Total Investments in AIFs at around Rs. 4 Lakh Crore!

Alternative Investment Funds or AIFs raise money privately from investors. AIFs invest in a range of asset classes – from publicly listed ones to private assets. Investors in AIFs are usually high net worth or affluent investors.

These funds are designed to cater to high net-worth investors, and the minimum investment ticket size starts from Rs 1 crore. AIFs are not allowed to seek public investment, according to the norms of the capital market regulator Securities and Exchange Board of India.

While it was earlier the case that an investor was not required to open a demat account to invest in AIFs, the regulatory landscape has been rapidly evolving. In June 2023, SEBI issued a regulation directing all AIFs with a corpus above Rs 500 crore to issue dematerialised units to its investors. This reform was introduced to bring in more transparency and accountability for AIF investors.

In an AIF, all investors essentially, receive the same returns from the fund, but the tax treatment of their returns is different depending on the residency status of the investor.

Why should you invest in an AIF?

Conventionally speaking, AIFs open new and exclusive investment options for high net-worth investors, institutional investors or market veterans, who are looking to tap into opportunities that domestic capital markets might not capture. With AIFs, a select class of investors can pool funds into several upscale asset classes like private equity, hedge funds, real estate, start-ups and more. Many of these AIFs are tailored to help investors seize opportunities that might become apparent to others only in the coming years.

History of AIFs in India

Since 2012, the regulatory supervision of AIFs has opened up gradually, and more and more AIFs have been streaming into India attracted by the country’s promising growth prospects.

• The ball was set rolling in 2012 when the market regulator issued a regulation classifying AIFs into three categories.
• By 2015, AIFs were allowed to invest in global firms with Indian ties. The collective investment in this case was limited to $1.5 billion or up to 25% of an individual’s corpus.
• In 2016, several path-breaking changes helped pave the way for AIFs to set up business in India. Setting up of the National Company Law Tribunal, implementation of the Insolvency and Bankruptcy Code and greenlighting of operational guidelines of GIFT IFSC by RBI and SEBI encouraged more AIFs to establish bases in India.

It is the cumulative impact of these reforms that India stands out as a lucrative AIF destination. In fact, 55 private credit AIFs have set up shop in the country in the last five years. As per a report titled, ‘Unlocking opportunities: India’s private credit landscape’ the AUM of private AIFs in India is estimated to zoom up to a handsome $60-70 billion by 2028.

The strength of the AIF segment in India can be assessed from the fact that the average deal value in the AIF space has risen by a CAGR of 30%  between FY18 and FY23. The average deal size surged from $33 million in 2022 to $80 million in the first half of 2023.

The latest data available from the Securities and Exchange Board of India chalks up total investment made by AIFs to a whopping Rs 3.99 lakh crore, as of December 2023.

Cumulative net investment figures at the end of December 31, 2023
 

Source: SEBI

Types of AIFs

SEBI has categorised AIFs into 3 broad categories based on their investment strategy and objective. Here are the different types of funds under each category:

Category I IAF: 

Category I AIFs invest in early-stage ventures like startups and SMEs showing high growth potential. This category includes:

• Venture Capital Funds (VCFs): These provide equity financing to startups and SMEs in exchange for a stake in the company. VCFs help entrepreneurs scale their businesses by providing funds and mentorship.  
• Angel Funds: Angel investors are typically high-net-worth individuals who invest smaller amounts in early-stage startups. Angel funds aggregate capital from multiple such individuals.
• Social Venture Funds: These funds support for-profit social enterprises having a societal impact. The aim is to generate tangible social change along with financial returns.

Category II AIFs:

Category II AIFs invest in unlisted companies providing private equity or debt financing. This category includes:

• Private Equity Funds: These AIFs invest in the equity share capital of unlisted companies across different sectors and stages. They generally have a long investment horizon.
• Debt Funds: Such AIFs provide structured debt financing to unlisted companies that may not have access to organised debt markets. The returns depend on the company's interest payments.
• Fund of Funds: These funds don't invest directly in companies. Rather, they invest in other AIFs to expose investors to a portfolio of Alternative Assets.
   

Category III AIFs:

Category III AIFs employ diverse or complex trading strategies. This category includes:

• Hedge Funds: Hedge funds invest across asset classes like equity, debt and derivatives using complex trading strategies to generate absolute returns. They aim to make money in both upward and downward market movements.
• PIPE Funds: PIPE (Private Investment in Public Equity) funds invest in listed companies by subscribing to a preferential allotment of shares at a discounted price to the current market price. They allow listed companies to raise capital more quickly.

Endnote

AIFs are a lucrative investment instrument for HNIs who are keen on diversifying their portfolio, and capturing opportunities that are not available in public markets. Having said that, there are also large risks associated with investing in these funds, and only an investor with a capacity to stomach high risk should venture into these funds.