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The Impact of Market Conditions on Loans Against Mutual Funds

The Impact of Market Conditions on Loans Against Mutual Funds

Posted: 21st August, 2025
Updated: 21st August, 2025

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Category: Personal Loan
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Written by: Shriram Finance
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Reading Time: 3 min
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As more investors discover the flexibility and convenience of borrowing against their mutual fund holdings, loans secured by investment portfolios are gaining prominence. However, volatile stock markets and economic uncertainty can have an impact on eligibility, loan amounts, and interest rates. This comprehensive guide examines how macroeconomic factors and capital market movements influence loans on mutual funds.

Defining Loans on Mutual Funds

Borrowing against mutual funds allows investors to pledge their portfolio of mutual fund units to obtain a loan, usually up to 50-60% of the market value. The borrowed capital can be used to meet personal or business expenses without prematurely redeeming investments.

Key features of loans on mutual funds:

Speed: Fast loan approval within a few days
Rates: Competitive interest rates
Flexibility: Option to pledge multiple schemes from different fund houses
Investment: Funds remain invested while availing loan facility
Tenure: Flexible tenure of usually up to 5 years

By leveraging existing assets in a volatile market, investors can tide over temporary cash crunches. Leading banks, non-banking financial companies (NBFCs) and fintech firms now offer loans on mutual funds.

How Interest Rates Are Decided

Interest rates on loans on mutual funds depend on:

Credit profile of the borrower - CIBIL score, income stability, etc.
Loan tenure - shorter period means lower interest rate
Loan to value ratio - loans up to 50% of investment value get lower rates
Type of mutual fund scheme - equity or debt

The best mutual fund loan rates usually range from 10-16% per annum, but final pricing depends on the lending institution’s risk policies.

Financial institutions may increase rates during times of uncertainty and slowing economic growth to account for higher default risks. However, preferential pricing is still available for borrowers with excellent credit profiles.

Impact of Falling NAVs

A key risk to consider with loans against mutual funds is the declining net asset values (NAVs) of the mutual fund schemes pledged. If the total collateral value drops too much due to falling NAVs, lenders can ask for additional security or even liquidate the funds.

For example, equity scheme NAVs tend to fall sharply when markets enter a volatile or bearish phase. This market volatility and mutual fund loans see a direct correlation as eligible loan amounts decrease with lower equity NAVs. As valuations decline due to volatility, so does the approved loan amount eligibility per unit. Lenders protect themselves from these mutual fund loans by advancing lower loan-to-value (LTV) ratios in such uncertain times.

Debt funds are impacted during rising interest rate cycles as yields move up and NAVs drift lower. Credit risk funds also see diminishing NAVs if underlying bonds suffer downgrades or defaults.

Economic Factors Affecting Loans

During times of weak economic activity, the risk of loan defaults increases for both retail and business borrowers. Factors like rising inflation or political uncertainty also make lenders cautious. As a result, banks and lending institutions become stricter with their loan approvals. Self-employed individuals, startup promoters and Micro, Small and Medium Enterprises (MSMEs) in volatile sectors may find it hard to secure loans on mutual funds during such times.

Past credit behaviour weighs in more strongly in the evaluation process. However, salaried applicants from sectors such as IT, pharma and government services may still get approved based on income stability.

Cautious Measures to Manage Risks

While some volatility risks are inevitable, investors can take proactive measures to mitigate adverse impacts:

Maintain adequate equity and debt scheme allocation to diversify risks
Invest a higher share in large-cap funds compared to mid/small-caps
Prepay loan amounts partially when NAVs rise to reduce the LTV ratio
Top up with other liquid assets like fixed deposits if collateral value dips

Also monitor economic and market trends regularly to anticipate policy changes which influence loan terms.

Summing Up

Loans against mutual funds are a smart way to access the value of your investments. However, economic changes and market movements affect loan eligibility, tenure, approvals, and interest rates. By investing wisely and watching market trends, investors can manage risks and keep this borrowing option stable.

This loan type is more flexible and reliable than many others during uncertain times. Therefore, investors looking for stability amid market ups and downs should consider loans against mutual funds as a strong financing choice.

FAQs

How do market conditions influence the eligibility for loans against mutual funds?

Market volatility directly impacts the net asset value (NAV) of mutual fund schemes. Falling NAVs lower the total collateral value, which causes loan providers to reduce maximum loan eligibility per unit. They also advance loans at lower loan-to-value ratios during uncertain markets.

What happens to my loan if the market value of my mutual funds declines?

If the market value of your pledged units falls below a threshold set by the lender, they will ask you to provide additional collateral or repay part of the loan to maintain stipulated security margins. If you fail to top up collaterals, the lender holds the right to liquidate some or all mutual fund units to recover dues.

Are lenders more cautious in volatile markets?

Yes, concerns about rising defaults in turbulent markets prompt cautious behaviour among financial institutions. Many tighten underwriting norms by focusing more strongly on applicant credit scores and employment stability in vulnerable sectors. Self-employed borrowers may find it harder to secure loans on mutual funds during downturns.

How can rising interest rates affect loans against mutual funds?

When interest rates rise, debt scheme NAVs fall as underlying bond yields move higher in the capital markets. This diminishes the collateral value for lenders. Consequently, they increase the applicable interest rates on such loans to account for the higher perceived risk.

Can economic downturns affect the performance of mutual funds used as collateral?

Prolonged recessions can hurt the financial health and profitability of companies. Equity mutual funds with higher exposure to such sectors may witness falling NAVs as portfolio valuations moderate in downturns. Again, financial institutions will limit eligibility if collateral loses value.

Are there specific market indicators that borrowers should monitor?

Borrowers should track indicators like market indices, bond yields, economic growth forecasts and industry credit ratings. These provide signals of NAV movement risks so corrective actions can be taken, such as providing additional collateral or prepaying some amount.

How do fluctuating mutual fund NAVs affect loan repayments?

Usually, there is no direct impact on the repayment schedule, but rising NAVs may allow part prepayment to reduce the principal outstanding. This lowers the risks of breaching lending agreements if markets decline subsequently. Falling NAVs lower the buffer, so borrowers should avoid further leverage until values stabilise.

How should borrowers adjust their repayment strategy based on market conditions?

When markets seem overheated and NAVs peak, use the opportunity to prepay some principal. Or alternately, provide added liquid collateral to improve the LTV ratio. When NAVs fall in corrections, avoid fresh borrowings till markets stabilise. Prioritise repayment of costlier debt first before loans on mutual funds.