMS schemes? Get proactive and curtail them

Irrespective of whether Sebi raises the investment threshold for PMS, investors themselves must avoid risks they cannot stomach

The equity bull run of recent years has swelled both the assets under management (AUM) of portfolio management services (PMS) and their total number of clients. Media reports say that market regulator, the Securities and Exchange Board of India (Sebi), is concerned that the current minimum investment threshold of Rs 2.5 million might be too low, allowing many investors not fully aware of the PMS risks to also enter them. The regulator is thinking of raising the minimum investment limit to either Rs 5 million or Rs 10 million. The greater probability is that the minimum limit might be raised to Rs 10 million and brought on a par with alternative investment funds (AIFs). 

Higher entry threshold to keep out weaker investors 

Portfolio management services do carry higher risks than mutual funds. They tend to have more concentrated portfolios. If the bets prove right, these schemes can fetch high returns. But if the bets go wrong, these portfolios can also correct more sharply. Investors in concentrated portfolios also experience a more volatile ride than those in diversified portfolios. PMS is also not bound by investment limits on individual stocks and sectors, unlike mutual funds. 

If the investment threshold is raised, it will prevent investors who are financially less strong and incapable of taking losses from entering these higher-risk products. "A higher ticket size will also ensure that allocation to PMS in a portfolio is done by investors after more in-depth due diligence and understanding of the associated risks," says Ankur Maheshwari, chief executive officer, Equirus Wealth Management.

A limit of Rs 10 million may keep out HNIs, too 

Managers of PMS schemes disagree with this proposal. They are of the view that people who invest in PMS are not retail investors but high-networth individuals who fully understand their risks. "Nobody gives their entire savings to a single PMS scheme. A person who allocates Rs 2.5 million to a PMS scheme, in my experience, is usually someone who has more than Rs 20-30 million invested in equities. Persons with that kind of savings are HNIs, not retail investors," says Aashish P Somaiyaa, chief executive officer, Motilal Oswal Asset Management Company (which runs both mutual fund and PMS schemes). 

According to Somaiyaa, if the minimum investment limit were to be raised to Rs 10 million, only those with equity corpus of Rs 100 million would be able to invest in PMS schemes. That, he says, would make PMS inaccessible to a large swathe of HNIs and leave it open only to ultra HNIs and corporate investors.

Many investors with higher risk appetite don't take the mutual fund route. If they lack the required Rs 2.5 million to invest in PMS, they take the direct investing route, where they invest in stocks based on advice from their broking house. "The broking business is not as stringently regulated as the PMS business," says Ajay Bodke, CEO and chief portfolio manager, PMS, Prabhudas Lilladher. He adds that Sebi's goal should be to incentivise more investors to move from a less regulated space to a more regulated one, and from short-term trading to medium-term investing. Towards that end, he says, the regulator should consider reducing the threshold for investing in PMS to Rs 1.5 million. 

One way through which HNI investors try to curtail risks in PMS is by diversifying their investments. Raising the minimum threshold to Rs 10 million will make this more difficult. "The ability to diversify across multiple PMS providers and strategies may no longer be easy," says Maheshwari.

Take risk reduction measures 

Irrespective of whether Sebi raises the investment limit in PMS, investors themselves should take a few steps to safeguard themselves against risks. Enter these products only if you have a large-enough portfolio. "PMS is suitable only for investors who have an investable corpus of 25-30 million," says Ankur Kapur, founder, Ankur Kapur Financial Advisory Services. Go through the scheme's disclosure document to understand its investment mandate and the risk it will run. Maintain proper asset allocation. If you are investing in a mid- and small-cap-oriented PMS, your allocation to this market segment should not exceed 20-30 per cent of your equity portfolio. 

Owing to a bull run in equities, many new PMS houses have opened up. Stick to fund managers who have a good long-term track record and have seen at least one bull and one bear market. "Check the portfolio and understand the level of concentration and liquidity risk (the latter is the risk of the fund manager investing in illiquid stocks) in it," says Bodke.

Finally, choose your financial advisor well. Many advisors, warns Kapur, have only one or two PMS in their kitty and they hawk them to all their clients. "Go with an advisor who understands PMS schemes' strategies well and is in a position to offer you a few choices," says Kapur. Remember that not much aggregated information on PMS is available in the public domain (Morningstar, Value Research, etc, perform this task in the case of mutual funds). Hence, your dependence on your financial advisor will be far greater when investing in PMS.