[Practical Finance] "-15% is Not a Loss"... Why Are Profit-Loss Differential Funds Trending These Days?

As Stock Market Volatility Increases, Products Focused on Safety Gain Popularity
Customers Bear No Loss up to -15% Returns... Led by VIP Asset Management and Hanhwa Investment Management

As volatility in the domestic stock market increases, attention is focusing on "investment that does not lose." Stock investment is becoming increasingly concentrated in specific stocks with guaranteed growth potential, and in the public offering fund market, products that compensate for losses by securities firms or asset management companies are emerging one after another.

Recently, "profit and loss differential funds" have gained great popularity in the public offering fund market. A profit and loss differential fund is a product in which subordinated investors bear losses up to a certain limit first. After separating the beneficiary certificates into senior and subordinated classes, the senior investment is a public offering fund recruited from general investors, while the subordinated investment is made by the securities firms and asset management companies that launched the product.

The boom in profit and loss differential funds was led by VIP Asset Management. VIP Asset Management made its first challenge in the public offering fund market earlier this year. The product designed at that time was the profit and loss differential fund called "VIP The First Fund." The total fund size was set at 30 billion KRW, with a maximum subscription amount of 300 million KRW. The fund attracted market attention by achieving a "sold-out" record within one day of its launch.

Korea Investment & Securities recently raised 91.9 billion KRW for its profit and loss differential fund "Korea Investment Global New Growth Fund." Including the subordinated investment contribution from its parent company, Korea Investment Financial Group, the total fund management amount was set at 108 billion KRW.

This fund is a public offering private equity fund (private fund of funds). It diversifies investments into seven private equity funds managed under different themes (artificial intelligence, semiconductors, electric vehicles, bio, luxury goods, space economy, cloud). The fund management period is three years, and early redemption occurs if the yield reaches 20% before maturity. Korea Investment Trust Management is responsible for managing the fund.

In case of losses, subordinated investors such as Korea Investment Financial Holdings bear losses first up to minus 15%. Conversely, if profits are made, yields up to 10% are preferentially distributed to senior investors, and if profits exceed 15%, senior and subordinated investors share the profits equally.

The background for the creation of profit and loss differential public offering funds is the shrinking investment capital due to increased economic uncertainty. As risk aversion strengthened and funds flowing into public offering funds decreased, securities firms and asset management companies introduced products that slightly reduce the possibility of losses. The popularity of profit and loss differential products is not new; during the COVID-19 outbreak in 2020, money also flowed into profit and loss differential funds with the same structure.

It is also analyzed that the intensified concentration of stocks in the domestic stock market this year influenced the popularity of profit and loss differential funds. This year, the KOSPI rose 12.7% compared to the beginning of the year, but volatility increased by stock and sector. The investment theme in the first half of the year was "battery."

EcoPro surged 1,027.3% from 110,000 KRW at the beginning of the year to 1,240,000 KRW (as of intraday on August 22). Battery stocks such as EcoPro BM (265.6%), EcoPro HN (107.7%), POSCO Future M (126.3%), and POSCO Holdings (104.0%) showed higher returns than the KOSPI.

On the other hand, the returns of so-called national stocks such as Samsung Electronics, SK Hynix, Hyundai Motor, Kia, and Kakao were 20.3%, 55.4%, 19.1%, 27.3%, and -7.2%, respectively. These are stocks heavily held by individuals, and many individual investors flocked to them at last year's price peak. Although the year-to-date returns are positive (+), it is estimated that quite a few people actually recorded negative returns.

An official from the financial investment industry explained, "As stock market volatility increases, funds seem to be flowing back into profit and loss differential funds that can minimize losses while generating stable returns," adding, "Not only individual investors but also institutional investors have shown great interest."

However, it seems that there will not be many investment opportunities in profit and loss differential funds in the future. The industry consensus is that there will not be many asset management companies launching profit and loss differential public offering funds. This is because they are public offering funds. Public offering funds are funds with a fixed maturity that solicit investments from an unspecified majority of 50 or more people.

Asset management companies are focusing more on developing exchange-traded funds (ETFs) than public offering funds. In fact, most individual investors prefer ETF investments, which can be bought and sold at any time and in any amount like stocks, rather than public offering funds with fixed maturities.

Due to the product structure, it is also not easy for small and medium-sized asset management companies with relatively weak financial power to recruit profit and loss differential funds. An asset management company official said, "As the public offering fund market shrinks and the ETF market grows, large asset management companies are focusing on developing ETF products and expanding market share," adding, "To newly set up a shrinking public offering fund and bear some investment losses, capital is required, which is difficult for small and medium-sized asset management companies."