How Blockchain Can Prove To Be A Boon For India’s Mutual Fund Industry

• Toshendra Kumar Sharma
• April 19, 2019

As most of us are aware, the mutual fund industry is all about wealth creation. It has had a long and successful history. It started with the formation of Unit Trust of India in 1963 by the Indian Government and the Reserve Bank of India. SEBI regulations introduced in 1996 and the exemption of mutual funds from income tax dividends from 1999 were the two fundamental turning points in the mutual fund domain. This made it more palatable to the public.

 

The diversification of investment capital in the last 15 years has been significant in shaping the Indian economy thereby making mutual funds shift to a phase of consolidation and cohesive growth. Having said that, let’s now understand what mutual funds really are.

 

Basics of Mutual Funds

 

It is a financial vehicle which consists of a pool of money. It is the money collected from investors to invest in securities such as money market instruments, bonds, stocks, and other assets. Mutual funds are operated by professional money managers. They are the ones who allocate the fund’s assets and attempt to produce income or capital gains for the fund’s investors. Each shareholder participates proportionately in the gains or losses of funds. The value of a mutual fund company depends on the performance of the securities it purchases.

 

The Need for Blockchain in the Mutual Fund Industry

 

One of the biggest challenges of the mutual fund industry is the centralized environment. This involves incurring high costs of maintaining digital infrastructure. The current administration of mutual funds relies on numerous third parties and processes. The distribution agents are the third parties and they are not connected to the funds. They work together to connect investors with the fund. Transfer agents such as banks or other financial institutions are assigned to keep a record of investor accounts. They will also be overseeing the payment of dividends and issuing statements to investors. As so many parties are involved in signing up a new investor, the transaction times are lengthy and hence it takes three to four working days from the point of subscription to the point of settlement. This makes the investing process slow. This is where blockchain technology comes into the picture.

 

Blockchain-  A Boon for the Mutual Fund Sector

 

Blockchain technology can prove useful for the mutual fund sector in terms of customer onboarding, reporting, portfolio management, and trading and settlement.

 

Having a blockchain-enabled mutual fund will help eliminate the intermediate steps involved in fund subscription. Processing times are reduced. An investor will have a digital wallet which will hold their digital identity and the digital currency to be invested in the blockchain mutual fund. The Know Your Customer (KYC) and Anti-Money Laundering (AML) checks can be done by the blockchain-based digital identity and not a third party. Smart contracts can conduct these checks electronically and can then automatically subscribe to investors who have passed the check.

 

A hybrid blockchain will be used and in the permissioned private segment only provides information to authorized parties. Smart contracts will be used for information and fund flow between stakeholders. When a user gives a transaction request (purchase, redemption) or a service request (purchase request, transfer of holding), a smart contract will be generated between the investor and the Registrar and Transfer Agent (RTA). It is a short code called ‘chain code’ which resides on the blockchain.

 

The smart contract is coded in a high-level language and is then added to the blockchain, given a unique address, and invoked by authorized parties. The transaction information is added to the blockchain node. It is validated in near real-time and hence will be available on the blockchain network permanently, thanks to the concept of distributed ledger technology. Digital exchange of asset is also possible.

 

In the case of countries like India where dealing with crypto and virtual currencies are not allowed, the RTA would issue a transaction request to the bank for a fund transfer and this happens by means of a smart contract. Blockchain helps reduce transactional risk and settlement time. As the network is self-regulating, there is no need for any extensive regulation. It eliminates the need for a central trust to issue authority as smart contract executes contracts by itself. Information on the blockchain is permanently available. So, permissioned parties can generate their statement of accounts at any time. Reduces operational burden as investor complaints can be addressed over the blockchain. Using blockchain technology saves a lot of time and energy which can be used to enhance the customer experience.

 

The Net Asset Value of the investment can be computed. Processing of transfer of digital money in exchange for fund investment is possible with the blockchain. Customer account balances can be stored on the blockchain. Investors can monitor their fund balances with a user interface on a smartphone app. During the time of paying out for dividends, the payment is automatically executed by the smart contract and the proceeds are deposited in the customers’ digital wallet. The entire management process could eventually be automated using blockchain technology.

 

Blockchain technology will undoubtedly have a positive impact and will certainly prove to be a game changer in the mutual fund industry. The features of blockchain such as accountability, transparency, decentralization, privacy, and tamper-resistance will help stakeholders save both cost and time. Transaction processing can be automated using smart contracts thereby ensuring that updated information is available on the blockchain at all times. Blockchain is a boon for the asset management industry as it assists in the investment decision-making process, protects portfolios from risk, and is vital for wealth generation.