What is Mutual Fund?

Mutual Fund is a body corporate that pools the money from individual/corporate investors and invests the same on behalf of the investors /unit holders, in various investment avenues like equity shares, Government securities, Bonds, Call money markets etc., as per the pre-specified objective and distributes the profits earned from such investment. In India, Mutual Funds are registered with the Securities and Exchange Board of India (SEBI).

Are mutual funds risk free?

No. The investment in Mutual Funds are subject to market risks like investment in stock or any other investment avenues though in less proportion since it is managed by stock and debt market professionals.

That means Mutual Funds are like Stocks?

Actually Mutual Fund is a basket of stocks and other investment instruments. In mutual funds, investor gets a diversified portfolio instead of a single stock with a limited amount of money

What kind of returns MF provides?

There are two types of returns that a mutual fund provides:

Income - This refers to the income received out of profit earned by the Mutual Fund and is termed as dividends.

Capital Gains - This refers to the appreciation in your invested money resulting from increase in prices of the securities at which the fund was invested.

How can I purchase/sell my units of Mutual Funds?

You can invest in MFs in following ways:  

• Upcoming MFs - Through NFOs (New Fund Offers).

• Ongoing MFs - Through current NAV of a mutual Fund.  

As per SEBI, all closed-ended funds have to be necessarily listed on a recognized stock exchange where an investor can sell or purchase their units. In case of open-ended Mutual Funds, the units can be purchased or sold to the Mutual Fund directly.

Our site, www.smcindiaonline.com provides you all the current relevant information about those.  

What is the NAV?  

The current value of investment of a scheme can be known from the NAV (Net Assets Value). The NAV in real sense measures the value of net assets invested in the scheme (Gross assets –Gross Liabilities)                                         

Is there any charge in purchase and selling of a mutual Fund?  

Generally the Investment company i.e. Assets Management Company charges loads while purchasing and selling a scheme.  There are two types of Loads, which are generally paid by investors i.e. Entry Load and Exit Load.  

Entry Load - Charged at the time of purchasing of units. At the time of buying you are required to pay NAV and a fixed percentage of it. This fixed percentage is the entry load.  

Exit Load - Charged at the time of selling of units. At the time of selling what you will get is the NAV minus a fixed percentage of it. This fixed percentage is the exit load.  

What is a no load fund?

A no-load fund is one that does not charge an entry or exit load. In such schemes, the investors can enter or exit at prevailing NAV and no additional charges are payable on purchase or sale of units.  

What are the different types of Mutual Funds?

The mutual funds are categorized on the following basis:  

Maturity Period 

Open Ended Scheme - These schemes do not have fixed maturity period. Investors directly deal with investment company for redemptions and investments. Investors can buy and sell units at NAV at related price.  

Close Ended Scheme - These schemes have stipulated maturity period (ranging from 2 to 15 Yrs). Investors can invest in these schemes at the time of initial issue during the initial offering period and thereafter sell / buy the units of the scheme on the stock exchange where they are listed.   

Investment Objective  

Growth / Equity Oriented Scheme - The objective of these funds is to provide capital appreciation over the medium to long- term. Such schemes normally invest a major part of their funds in equities. Such funds have comparatively high risks. These schemes provide different options to the investors like dividend option, capital appreciation, etc. and the investors may choose an option depending on their preferences. Growth schemes are good for investors having a long-term outlook seeking appreciation over a period of time.    

Income / Debt Oriented Scheme - The objective of these funds is to provide regular and steady income to investors. Such schemes generally invest in fixed income securities such as bonds, corporate debentures, Government securities and money market instruments. Such funds are less risky compared to equity schemes. The NAV of such funds are affected because of fluctuation in interest rate.  

Balanced Fund - The objective of these funds is to provide both growth and regular income as such schemes invest both in equities and fixed income securities in pre specified proportion. These are appropriate for investors looking for moderate growth with some regular income.  

Money Market or Liquid Fund - The objective of these funds is to provide liquidity, preservation of capital and moderate income. These schemes invest exclusively in short-term instruments such as treasury bills, certificates of deposit, commercial papers and call money, government securities, etc. Returns on these schemes are low as the risk involved is also low.  

Gilt Fund - These funds invest exclusively in government securities. Government securities have no default risk. NAV of these schemes are subject to fluctuations due to change in interest rates and other economic factors.  

Index Funds - These funds follow the portfolio of a particular index such as the BSE Sensitive index, S&P NSE 50 index (Nifty), etc. These schemes invest in the securities in the same weightage comprising of the index so chosen. NAV of such schemes would move in accordance with the move in the index. The move may not be exactly the same because of the technical inefficiency known as "tracking error".

What are Tax Saving Schemes?

