Alternative Investments (Comprehensive Study Notes)

Contents
Introduction to Alternative Investments .............................................................................. 2

Fee Structure and Correlation ......................................................................................... 2

Characteristics of Alternative Investments ...................................................................... 2

Types of Alternative Investments ........................................................................................ 3

Investment Methods in Alternative Assets .......................................................................... 5

Portfolio Benefits of Alternative Investments ...................................................................... 6

Risks and Challenges of Alternative Investments................................................................. 8

Historical Development of Alternative Investments ............................................................10

Alternative Investment Funds (AIFs) in India – Regulations and Structure .............................12

Categories of AIF in India ..................................................................................................15

Key Regulations and Conditions for AIFs ............................................................................17

Angel Funds (Sub-category of Category I) ........................................................................19

Economic Aspects: Fees, Returns, and Taxation ..............................................................23

Industry Trends and Recent Developments in AIFs..............................................................25

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Introduction to Alternative Investments
Definition: Alternative investments refer to asset classes outside the traditional stock,
bond, and cash categories. These include hedge funds, private equity, real estate,
commodities, and collectibles (tangible assets like art, wine, etc.). Each alternative asset
class has unique characteristics and analytical approaches. Unlike traditional
investments, alternatives often involve non-public assets and specialized vehicles. They
differ in both the type of assets (e.g. private companies, physical assets) and the structure
of investment vehicles (partnerships, trusts, etc.) used to hold them. Managers of
alternative investments commonly use advanced strategies – they may employ
derivatives, leverage (borrowed money), invest in illiquid assets, or take short
positions – strategies less typical in traditional portfolios.

Fee Structure and Correlation: Alternative investments usually have higher fee
structures than traditional funds. It’s common to see management fees that exceed those
of mutual funds and performance (incentive) fees based on profits (the classic “2 and
20” model – 2% management fee and 20% of profits). As a group, alternatives have
displayed low return correlation with traditional assets like public stocks and bonds.
This means their returns often move independently of the broader market, a desirable
trait for diversification.

Characteristics of Alternative Investments

Alternative investments tend to share a few broad characteristics that distinguish them
from traditional investments:

• Illiquidity: They often involve assets that are not easily traded or cashed out.
Many alternative funds have lock-up periods or infrequent redemption windows,
reflecting the less liquid nature of underlying assets (e.g. real estate properties or
private businesses).

• Specialized Management: Alternative asset managers typically focus on niche

areas and require specialized expertise. There is greater specialization by
investment managers, such as domain knowledge in venture capital or distressed
debt.

• Lower Transparency and Regulation: Alternatives are less regulated than public
stocks/bonds. They face lighter regulatory oversight and disclosure

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 requirements, and thus provide less transparency to investors. For example,
hedge funds and private equity funds often report performance privately and are
open only to qualified investors.

• Limited Historical Data: Many alternative assets lack long, reliable histories of
returns and volatility. Historical return data can be scarce or problematic, making
risk analysis harder. Indices tracking alternatives may suffer from biases (as
discussed later).

• Distinct Legal/Tax Considerations: The legal structures (trusts, partnerships,

LLCs) and tax treatment of alternative investments can differ significantly from
traditional investments. Investors often need to consider K-1 tax forms, unrelated
business taxable income (UBTI), or different capital gains treatments.

These characteristics mean analysts and investors must take a different approach when
evaluating alternative investments, adjusting for their illiquidity, complexity, and unique
risks.

Types of Alternative Investments

Hedge Funds: Hedge funds are privately pooled investment vehicles that can pursue
flexible, often aggressive strategies. They may use leverage, go long or short securities,
use derivatives, and invest in illiquid assets as part of their strategy. Despite the name,
hedge funds do not necessarily “hedge” risk; instead, managers employ diverse strategies
aiming for absolute returns. Strategies vary widely – long/short equity, global macro,
event-driven, quantitative, etc. – and the goal is to generate investment gains that are
largely uncorrelated with market indices. Key point: Hedge funds typically restrict
investor withdrawals (e.g. lock-ups) and charge high fees (often ~2% management + 20%
performance fee). They are usually open only to accredited or institutional investors and
face minimal public disclosure requirements.

Private Equity (PE) Funds: Private equity funds invest in the equity of companies that
are not publicly traded, or they buy out publicly traded companies to take them private.
The majority of PE funds are Leveraged Buyout (LBO) funds, which use significant
borrowing to acquire established companies, improve them, and eventually exit (through
sale or IPO) for a profit. A subset of private equity is Venture Capital (VC) – these funds
provide equity financing to young, high-growth startups and early-stage companies. VC

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investments are riskier and smaller portion of the PE universe compared to LBOs. Private
equity funds may also target distressed investments (troubled companies or debt),
hoping to turn them around – a strategy that sometimes overlaps with hedge funds’
activities. PE funds are typically structured as closed-end limited partnerships with a 7-
10 year life, after which investments are liquidated and proceeds returned to investors.

Real Estate: Real estate as an alternative investment includes ownership of physical

properties (residential, commercial, land) or investments in real estate debt (mortgages
and loans) and related securities. Investors can gain exposure through direct ownership
or through vehicles and securities. These investments can be held via full or leveraged
ownership of individual properties, direct mortgage loans, real estate limited
partnerships, or securitized interests such as Real Estate Investment Trusts (REITs) and
mortgage-backed securities. Real estate is valued for its potential to generate rental
income and as a hedge against inflation (property values and rents tend to rise with
inflation). It is illiquid and requires property management expertise. Real estate returns
are driven by local supply/demand, interest rates, and economic growth, often exhibiting
low correlation with stock markets (especially in private real estate).

Commodities: Commodities include physical goods like metals (gold, copper), energy
(oil, natural gas), agricultural products (wheat, coffee), etc. Investors can get commodity
exposure by holding physical commodities, using commodity derivatives (futures,
forwards), or owning equity in commodity-producing firms (e.g. mining or oil
companies). There are also commodity index funds and ETFs which track baskets of
commodity prices. Many commodity funds obtain exposure through futures contracts
designed to track commodity indices (e.g. Bloomberg Commodity Index), providing
broad diversification across commodities. Commodities can offer diversification benefits
– they often perform well in inflationary or late economic cycle environments when
stocks or bonds may falter. However, they can be volatile and driven by supply shocks,
geopolitical issues, and weather (for agriculture).

