Why AIFs Are Gaining Popularity Among HNIs

Alternative Investment Funds (AIFs), as defined by the Securities and Exchange Board of India (SEBI), are privately pooled investment vehicles that collect funds from investors for investing in accordance with a specific investment policy. Unlike mutual funds, which are accessible to a broad range of investors, AIFs are typically targeted at high-net-worth individuals (HNIs) and have been soaring in popularity with the robust growth of the Indian economy and sharp jump in the number of HNIs.

Growth

AIFs debuted in India only around 2012 and their growth has been nothing sort of staggering since then. Data indicates AIFs have experienced a significant surge in popularity, with assets under management (AUM) skyrocketing by 36% to Rs. 11.35 lakh crore in the past year alone. India’s economy too has grown at around 6-7% during the past decade with its GDP soaring from around $2 trillion to around $3.7 trillion.

HNIs

This strong economic growth despite the gash caused by the pandemic has resulted in tremendous wealth creation. In fact, according to a World Wealth Report, the number of HNIs in India has shot up by 12% last year. There are around 36 lakh HNIs now and by some estimates this number was just around 2 lakh a decade ago. The wealth of these HNIs now stands at around $1,446 billion. India has even surpassed the global HNI growth rate which stood at 5% last year as also Asia Pacific which grew by around 4%. This spike has also led people to look for more tailor-made investment options like the AIFs that can help them grow their wealth even more with the help of a specialized, seasoned and dedicated team of professionals.

Stock market boom

One of the reasons for the wealth creation has been India's buoyant stock market which has outperformed the globe too, with a 29% increase in market capitalization in 2023, significantly surpassing the 6% growth recorded in 2022. The markets have soared even more in 2024 and corrections have been bought in quickly by domestic investors supporting its onward and upward trajectory.

Morgan Stanley in a report earlier this year notes this is, however, not a flash in the pan.
Indian stock markets in the 20 years prior to COVID-19, have outperformed the rest of the world, delivering an annualized 8.9% return. The only market globally that came close to matching it was the U.S.

This has been the case in the last three years as well when the Indian stock market shot up 46% compared to 20% globally even as emerging market equities have been down 13%.
Many fear India’s stock markets have become too expensive but the bank notes that historically such markets with a strong growth potential in the future have always come at a premium.

“The similarities with the U.S. continue in that this rise has been almost entirely driven by rising corporate profits. Improving fundamentals at Indian companies, and importantly, their ability to generate and retain profits for shareholders has been the key long-term driver of performance,” it said adding, “India stands out as one of the very few markets where equity performance and GDP growth have a close relationship. Should the positive growth trajectory continue, its markets could continue to benefit. Over the long-term, corporates have steadily grown earnings and returned that value to shareholders. Shareholders have not suffered from the widespread poor governance, share dilution, or lack of profitability that plagued most of Emerging Markets.”

The long-term economic growth trajectory remains stable at the moment with multiple reforms and heavy investments in infrastructure development, the bank notes.

This month The World Bank has revised India’s annual growth forecast for this fiscal from 6.6% to 7%.

Startups

One key reason for the rise of AIFs has been its ability to invest in newer territories. Startups are one of them. India has the third largest number of startups globally at over 1.12 lakh.

“The growth of the private equity markets has also been funnelled by the rising popularity of AIFs. They have become an integral part of the domestic PE-VC market and a vital source of capital to startups,” according to credit ratings firm Crisil, “Commitments have risen at an annualized 38% in the past five years to Rs 8.34 trillion as of March 2023.”

Alpha

The private wealth managers exist to offer alpha to their clients and the AIFs have been able to generate strong alpha inviting a lot of attention.

As of March 2023, the aggregate AIF benchmark was able to generate an alpha of 13.5% over the public market index (S&P BSE Sensex TRI), according to Crisil.

This return was not just produced by only a handful of funds but over 75% of them were able to beat the index.

New Asset Class

Buoyed by the growth of AIFs perhaps, SEBI is considering introducing a new asset class similar to AIFs. This new class is expected to attract investors seeking potential tax advantages, especially for Category III AIFs. It may offer lower tax rates compared to Category III AIFs, potentially matching those of mutual funds. The minimum investment for this new asset class is expected to be Rs. 10 lakh, compared to the usual Rs. 1 crore for AIFs.

Eligibility:

AIFs are open to Indian residents, Non-Resident Indians (NRIs), and foreign nationals. Joint investments are permitted among spouses, parents, and children. The minimum investment is typically around Rs. 1 crore, but can be reduced to Rs. 25 lakh for directors, employees, and fund managers.

Conclusion:

AIFs are great investment tools for HNIs who want to take advantage of the soaring growth in India’s economy. India is expected to become the third-largest economy in the world with a GDP of $5 trillion in the next three years and touch $7 trillion by 2030, according to the Indian government. This growth will see strong wealth creation in various spheres and lead to many startups listing on the stock exchanges as well. But like any ride, there could be some speed bumps along the way and therefore investors must vet the AIFs they choose. They must also keep in mind that this industry is relatively young and therefore one key factor that AIFs, will need to ensure is to time their exits out of some of their investments very well.