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Alternative investment schemes of NPS funds: Only for the risk-taking investor

Introduced in 2016, Scheme A is available only to Tier-1 NPS investors. The idea was to expand the investment universe for subscribers. But are the risks worth it?

July 06, 2021 / 09:32 AM IST

Although the National Pension Scheme (NPS) is a retirement planning vehicle, it does allow you to take higher risks, if you’re up for it. We have a scheme A that stands for alternative investments. This plan invests in Alternative Investment Funds (AIF Category I and II), Real Estate Investment Trusts (REITs), Infrastructure Investment Trusts (InvITs), Basel III Tier 1 bonds and securitised papers. All the seven pension fund managers offer this option. But before you decide to go chasing higher returns, it’s important to understand what this scheme offers, and the risks involved.

A high-risk, high-return game

Introduced in 2016, Scheme A is available only to Tier-1 NPS investors. It is not available under the Tier-2 account. To make sure your risks are limited, you can only invest up to 5 percent in this scheme under the active choice. The ‘auto’ option does not offer Scheme A.

“The idea behind launching Scheme A was to expand the investment universe for subscribers. It is for the investors who are ready to take extra bit of risk,” says Supratim Bandyopadhyay, Chairman, PFRDA, the regulatory body for NPS.

Despite being in existence for more than four years, the combined assets under management (AUM) of Scheme A is only Rs 81 crore (as on May 2021), just 0.2 percent of the overall AUM of Rs 49,187 crore.



“One of the reasons is the cap on investments in the scheme up to a maximum of 5 percent of the total portfolio,” says Bandyopadhyay. Also, many investors may not understand these new-generation investment instruments such as AIFs, REITs, InvITs and Basel III Tier 1 bonds, he adds.

High on AT1 perpetual bonds, low on REITs and InvITs

Most NPS managers have made significant investments in Additional Tier (AT1) perpetual bonds. AT1 bonds can give higher yield than other bonds, but they come with risk on account of their complex structure. Many experts believe that they are quasi-equity instruments that masquerade as debt investments. Yes Bank’s AT1 bonds debacle last year brought to light the real risks with such investments.

Also read: SEBI’s AT1 bonds’ rule resolved: Should you hold or sell your debt funds?

“We have restrictions on perpetual bonds – the percentage of the corpus they (NPS managers) can invest in AT1 bonds and what kind of bonds they can choose,” says Bandyopadhyay.

The A schemes of all NPS managers hold AT1 bonds of banks, such as those of SBI, ICICI bank, HDFC bank, Axis bank and IndusInd bank – usually the stronger ones.


On the other hand, most pension fund managers have avoided investing in REITs and InvITs. As per the latest available data, only Aditya Birla SL NPS and HDFC NPS hold REITs and InvITs in their portfolios.

Aditya Birla SL NPS and HDFC NPS hold the REITs of Embassy Office Parks and Mindspace Business Parks and InvITs of India Grid Trust and PowerGrid Trust.

Why have NPS managers avoided AIFs?

Category I AIFs invest in start-ups, early-stage ventures, social ventures, SMEs or infrastructure sectors. Category II AIFs include real estate and private equity funds (PE funds).

But NPS fund managers find it difficult to invest in them. The minimum investment ticket size in AIF is close to Rs 1 crore. The small sizes of Scheme A with various pension funds is a hindrance.

Another concern is the illiquidity of AIFs. “All the AIFs are unlisted and it’s difficult to value them,” says Bandyopadhyay, who adds that the PFRDA is trying to resolve this issue.

A long lock-in of seven years is a key reason, says another fund manager on the condition of anonymity, why NPS has stayed away from AIFs. When a subscriber switches from one manager to another, it would be difficult to redeem these units of AIFs.”

Sunil K. Goyal, Managing Director and fund manager, YourNest Venture Capital says, “As per the Sept 2020 CRISIL Benchmark report, on 253 AIFs of vintage, FY14 to FY19, the returns are 6.59-26.62 percent. In a low-interest rate environment, pension fund managers must be encouraged to invest in Category 1 & 2 AIFs.”

Should you invest?

The performance of scheme A among NPS managers has been moderate since their launch. Over the last one and three years, the category delivered an average annualised return of 7.8 percent and 8 percent, respectively due to their major allocation to low-yielding money market instruments.

Though a relatively risky product, scheme A enables small retail investors to participate in the untapped investment universe such as AIFs. Rajesh Shinde, a Pune based fund manager of a family office advises, “Small investors with high risk profile can allocate their contribution upto the permissible limit of 5 percent in scheme A and accumulate units. This will help in generating higher return in future once the scheme A added AIFs in their portfolio.”
Dhuraivel Gunasekaran
first published: Jul 6, 2021 09:32 am

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