Collectibles and Other Alternatives: A variety of tangible collectible assets fall into the
“other” category of alternatives. These include fine wine, rare stamps, vintage
automobiles, antique furniture, art, and similar items that can appreciate in value due
to rarity and demand. Investors may also consider certain intangible assets like patents
or royalties as alternative investments. Collectibles have the appeal of tangibility and
personal enjoyment, but they are highly illiquid, require expertise to authenticate and

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value, and often have high transaction/storage costs. Their investment returns can be
attractive but are unpredictable and often uncorrelated with financial markets.

Diagram – Overview of Alternatives: (The lecture slides include charts like the “Global Assets
Under Management” for alternatives and an “Investment Cycle” diagram. These illustrate how
alternative assets have grown globally and the typical life cycle of alternative investments from
fundraising to exit. Ensure you understand these trends: global alternative AUM has expanded
dramatically in the last decades, and alternative funds usually follow a cycle of raising capital,
investing (drawdown period), managing/adding value, and exiting investments to return capital
to investors.)

Investment Methods in Alternative Assets

Investors can access alternative assets through three primary methods:

• Fund Investing: This is an indirect approach where the investor allocates capital
to a fund (e.g. a hedge fund or private equity fund), and the fund’s professional
managers select and manage the investments. The fund pools money from
multiple investors and makes investment decisions on their behalf. In return for
these services, the fund charges fees – typically an annual management fee based
on assets under management, plus a performance fee if returns exceed a certain
benchmark or hurdle. Fund investing is available for all major alternative types
(hedge funds, private equity, real estate funds, infrastructure funds, etc.).
Advantages: Access to expert managers and diversified portfolios with relatively
low effort or expertise needed from the investor. It also provides instant exposure
to a broad set of assets (the fund will usually hold multiple investments).
Disadvantages: The cost – fees in alternative funds are often high (notably higher
than traditional mutual funds) – and sometimes layers of fees in fund-of-funds.
Moreover, the investor has less control over individual holdings.

• Co-Investing: In co-investing, an investor partners alongside a fund on specific

deals. Typically, an LP (limited partner) in a private fund is given the option to
invest additional capital directly into a particular investment that the fund is
making. For example, a private equity fund finds a lucrative company to buy; it
may invite its investors to co-invest directly in that company, beyond their fund
commitment. Co-investors thus invest indirectly (via the fund) but also directly
in select assets – a hybrid approach. Advantages: Co-investors participate in deals

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 at the same terms as the fund, often with no additional fees, which can boost
overall returns. They also learn from the fund’s due diligence process and gain
experience, potentially preparing them for direct investing later. Disadvantages:
Co-investors have reduced control compared to sourcing their own deals – they
rely on the fund to present opportunities. There is also a risk of adverse selection:
the fund might offer co-investments in deals that require extra capital or are
perceived as less attractive, keeping the most appealing fully in-house.
Additionally, to co-invest, an investor typically needs to be a large and
sophisticated institution, since opportunities are offered to major LPs and often on
short notice.

• Direct Investing: This method means investing directly in the asset or company
without any intermediary fund. For example, an investor directly buys a startup’s
shares, a property, or an infrastructure project stake, rather than through a VC or
real estate fund. Advantages: Direct investing gives the investor full control and
flexibility in building their portfolio to their exact preferences. They can decide
when to buy or sell, and they avoid paying fund management and performance
fees. Disadvantages: It requires substantial expertise, resources, and access.
Sourcing and evaluating deals is complex – major institutions like large pension
funds or sovereign wealth funds may have in-house teams to invest directly (e.g.
directly acquiring infrastructure assets). For smaller investors, direct alternatives
(other than perhaps buying a rental property or some gold) can be difficult. Also,
direct investments tend to be concentrated (lack diversification), which increases
risk. Finally, direct deals often have high minimum sizes and long due diligence
processes. In summary, direct investing offers control but demands knowledge
and risk tolerance.

Portfolio Benefits of Alternative Investments

Alternative investments can play a significant role in portfolio management, primarily
by improving diversification and risk-adjusted returns:

• Diversification & Lower Correlation: One of the most valuable properties of

alternatives is their low correlation with traditional assets like equities and bonds.
Many alternatives (e.g. private equity, hedge funds, commodities) derive returns
from idiosyncratic factors or illiquidity premiums, which means they do not move

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 in lockstep with stock market swings. Including low-correlation assets reduces
overall portfolio volatility. Even if some alternative assets individually have
higher risk (volatility) than, say, investment-grade bonds, their diversification
benefits can lower the risk of the total portfolio. For example, real estate or hedge
fund strategies might hold value or even appreciate during stock bear markets,
smoothing out losses.

• Enhanced Risk-Adjusted Returns: Alternatives expand the investment

opportunity set beyond the traditional universe, which can potentially increase
returns for a given level of risk. In the framework of Modern Portfolio Theory,
adding alternatives can push the Markowitz efficient frontier outward. The
lecture notes illustrate that with alternatives included, the efficient frontier shifts
“up and to the left” – meaning for the same return, the portfolio risk is lower, or
for the same risk, the return is higher. This happens because alternatives bring in
new return streams and arbitrage opportunities that traditional assets might not
offer. Many alternative strategies seek absolute returns (aiming for a positive
return regardless of market conditions), which can improve a portfolio’s Sharpe
ratio (return per unit of risk).

• Higher Return Potential: Certain alternative investments offer prospects of higher

returns than public markets, as compensation for their higher risk or illiquidity.
Private equity, for instance, targets substantial returns by transforming companies
(through operational improvements, leverage, growth expansion) that are later
sold at a profit. Hedge funds might exploit inefficiencies or deploy leverage to
amplify returns. Because alternatives are not as constrained (they can short, use
derivatives, concentrate in specific opportunities), they have the potential for
performance above traditional benchmarks. Additionally, some alternative
markets are less efficient, meaning skilled managers can find mispricings (e.g. a
talented hedge fund manager might exploit a complex derivative mispricing, or a
PE manager might buy an under-valued family business). The use of leverage is
also common – while it increases risk, it can magnify returns if used prudently. All
these factors can contribute to higher expected returns from alternatives relative
to traditional asset classes, albeit with higher risk.

• Tail Risk Hedging and Inflation Protection: Certain alternatives can hedge
specific risks in a portfolio. For example, commodities and real assets (like real

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 estate, infrastructure) often serve as an inflation hedge – when inflation rises,
commodity prices and property values tend to increase, offsetting inflation’s
erosion of value in stocks/bonds. Some global macro hedge funds or managed
futures funds can profit from market stress (they might go long volatility or short
overvalued assets), thus providing a form of insurance during market downturns.
These hedging abilities can reduce concentration risk and vulnerability to
particular economic scenarios. However, it’s important to choose the right
alternative strategy for the right hedging purpose; not all alts perform well in
crises (for instance, many PE or real estate funds also fell in 2008).

