Mutual funds are sold with a veneer of safety. The “riskometer” labels on fact sheets—ranging from Low to Very High—are supposed to guide investors in understanding how risky a scheme really is. On paper, it’s a simple traffic-light system that turns complex portfolios into digestible warnings.
But the reality is more troubling: most mutual fund risk labels are misleading. They understate hidden dangers, simplify complexity, and often lull investors into false comfort. The result? Investors assume safety where none exists, exposing themselves to shocks like debt fund freezes, sudden NAV collapses, and mis-sold products.
The Riskometer: What It Promises
Introduced by SEBI, the riskometer categorizes mutual funds into:
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Low Risk
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Low to Moderate Risk
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Moderate Risk
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Moderately High Risk
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High Risk
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Very High Risk
The labels are meant to reflect the inherent portfolio risk based on factors like asset class, volatility, and credit quality.
In theory, it should make risk assessment easy. In practice, it often fails to capture reality.
Why Risk Labels Mislead
1. They Ignore Liquidity Risk
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Debt funds labeled “Low to Moderate Risk” may still hold bonds that cannot be sold in a crisis.
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Example: Franklin Templeton’s 2020 shutdown. Its schemes weren’t labeled “Very High Risk,” yet they froze ₹26,000 crore worth of investor money overnight.
2. They Mask Credit Risk
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Credit risk funds are branded as “High” risk, but other debt categories (like corporate bond funds) can also quietly hold risky issuers.
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Investors think “corporate bond fund = safe” when in reality, defaults can sink NAVs.
3. They Over-Simplify Equity Risks
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A small-cap equity fund and a large-cap equity fund may both be labeled Very High Risk.
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But the volatility, liquidity, and drawdown risks are vastly different. The label erases nuance.
4. They Miss Concentration Dangers
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A fund concentrated in a few issuers or sectors may carry amplified risk, but the riskometer doesn’t capture this granularity.
5. They Change Slowly
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Risk labels are reviewed quarterly. By the time an AMC updates the label, the portfolio may already have shifted into riskier territory.
6. Marketing Spin
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AMCs prominently display the “Moderate Risk” label but downplay disclaimers like “subject to market risks.”
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The result: investors over-trust the riskometer as a guarantee.
Case Studies
1. Franklin Templeton Debt Fund Shutdown (2020)
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Label vs Reality: Debt funds marketed as moderate risk turned out to be loaded with illiquid, high-yield corporate debt.
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Outcome: Six schemes froze redemptions, shocking investors who thought they held “safe” products.
2. Yes Bank AT1 Bonds Write-Down (2020)
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Some mutual funds invested in AT1 bonds of Yes Bank.
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These were wiped out during RBI’s rescue, even though schemes weren’t marked “Very High Risk.”
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Investors realized too late that “moderate” didn’t mean safe.
3. Small-Cap Equity Funds (2017–18 Boom)
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Small-cap funds carried the same “Very High Risk” label as large-cap funds.
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When the 2018 crash came, small-cap NAVs fell 40–50%, while large-cap funds corrected 10–15%.
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Risk labels failed to distinguish degree of pain.
4. Global Parallel – Money Market Funds (2008)
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U.S. money market funds were marketed as “ultra-safe.”
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When the Reserve Primary Fund “broke the buck” after Lehman’s collapse, investors lost faith in the entire category. Labels hadn’t warned of systemic liquidity risk.
Why SEBI’s Riskometer Falls Short
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One-Dimensional Approach
Risk is multi-faceted (credit, liquidity, duration, volatility), but the riskometer compresses everything into one scale. -
AMC Self-Reporting
AMCs disclose portfolio data, but categorization allows room for interpretation. -
Retail-Oriented Simplification
The regulator chose simplicity to aid retail investors, but it came at the cost of accuracy. -
Delayed Responsiveness
Quarterly updates mean risks can explode before labels catch up.
The Consequences for Investors
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False Comfort
Investors believe a “Moderate Risk” label means their money is almost as safe as an FD. -
Wealth Erosion
When hidden risks surface, NAVs fall sharply, and investors face losses they never anticipated. -
Liquidity Traps
Investors discover that redemption isn’t always possible, regardless of the label. -
Erosion of Trust
Every mismatch between label and reality reduces confidence in both AMCs and regulators.
Ethical Reflection
The riskometer was designed as a tool of transparency. Instead, it often becomes a tool of obfuscation. By oversimplifying and under-disclosing, AMCs hide behind the label, while investors confuse categorization with safety.
Ethically, mutual funds should provide layered disclosures—simple labels for retail savers, but detailed risk breakdowns for serious investors. Anything less is a betrayal of fiduciary duty.
How Investors Can Protect Themselves
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Look Beyond Labels
Read full portfolio disclosures, not just the riskometer. -
Check Asset Quality
Focus on credit ratings, issuer concentration, and liquidity of holdings. -
Distinguish Categories
Don’t assume all “equity” or all “debt” funds carry the same risks. -
Watch AUM Flows
Heavy redemptions in a “moderate” fund are a sign that risk is higher than advertised. -
Prefer Simplicity
For safety, stick to liquid funds, gilt funds, or index funds with transparent holdings.
Conclusion
Risk labels in mutual funds are supposed to be investor safeguards, but in practice, they often mislead by compressing complexity into simplistic categories. From Franklin Templeton’s frozen debt funds to Yes Bank bond write-downs and small-cap crashes, history proves that the riskometer is no substitute for real scrutiny.
For regulators, the challenge is to redesign labels to reflect credit, liquidity, concentration, and volatility risks separately. For AMCs, the duty is transparency—not hiding behind labels. And for investors, the lesson is clear: don’t trust a label to protect your savings—read the fine print.
Because in the mutual fund world, the real risk is not the one printed on the fact sheet, but the one buried inside the portfolio.
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