Efficient Frontier Diagram: The lecture referenced a Markowitz efficient frontier graph showing
how adding alternatives improves portfolio efficiency. Imagine the curve of optimal portfolios
shifting upward. This is a visual reminder that alternatives, due to diversification and new return
sources, can create portfolios that dominate (in a mean-variance sense) those without alternatives.

Institutional Adoption: Because of these benefits, large institutional investors have

embraced alternative assets. For example, Yale University’s endowment famously
allocates over 75% to alternative asset classes (private equity, hedge funds, real assets,
etc.), explicitly to harness their diversifying power. Family offices (managing wealthy
family funds) on average invest around 40% of their portfolios in alternatives. Even
pension funds globally had about 23% allocation to alternatives by 2019. These figures
underscore the mainstream acceptance of alternatives as essential tools for long-term
investors seeking better diversification and returns.

Risks and Challenges of Alternative Investments

While alternative investments can enhance portfolios, they come with distinct risks and
challenges. Investors must approach them with caution and due diligence.

• Illiquidity Risk: Many alternative assets are not readily marketable. If an investor
needs to exit early, they may face penalties or be unable to sell. For instance,
private equity funds often lock up capital for 5-10 years. In stressed market
conditions, illiquid positions can be especially hard to unload, potentially
forcing fire-sale prices. Investors in alternatives should have a longer time horizon
and not rely on that capital for near-term needs.

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• Higher Fees and Costs: As noted, alternatives generally charge much higher fees
than traditional investments. These higher fees eat into net returns and can be a
drag if the manager’s skill doesn’t produce excess returns. There are management
fees regardless of performance, and significant performance fees if gains are
realized. The cost of due diligence (legal, structuring) is also higher. Bottom line:
the hurdle for outperformance is high – managers must clear hefty fees to deliver
better net returns to investors.

• Complex Strategies (Operational Risk): Alternative strategies can be very

complex and opaque. Understanding a multistrategy hedge fund’s portfolio or a
private equity fund’s use of leverage and derivatives requires expertise. This
complexity means more upfront and ongoing due diligence is needed by
investors. There is operational risk in complex trades, model risk in quantitative
strategies, and key-person risk in specialized management teams. The lack of
transparency exacerbates this – many alternative funds disclose positions only
quarterly or not at all, so investors have limited insight into what risks they are
actually exposed to.

• Valuation and Performance Reporting Risk: Because many alternative assets are
untraded, their valuations are estimates (e.g. appraisals for real estate, mark-to-
model for illiquid securities). This can smooth reported volatility (making funds
appear less risky) but might not reflect true market value. Performance can also be
reported with a lag. Moreover, manager-reported returns can suffer from biases:
two important ones are Survivorship Bias and Backfill Bias. Survivorship bias
occurs when failed funds are excluded from an index/average – only the survivors
(often better performers) remain in the dataset, so historical returns look higher
than what a representative investor might have achieved. Backfill bias (also called
inclusion bias) occurs when new funds are added to a database and back-fill their
past performance data – typically, only successful funds seek inclusion, so their
strong past results artificially boost the index. This again biases returns upward
in reported data. Investors need to be aware that published historical returns for
alternatives might be overstated due to these biases.

• Regulatory and Legal Risk: Alternatives often exploit regulatory gaps (e.g. lightly
regulated offshore hedge funds) or face changing regulations. A government
might tighten rules on real estate ownership by foreigners, or change tax treatment

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 for private equity gains. Since many alternative investments involve complex legal
structures (LP agreements, etc.), there's also legal risk if contracts are poorly
drafted or counterparties fail. Changes in laws can impact fund operations (for
example, the Dodd-Frank Act imposed registration on large hedge fund advisors
in the US, affecting compliance costs).

• Market Risk in Alternatives: Although alternatives strive for absolute returns,

they are not immune to market risk. For example, during the 2008 financial crisis,
many hedge funds and PE funds experienced large losses or freezes. A
concentrated private equity portfolio can be wiped out by a recession.
Commodities can be extremely volatile. So, while alternatives add diversification,
each still carries its own market and economic sensitivities (e.g. real estate to
property cycles, PE to economic growth and credit markets, hedge funds to
liquidity and leverage cycles). Some strategies, like global macro hedge funds,
might even introduce new risks (such as currency or interest rate risk) that need
to be managed.

In summary, the trade-offs for alternatives are: improved diversification and returns
potential versus higher complexity, fees, and liquidity constraints. It’s crucial to size
alternative allocations appropriately and to thoroughly vet managers.

Historical Development of Alternative Investments

Alternative investments, as an organized part of the financial industry, have evolved over
decades. Key historical milestones include:

• Mid-20th Century Foundations: While wealthy individuals and certain firms have
long invested in private businesses and real assets, the modern alternative
investment industry started taking shape in the mid-20th century. The first hedge
fund is often credited to Alfred Winslow Jones in 1949 (he used long/short equity
and leverage). Private equity also has roots in the mid-1900s with venture capital
firms emerging in the 1940s and 50s (e.g. American Research and Development
Corporation).

• Regulatory Changes Enabling Growth: Several U.S. regulatory changes greatly

expanded the pool of capital available for alternatives:

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 o The Small Business Investment Act of 1958 (U.S.) provided federal
support and funding for private investment in small businesses, effectively
giving a boost to early venture capital funds.

o In 1978, the U.S. Department of Labor adjusted the ERISA (Employee

Retirement Income Security Act) guidelines to allow pension funds to
invest in riskier assets, including private equities. This lifted prior
restrictions and led to pension money flowing into venture capital and LBO
funds – a pivotal change that funneled institutional capital into alternatives.

o The Economic Recovery Tax Act of 1981 reduced capital gains tax rates in
the U.S., making equity investments more attractive relative to debt. Lower
taxes on gains meant higher after-tax returns for successful PE and VC
investments, encouraging institutions (like pension funds) to increase
allocations to alternatives.

• Technological and Financial Innovation: The late 20th century brought

innovations that facilitated new alternative strategies. For example, the
development of the Black-Scholes option pricing model in 1973 provided a
rigorous way to price derivatives, and subsequent growth of derivatives exchanges
allowed hedge funds and others to trade options and futures widely. Later, in
2000, the application of the Gaussian copula to model correlated credit defaults
enabled the creation of complex structured products (like CDOs). These
mathematical and technological advances expanded the toolbox for alternative
managers, letting them price and trade complex instruments with more
confidence. At the same time, computing power and data availability surged from
the 1980s onward, supporting quantitative and high-frequency trading strategies.
Hedge funds benefited immensely from these developments – many hedge fund
strategies rely on heavy data analysis, derivatives, and global trading that
wouldn’t be feasible without modern computing and financial engineering. The
1990s and 2000s saw an explosion in the number and size of hedge funds, partly
attributable to these innovations.

• Market Events and Growth: Major market events tested and also spurred interest
in alternatives. The dot-com bust (2000) and the 2008 financial crisis led investors
to seek diversification in assets beyond public markets. Not all alternatives fared
well (many suffered losses in 2008), but the low interest rate environment post-

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 2008 pushed institutions toward private credit, real estate, and infrastructure in
search of yield. Global AUM (Assets Under Management) in alternatives
skyrocketed in the 2000s and 2010s. Private equity AUM grew as institutional
allocations rose; hedge fund industry AUM grew (peaking around $3+ trillion by
late 2010s); real assets (real estate, infrastructure) also became major allocations for
pension and sovereign funds. By the mid-2020s, alternative investments have
become mainstream: Preqin (an alternatives data provider) regularly reports
trillions of dollars across private equity, hedge funds, real estate, infrastructure,
private debt, and natural resources. Investors broadly recognize that to meet
return targets and diversify, some exposure to alternatives is necessary.

• Globalization of Alternatives: What began largely in the U.S. spread worldwide.

Europe developed a robust hedge fund and PE scene (with centers in London,
Switzerland, etc.), and emerging markets saw growth in local private equity and
hedge funds. Concurrently, regulatory frameworks evolved – for example, the
EU’s AIFMD (Alternative Investment Fund Managers Directive) was introduced
to regulate and monitor alternative fund managers operating in Europe. Globally,
many exchanges launched REIT regimes for real estate, and commodities trading
became highly international.

In summary, regulatory liberalization and financial innovation laid the groundwork for
the alternative investment industry, which has since grown rapidly. Large pools of capital
(pensions, endowments, sovereign funds) increasingly allocate to alternatives, making
them a significant component of the financial ecosystem.

Alternative Investment Funds (AIFs) in India – Regulations and Structure

India introduced a formal regulatory framework for alternative investments relatively
recently. Prior to 2012, SEBI (Securities and Exchange Board of India) only regulated
mutual funds, collective investment schemes, venture capital funds (VCFs), and portfolio
managers. Private equity and other alternative funds had no dedicated regulations and
often operated using the older VCF regulations as a workaround. Recognizing the need
to encourage and monitor this growing asset class, SEBI created a new category called
Alternative Investment Funds (AIFs) in 2012.

AIF Regulations, 2012: SEBI released a concept paper in 2011 and then notified the SEBI
(Alternative Investment Funds) Regulations, 2012 (commonly referred to as the AIF

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Regulations) in May 2012. These regulations repealed the 1996 VCF regulations, merging
venture funds into the new AIF framework (foreign venture capital investor regulations
remained separate). The AIF rules created a comprehensive structure for pooling private
capital in India under SEBI’s oversight.

Definition of AIF: Under SEBI regulations, an AIF is basically any privately pooled
investment fund (in the form of a trust, company, LLP, or body corporate) that collects
funds from investors (Indian or foreign) for investing in accordance with a defined
investment policy for the benefit of its investors. Types of funds covered are broad – the
regulations explicitly include private equity funds, venture capital funds, hedge funds
(called “Strategy Funds”), PIPE funds (Private Investment in Public Equity), debt
funds, infrastructure funds, real estate funds, SME funds, social venture funds, and
angel funds. In other words, any fund not regulated elsewhere (like mutual funds or
collective schemes) falls under AIF if it meets the pooling criteria. AIFs are distinct from
traditional promoters’ holdings or public investments; they represent a separate asset
class of pooled private capital.

Typical AIF Structure: Most AIFs in India are set up as a trust (common and tax-efficient),
though they can also be companies or LLPs. A typical structure involves a Sponsor (the
entity or person that sets up the fund and usually contributes some capital as “skin in the
game”), a Manager or investment manager (who runs the fund’s investments day-to-
day), and Investors who are allotted units of the AIF. Often, a separate trustee (for trusts)
holds the assets in fiduciary capacity. The Sponsor can also act as the Manager if they
have the necessary expertise. SEBI requires that the Sponsor and Manager are fit and
proper, and that key investment team members have sufficient experience (at least one
with ≥5 years experience in managing funds or assets).

Eligibility and Registration: To operate as an AIF in India:

• The fund must be legally formed as a company, trust, LLP or body corporate
specifically for the AIF activity. Certain entities are explicitly not considered AIFs
(even if they pool funds), such as family trusts, ESOP trusts, employee welfare
trusts, securitization trusts, or any fund regulated by another Indian regulator.
This prevents regulatory overlap.

• Mandatory Registration: No entity can act as an AIF without obtaining a

certificate of registration from SEBI. Existing funds prior to 2012 had to register

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 under the new rules within 6 months to continue operations. The registration
process involves an application (Form A) and meeting all criteria.

Key Registration Criteria: SEBI laid out specific conditions that a fund must satisfy to be
registered as an AIF:

• The fund’s founding documents (Memorandum of Association for a company,

Trust Deed for a trust, etc.) must permit it to carry on the business of an AIF. They
should also explicitly prohibit making an invitation to the public to subscribe to
its securities – AIFs can only raise money through private placement (they cannot
advertise or solicit the general public).

• The Sponsor and Manager must be “fit and proper” (a SEBI standard test of
integrity, character, and financial solvency).

• The investment team should have adequate experience, with at least one key
person having ≥5 years experience in managing pools of capital or relevant
industry experience.

• The Sponsor/Manager must demonstrate adequate infrastructure and manpower

to run the fund (essentially, they need to show they have an office, systems, and
people to manage money responsibly).

• The application should clearly detail the investment objective, strategy, proposed
corpus (fund size), target investors, and tenure of the fund. SEBI reviews this to
ensure the fund’s plans are sound and in line with whichever category it seeks to
register under.

Registration Process: The process is relatively straightforward:

1. Apply through SEBI’s online portal: The sponsor must create an account on
SEBI’s AIF online registration system and pay an application fee of ₹1 lakh.

2. Submit Form A and documents: Once the online login is obtained, the applicant
submits Form A along with the final Private Placement Memorandum (PPM,
which is like the fund’s prospectus/offering document detailing strategy, risks,
terms) and other documents like the trust deed or company charter, and various
declarations/undertakings.

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 3. SEBI Review: SEBI reviews the application, may ask queries or clarifications.
Typically, the whole registration process takes 2 to 3 months if all is in order. Upon
approval, SEBI grants a registration certificate and the fund can begin pooling
money from investors.

Categories of AIF in India

The AIF Regulations classify funds into three categories (Category I, II, III), each with
different permitted activities and regulatory incentives/constraints:

• Category I AIF: These are funds that invest in sectors or areas which are socially
or economically desirable or which the government/SEBI considers positive for
the economy. The idea is that Category I funds have “positive spillover effects”
on the economy and therefore might get incentives or concessions (such as tax pass-
through status or government encouragement). Examples of Category I AIFs
include Venture Capital Funds (VCFs) investing in startups/early-stage
companies, SME Funds focusing on small & medium enterprises, Social Venture
Funds targeting social enterprises, Infrastructure Funds, etc.. Angel Funds (which
invest in very early-stage startups) are a sub-category of venture capital funds
under Category I. Category I funds are subject to strict leverage limits – they
cannot borrow or leverage except for very temporary needs (up to 30 days, not
more than 4 times a year, and not exceeding 10% of the fund corpus). By
regulation, Category I AIFs must be close-ended funds (investors can only redeem
at end of fund life) with a minimum tenure of 3 years. They are intended to provide
patient capital to developmental areas of the economy.

• Category II AIF: This is a broad residual category – funds that do not clearly fall
in Category I or III and do not get any special incentives. They also do not
undertake significant leverage (other than transient borrowings similar to Cat I).
Most conventional private equity funds, debt funds, or fund-of-funds fall in
Category II. These funds typically invest in unlisted companies or securities – for
example, a PE fund buying stakes in unlisted firms, or a real estate fund
developing projects. Category II funds can also invest in units of other Category I
or II AIFs (i.e., a fund-of-funds structure) but cannot invest in another fund-of-
funds to avoid layering. They cannot invest in Category III AIF units. Category II
AIFs are also close-ended with a minimum 3-year term (like Category I). No

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 specific government concessions are given to Category II, but they benefit from a
pass-through tax status (discussed later) making them tax-efficient for investors.

• Category III AIF: These funds employ complex trading strategies and may use
significant leverage; they aim for short-term returns and can trade actively.. In
essence, Category III covers hedge funds and other open-ended or structured
products. They can invest in public markets – listed or unlisted securities,
derivatives, structured products and can take short positions, unlike Cat I/II.
Category III funds can use leverage beyond the limits of Cat I/II, subject to
conditions: they need to disclose their leverage and adhere to any SEBI-prescribed
cap, and must obtain investor consent for leverage. They also must report leverage
details to SEBI periodically. No special incentives (like tax pass-through) are
given to Cat III, and in fact they have a different tax treatment (they are taxed at
the fund level as if a company). Cat III can be open-ended or close-ended (many
hedge funds are open-ended offering periodic liquidity). SEBI imposes additional
risk management and compliance requirements on Category III funds (for
example, mandatory custodian appointment, as we’ll see). Typical examples: long-
short equity funds, quant funds, commodity hedge funds operating under the AIF
structure in India.

Once registered, an AIF cannot arbitrarily change its category without SEBI approval.
In fact, only an AIF that has not yet raised any money can apply for re-categorization
(with a fresh fee), and SEBI does not charge a fee if a change is approved. This ensures
funds stick to the regulatory framework they were intended for, maintaining consistency
for investors and regulators.

Fund Tenure: Category I and II AIFs (being close-ended) must have a minimum tenure
of 3 years. They can be extended by up to 2 additional years with approval of two-thirds
of investors by value. If investors do not approve extension, the fund must liquidate and
return money within one year after the term ends. This protects investor interests by not
locking them in indefinitely. Category III (if close-ended) also typically have a defined
tenure, but many Category III are open-ended (providing continuous or periodic
liquidity).

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Key Regulations and Conditions for AIFs
SEBI’s AIF Regulations impose several general conditions on all AIFs, as well as some
category-specific rules. Important highlights include:

• Minimum Fund Size (Corpus): Each AIF scheme must have a corpus of at least
₹20 crore (approx USD 2.5 million). This ensures only sufficiently sized funds
operate (no tiny schemes). An AIF may launch multiple “schemes” or separate
fund series, but each must meet the ₹20 Cr minimum.

• Investor Count Limit: An AIF cannot have more than 1000 investors in one
scheme. If the AIF is structured as a company, it must also comply with company
law limits on number of shareholders. This restriction ensures AIFs remain
relatively private (contrast with mutual funds which can have unlimited
investors).

• Minimum Investment by Investors: Each investor in an AIF must invest at least

₹1 crore (approximately USD 125,000). This high entry ticket is meant to limit AIFs
to sophisticated or wealthy investors (usually institutions or high-net-worth
individuals). There is a relaxation for employees or directors of the AIF or its
manager – they can invest a minimum of ₹25 lakh (₹0.25 Cr), which encourages
team co-investment but acknowledges their limited capacity.

• Sponsor/Manager “Skin in the Game”: The sponsor or manager of the AIF is

required to have a continuing interest in the fund – essentially a minimum capital
contribution to align interests with other investors. For Category I and II AIFs, this
must be at least 2.5% of the fund corpus or ₹5 crore, whichever is lower. For
Category III AIFs, the required sponsor commitment is higher: 5% of corpus or
₹10 crore, whichever is lower. This interest cannot be waived or funded by
management fees – i.e. it must be actual skin in the game, not an artificial amount.
This rule ensures fund managers have their own money at risk alongside investors.

• No Public Solicitation: AIFs can only raise funds via private placement, not
through public offerings or advertisements. They typically issue a Private
Placement Memorandum (PPM) to potential investors. You won’t see AIFs
publicly marketing in the media – any solicitation must be to informed, eligible
investors individually or through private channels.

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 • Investment Concentration Limits: To avoid excessive single-asset risk, Category
I and II AIFs cannot invest more than 25% of their investible funds in a single
investee company. Category III AIFs (hedge funds) have a stricter limit of 10% of
their funds in one investee (since they might be taking large bets, this ensures
some diversification). “Investible funds” is essentially corpus minus set-asides for
fees and expenses. This rule prevents, say, a PE fund from putting half its fund
into one startup or project. (Note: these limits do not apply to sovereign funds or other
AIF units if permitted; e.g., Cat III can invest in Cat I/II AIF units within limits.)

• Idle Funds: Undeployed AIF capital (say, money drawn from investors but not yet
invested in deals) can be parked in liquid, safe instruments like bank deposits,
Treasury bills, money market instruments, etc. until needed. This is a flexibility to
manage cash, though AIFs typically try to call money from investors just-in-time
due to this.

• Listing of Units: The units of a close-ended AIF are allowed to be listed on a stock
exchange, but only if the fund meets certain conditions – notably a minimum
tradable lot size of ₹1 crore per unit. In practice, this means even if listed, the units
remain out of reach of retail investors (the high lot size ensures only large
transactions). Very few AIFs actually list their units, but this provision provides an
avenue for liquidity if needed (for example, an investor could sell their units on
exchange to another qualified buyer, post a lock-in period).

Beyond these general rules, specific additional conditions apply to each Category (some
we already covered in definitions, like leverage restrictions):

• Category I specific: They must primarily invest in unlisted investee companies or

ventures as specified (e.g., startups for VC funds). They can invest in other
Category I AIFs of the same sub-type (e.g., one VC fund can invest in another VC
fund’s units, perhaps for co-investment or diversification), but cannot invest in
fund-of-funds. Leverage is prohibited except temporary as stated before. Sub-
categories like Infrastructure Fund, Social Venture Fund may have further
guidelines (for instance, social funds often have clauses about measurable social
impact).

• Category II specific: They should invest primarily in unlisted companies (since

they’re basically PE/debt funds). They may invest in units of other Cat I/II AIFs

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 (allowing fund-of-funds or master-feeder structures) but not in other fund-of-
funds. No leverage except temporary borrowing under the same limits as Cat I.
They are also permitted to underwrite securities of investee companies or
provide them with support during issuance (with a SEBI-registered merchant
banker) – for example, a PE fund could agree to buy any unsubscribed portion of
an IPO of its portfolio company. They can also engage in hedging through
derivatives for risk management, subject to SEBI guidelines.

• Category III specific: They can invest in a broad range – listed equities, bonds,
complex derivatives, structured products, etc., including unlisted securities. They
can also invest in units of Cat I or II AIFs (funds from other categories) to some
extent, but cannot invest in units of other Cat III AIFs (likely to prevent circular
investments among hedge funds). They are allowed to borrow and leverage to
enhance returns, subject to an internal limit set by SEBI (the exact leverage cap can
be revised by SEBI; historically, it might be a multiple of NAV) and they must
disclose leverage information and get investor consent. SEBI also reserves the right
to impose additional risk management guidelines on Cat III – indeed, Cat III
must follow stricter reporting and risk rules (for example, higher disclosure of
portfolio, mandatory custodian appointment regardless of size).

Angel Funds (Sub-category of Category I)

Angel Funds deserve special mention. They are a type of Category I AIF (specifically
under the Venture Capital Fund subclass) aimed at investing in very early-stage startups
(angel investments). Given the unique nature of angel investing, SEBI provides tailored
rules for Angel Funds:

• An Angel Fund can only collect money from “Angel Investors” as defined by
SEBI. An Angel Investor must qualify under one of the following:

o Individual with net tangible assets of at least ₹2 crore (excluding their

primary home), and either having early-stage investment experience, or
being a serial entrepreneur (founded more than one startup), or being a
senior professional with ≥10 years experience. This ensures the individual
is wealthy and experienced enough to understand risky startup
investments.

o Body Corporate with net worth of at least ₹10 crore.

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 o Already registered funds: any AIF itself or a VCF (from older regime) can
invest in an angel fund as an angel investor.

• An existing registered AIF can convert into an Angel Fund only if it has not yet
made any investments (basically, a brand new fund could switch to being an
Angel Fund if it meets criteria).

• Fund Structure and Raising: Angel funds must be close-ended with a minimum
corpus (fund size) of ₹10 crore. They can only raise funds by issuing units to angel
investors (no other investor type allowed). They raise money via private
placement, through an information memorandum given to prospects (no
advertising). Notably, SEBI filing requirements are lighter: an angel fund can
launch a new investment “scheme” (a batch of investments) by filing a
memorandum with SEBI 10 days prior, and they do not have to pay the scheme
filing fee that other AIFs do.

• Investment from Angels: Each angel investor must commit a minimum of ₹25
lakh to an angel fund, and they are given up to 3 years to fully draw down this
commitment. This lower minimum (compared to ₹1 Cr for regular AIFs)
acknowledges that angels may invest smaller tickets, but also ensures they have
some skin in the game.

• Investor Limit: No more than 200 angel investors can be in any scheme of an
Angel Fund (this was increased from an earlier cap of 49). This keeps it relatively
closely held (and also in line with company law limits for private placement).

• Investment Scope: Angel funds can only invest in “venture capital undertakings”
(VCUs) which are basically early-stage unlisted companies compliant with startup
criteria by DIPP (Department for Promotion of Industry and Internal Trade).
Specifically, the investee company must be within a certain age (not too old –
current rules say typically not more than 3 years old, though this may be updated
by policy), and have an annual turnover under ₹25 crore (as per startup definition
at times; the slide mentions turnover < ₹5 crore which might be an older threshold
or a specific angel criterion). The startup also must not be promoted or related to
an industrial group with turnover exceeding ₹300 crore, ensuring angels focus on
true startups, not subsidiaries of large conglomerates.

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 • Investment Size and Lock-in: An Angel Fund’s investment in any single company
must be at least ₹25 lakh and at most ₹5 crore, and such investment must be held
for at least 1 year (lock-in) before exit. This range targets the funding sweet spot
for angel rounds. The one-year lock-in ensures angels support the startup for some
time and don’t flip immediately.

• Diversification and Restrictions: An Angel Fund cannot invest in its associates

(to prevent conflicts of interest). It also cannot invest more than 25% of its total
corpus in one single company – slightly tighter diversification than other AIFs,
given the high risk of startups. The Sponsor/Manager must have a 2.5% or ₹50
lakh (whichever is lower) sponsor commitment in the angel fund (this is similar
to Cat I/II requirement, but capped at ₹50 lakh because angel funds are smaller).
Again, this sponsor stake cannot be through fee waiver; it must be an actual
contribution. Angel funds are not allowed to list their units on any exchange (no
secondary trading), and they cannot invest overseas – they must invest
domestically in Indian startups.

In essence, Angel Funds provide a SEBI-regulated way for groups of angels to pool
money and invest in startups, with specific safeguards and limits to keep the activity
focused and high-risk nature contained.

Operational and Reporting Requirements

All AIFs in India must adhere to certain operational standards and transparency
requirements set by SEBI:

• Internal Policies: AIF managers must formulate internal policies for the fund’s
operations, conduct, and risk management, and periodically review them for
adequacy. This might include policies on valuation, conflict of interest, insider
trading, etc.

• Custodian: If an AIF’s corpus exceeds ₹500 crore, it must appoint a SEBI-

registered custodian for safekeeping of securities and assets. For Category III
AIFs, a custodian is mandatory regardless of size, due to their complex trading –
this ensures there’s a third-party oversight of the assets and trades (mitigating
fraud or error risk).

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 • Changes in Key Entities: Any change in the Sponsor or Manager of the AIF must
be reported to SEBI. If there’s a change in control of the AIF’s sponsor/manager,
prior approval from SEBI is required. This prevents a situation where an unfit
party acquires control of a registered AIF without regulatory vetting.

• Avoidance of Conflict of Interest: Sponsors and managers are required to

establish and implement written policies to avoid conflicts of interest and,
where they arise, to resolve them in the interest of investors. For instance, if the
manager has multiple funds, allocation of deals must be fair; or the manager
shouldn’t unfairly enrich the sponsor at the expense of investors.

• Transparency and Disclosures: AIFs must ensure transparency by providing

investors with periodic reports on financial position, risk management, portfolio
holdings (to some extent), and any fees or charges to the fund (like manager’s fees
or any other compensation). They also need to disclose any significant risks or
legal problems. Many AIFs provide quarterly or annual reports that include a
portfolio summary, valuation, and any material changes or conflicts.

• Record Keeping: The manager/sponsor must maintain all the records related to
the fund (assets, valuations, transactions, investor details, etc.) for at least 5 years
after the fund winds up. This is so that SEBI can inspect if needed and to ensure
accountability.

• Regulatory Reporting: AIFs have to file reports to SEBI on their activities as may
be required. SEBI typically requires quarterly reports on fund size, investor profile,
investments made, etc., and for Cat III, monthly reports of exposures and leverage.
This helps SEBI monitor systemic risk and compliance.

• Regulatory Oversight: SEBI has the power to inspect or investigate any AIF’s
books and records, either suo moto (on its own) or upon receiving a complaint.
AIFs must cooperate fully with SEBI inspectors and provide access to all
information. SEBI can take actions like warnings, fines or even cancel registration
if regulations are violated. All AIFs are expected to strictly comply with any
guidelines, circulars, or directives that SEBI issues from time to time.

These frameworks ensure that while AIFs have flexibility compared to mutual funds,
they still operate under a governance and disclosure regime that protects investors and
the financial system.

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Economic Aspects: Fees, Returns, and Taxation
Fee and Cost Structure: Managing alternative assets incurs various costs. As per the
slides, costs are split between what the Fund bears and what the Asset Management
Company (AMC)/Manager bears:

• Fund-borne Costs: (ultimately paid by investors out of the corpus)

1. Setup Costs: one-time expenses to establish the fund – legal fees for
drafting the trust deed and PPM, SEBI registration fee, structuring and
advisory fees, tax opinion costs.

2. Placement/Marketing Fees: any fees or commissions paid to distributors or

private bankers for raising capital from investors.

3. Administration Costs: ongoing costs for fund administration like investor

meetings, communications, audit fees, custodian fees, valuation fees, and
preparing reports/accounts.

4. Management Fee: the annual fee paid to the investment manager (AMC)
for managing the fund’s portfolio. Typically this is around 2% of committed
or invested capital per year for PE/VC, or of NAV for hedge funds – exact
terms vary.

5. Investment & Transaction Costs: expenses related to conducting due

diligence on deals, transaction legal fees, brokerage on trades, etc., usually
charged to the fund.

• AMC/Manager-borne Costs:

1. AMC’s Own Overheads: The salaries of the fund management team,

research analysts, support staff – basically the employee costs of the
manager are typically not charged to the fund (except to the extent covered
by the management fee).

2. Other Administrative Costs: Any general office expenses or anything not

specifically allowed to be charged to the fund. The principle is, unless a cost
is enumerated as fund-borne, it’s assumed to be covered by the manager
out of their management fee.

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Investors in AIFs carefully examine these fees in the fund’s term sheet. High fees mean
the manager must add significant value to net a good return for investors.

Economic Returns & Waterfall: AIFs (especially PE/VC funds) follow the “2 and 20” fee
model in many cases. The slides describe a 2/20 model:

• Management Fee (2%): This is often charged on the committed capital during the
investment period (when the fund is deploying money, say the first 3-5 years) and
then on the remaining invested capital thereafter. For example, a ₹500 Cr PE fund
might charge 2% on ₹500 Cr = ₹10 Cr per year in the first few years. After the
investment period, if only ₹400 Cr is still invested (some exits happened), 2% on
₹400 Cr = ₹8 Cr/year. This fee covers the operating expenses of the manager/AMC
– salaries, rent, deal sourcing costs etc.. It is typically paid quarterly from the fund
to the manager.

• Carried Interest (Performance Fee, typically 20% of profits): This is the share of
profits that the AMC (the GP/general partner) earns after returning investors’
capital and a hurdle return. The slides indicate: the AMC is paid a percentage of
the profits over a hurdle rate, commonly 20%. The hurdle rate might be, for
example, 8% per annum – meaning investors must get an 8% annual return before
carry kicks in. The carry is often shared among the team (employees) and the
sponsor of the AMC. In practice, the fund will have a waterfall distribution:

1. Return all contributed capital to investors first.

2. Then pay investors the preferred return (hurdle) – sometimes structured as

a catch-up where the GP might get a larger share for a while to “catch up”
to 20%.

3. After that, profits are split (80% to investors, 20% to GP).

o The carried interest is back-ended – meaning the GP typically gets paid at

the end of the fund life or upon successful exits, only after investors have
gotten their initial investment (and often hurdle) back. This aligns
interests: if the fund underperforms, the GP might earn no carry at all.

• The structure may involve issuing a special class of units or partnership interests
to the GP (carry vehicle) that entitles them to this 20% profit share.

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Taxation of AIFs: (Note: The slides mention “Taxation for AIFs in India” but details aren't
given in the text. Summarizing known policy:)

• Category I and II AIFs in India are given pass-through status for most types of
income. This means the fund itself is not taxed (except for withholding
obligations); instead, all income (other than business income) is passed on to
investors and taxed in their hands. For example, capital gains from a PE fund’s exit
are taxed as capital gains for each investor according to their share. Recent budgets
(2023-24) clarified that even losses can pass through to investors (except losses
cannot be passed through to non-resident investors in some cases). Business
income (if any) earned by Cat I/II AIF is taxed at the AIF level at 42% (as AIFs are
typically structured as trusts). But AIFs generally ensure they earn only capital
gains, interest, etc., not business income.

• Category III AIFs, on the other hand, are taxed similarly to a company or trust (no
pass-through). They must pay tax on their income at the applicable rates within
the fund and then distribute post-tax returns to investors. This is because Cat III
often generate frequent trading gains and interest, and to avoid complications for
investors, the fund itself handles the tax. Investors in Cat III get their returns
usually as redemption of units (which could be tax-free or taxed as capital gains
depending on structuring).

• Also, investors may be subject to withholding tax on distributions from AIFs. SEBI
accredited investor rules (2021) allow certain qualifying investors to have lower
minimums and slightly different treatment, but those are evolving.

Investors should consult tax advisors, as AIF taxation can be nuanced (and has seen
updates, e.g., in Budget 2024 capital gains for Cat I/II AIF were clarified to always be
capital gain in investor’s hands, not business income).

Industry Trends and Recent Developments in AIFs

Global Trends: Globally, alternative investments have grown enormously and become a
staple in institutional portfolios. As noted, big endowments and pension funds allocate
significant portions to alternatives for diversification and return enhancement. The total
assets under management in alternatives worldwide (including hedge funds, private

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equity, real assets, private debt, etc.) is measured in the tens of trillions of dollars as of
mid-2020s. Key trends include:

• Growth of Private Markets: Private equity and debt have grown faster than public
markets in recent years. Companies are staying private longer (e.g., startups
achieving high valuations before IPO), and private capital is abundant. This has
led to mega-funds in private equity and record dry powder (unused capital).

• Institutionalization: Alternative funds, once niche and available only to elites, are
now managed by large asset management firms, and even retail investors are
gaining access via feeder funds or regulated vehicles (though in India, retail access
is still limited due to the ₹1 Cr minimum, globally there are moves to lower
minimums via interval funds, etc.).

• Consolidation and Competition: The success of alternatives has attracted many

managers, increasing competition. Top-performing funds still have waitlists
(investors clamoring to get in), but average fund returns have moderated due to
high competition for deals (especially in private equity and venture capital).

• Regulatory Scrutiny: With growth, regulators worldwide keep a closer eye. There
are discussions about increasing transparency of private funds, ensuring systemic
risks (like hedge fund leverage or private market illiquidity) are monitored.

India-Specific Trends: India’s AIF industry has seen remarkable growth since its 2012
inception:

• Surge in AIF Registrations and Capital: As of December 2024, cumulative

commitments raised by AIFs reached about ₹13,05,179 crore (₹13.05 trillion). This
is money that investors have agreed to invest in AIFs. Out of this, funds actually
raised (drawn down) are about ₹5.27 trillion, and investments made about ₹5.06
trillion. These numbers indicate a very large and growing alternative asset pool in
India. In USD terms, ₹13 trillion is roughly $160+ billion of committed capital – a
substantial figure (and a big jump from virtually zero before 2012).

• Category II Dominance: The majority of this capital is in Category II AIFs

(primarily private equity and debt funds) – with over ₹10,02,672 crore
commitments (≈ ₹10 trillion) in Cat II alone. Category II includes venture capital,
growth equity, buyout funds, real estate funds, and structured credit funds, which

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 have proliferated in India to finance everything from tech startups to
infrastructure projects. This reflects strong investor appetite for private equity and
private debt opportunities in India’s growing economy.

• Category III Growth: Category III AIFs (hedge funds, public markets strategies)
have also grown significantly, with ₹2,17,645 crore in commitments and over ₹1.29
trillion actually raised by end of 2024. These include long-short equity hedge
funds, quant funds, etc., often set up in GIFT City (a special economic zone in
Gujarat) for tax advantages. While smaller than PE, the hedge fund space in India
is developing as regulations allow domestic pooled vehicles for sophisticated
strategies.

• Category I Funds: Category I AIFs had around ₹84,862 crore committed – a smaller
share, which is expected as these are niche (startups, social ventures, etc.). Within
Category I, VC funds (early-stage venture capital) form the bulk (₹50,752 Cr
commitments in pure Venture Capital Funds, plus ₹8,711 Cr in Angel Funds).
Government initiatives (like Fund-of-Funds for Startups, SIDBI’s funds) have also
backed venture AIFs. Infrastructure and SME funds are growing (₹20,041 Cr
committed to Infrastructure funds; ₹1,189 Cr to SME funds), aligning with India’s
focus on infrastructure development and small enterprise financing. Social
Venture funds remain a small but emerging segment (₹2,121 Cr committed).

• Performance and Exits: Indian AIFs, especially VC/PE, have started to see notable
exits (through IPOs like Zomato, Paytm, etc. where AIFs were early investors).
This builds confidence in the alternative asset class. The Indian startup ecosystem’s
success has fed into more capital being raised by AIFs (many domestic VC funds
by new managers have launched).

• Regulatory Developments: SEBI continues to refine AIF regulations. For instance,

it introduced the concept of Accredited Investors (AIs) in 2021 – wealthy investors
who meet certain criteria. AIs can get flexibility like lower minimum ticket size or
exclusive products. An Accredited Investor in India is someone who has, say, ₹5
crore+ net worth or high income, as certified by an accreditation agency. If an AIF
only takes accredited investors, SEBI may allow certain relaxations (like a smaller
minimum investment, or some leeway in investment conditions). This is to
encourage more participation while still protecting retail investors (who remain

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 excluded). The lecture slides hint at “Who can be an accredited Investor?”,
indicating this as a point of discussion.

• Tax Clarity: The government has been making taxation clearer for AIFs – e.g.,
Budget FY2024 clarified that Category I and II AIF capital gains will be taxed as
capital gains in investor hands (even if the fund actively trades securities, which
could be considered business income – they removed that ambiguity). This clarity
has been positive for attracting investors.

• GIFT IFSC AIFs: India’s International Financial Services Centre (GIFT City) has
its own AIF regime (IFSC AIFs) with tax incentives (like 0% tax on income for 10
years). Many hedge funds and PE funds are setting up in GIFT City to draw foreign
investors. This is an emerging trend to watch, as it could make India a regional
hub for alternative investment funds.

Looking Ahead: The alternative investments space in India is poised to keep expanding.
With economic growth, an entrepreneurial boom, and infrastructure needs, private
capital will remain in high demand. AIFs provide a regulated channel for domestic and
foreign investors to participate in these opportunities. We also see more innovative funds
– e.g., social impact funds, cat III funds launching retail feeder options (via PMS or
small schemes), and even crypto funds (though crypto is currently not embraced by
regulators, some funds are eyeing blockchain technology investments).

For students and practitioners, understanding AIF regulations and the landscape is
crucial, as alternatives are now an integral part of the financial industry in India and
worldwide.

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