Investment in these schemes offers tax rebates to the investors under specific provisions of the Income Tax Act, 1961. Equity Linked Saving Schemes (ELSS) are the schemes that offer tax saving. These schemes are growth oriented and invest pre-dominantly in equities. Their growth opportunities and risks associated are like any other equity-oriented scheme. 

What is dividend stripping?

It is a technique used by various investors as a mode of tax avoidance. When the dividend is paid out of scheme, the NAV gets decreased by same amount so that there is no absolute loss or gain on account of dividend declaration. So the decreased NAV results in capital loss to the investors that can be used to offset any other capital gains and hence tax can be avoided. The income received from the mutual fund in the form of dividend is tax free in the hands of investors. To avoid such practice, regulatory authorities have made it mandatory to be in the scheme for at least three months prior and past of the ex dividend date in order to offset capital gain against capital losses.  

What are the different types of plans that any mutual fund scheme offers?

That depends on the strategy of the concerned scheme; there are generally three broad categories of plans available. A dividend plan provides a regular payment of dividend to the investors. A reinvestment plan is a plan where the declared dividends are reinvested in the scheme itself at the prevailing NAV. A growth plan is one where no dividends are declared and the investor only gains through capital appreciation in the NAV of the scheme.  

Which plan should I choose?

Depending upon your investment object, risk appetite, your profile, your age, income responsibilities etc. For example a young person having lesser responsibilities will prefer the growth scheme whereas retired person prefer dividend plan. For any assistance visit our site (www.smcindiaonline.com).

What are the benefits of investing in MF?

The benefits involved in investing in Mutual Funds are as given below:

Professional Management  - For an average investor, it is a very tedious job to decide in what securities to enter, how much to purchase and when to exit. When you purchase a mutual fund, you are entitled to the professional fund manager who manages your money. It is the fund manager who decides what to buy for you, when to buy it and when to sell. These decisions are backed by the research on economy, industries and companies. Obliviously, you are required to pay, for the professional expertise you are using, in terms of the expense ratio or entry load or exit load.

Limited Fund - If you have limited amount of money with you, you can buy stocks of one or few companies. While putting your money in Mutual Fund you can purchase a bunch of stocks with the same amount of money.  

Diversification - When you put your money across several securities, your risk is reduced to a great extent. A mutual fund is able to diversify more easily than an average investor. Unsystematic risk can be reduced fully with the aid of diversification.

Liquidity - The units can be easily sold at ongoing NAV.

Choice - You can choose out of various schemes that suit your needs depending upon your risk appetite.

Regulated Environment - SEBI is the regulatory authority of Mutual Funds in India.

What are the rights of a unit holder in a mutual fund?

The following are the rights available to the unit holders of mutual funds:  

•  Unit holders have a proportionate right as a beneficial owner of the assets of the scheme and to the income of the scheme.

•  Unit holders are entitled to receive dividend warrants within 42 days of the date of declaration of the dividend.

•  Unit holders are entitled to receive redemption cheques within 10 working days from the date of redemption.

•  75% of the unit holders with the prior approval of SEBI can terminate AMC of the fund.

•  75% of the unit holders can pass a resolution to wind-up the scheme.  

What is a Systematic Investment Plan (SIP) and how does it operate?

Systematic investment plan is a plan whereby an investor contributes a fixed amount periodically at the prevailing NAV. The units so purchased are credited to investor’s account. Today many funds are offering this facility.

Two major benefits an investor gets from the systematic investment plan (SIP) are:  

1.   Investors need not pay lump sum amount at one point of time.

2.   The plan provides the benefits of rupee-cost averaging. During falling markets, at lower prices you will get more units for the same money.  During rising markets, at higher prices you will get lesser units for the same money.  Research shows that with the help of rupee cost average an investor always gets benefited by ending up with low cost of purchase.

What is a Systematic withdrawal Plan (SWP) and how does it operate?

Through SWP investors can redeem sums at a monthly or quarterly frequency by giving a one-time instruction to the mutual fund. The investor may choose to regularly withdraw either a fixed sum or just the appreciation part of investment. With the help of SWP an investor gets the following advantages:

• Investor gets regular funds inflow from their investments.

• Investors can automatically book their gains at a regular interval.  

How to analyse a mutual fund scheme?  

There are various factors to be considered to analyse a mutual fund scheme. There are various parameters that need to be taken into account like corpus, returns, asset allocation, different types of risk, etc. SMC provides a periodical report on various mutual funds after an in depth analysis.

What are the risks associated with investment in Mutual Funds?

The following risks are involved with investment in Mutual Funds :  

Market risk- If the overall stock markets fall on account of macro economic factors, the value of stock holdings in the fund's portfolio can drop, thereby impacting the NAV.  

Non-market risk- Any negative news about an individual company can adversely affect its stock price, which can affect fund’s NAV if the fund holding that stock in its portfolio. This risk can be reduced by having a diversified portfolio that consists of a wide variety of stocks drawn from different industries.  

Interest rate risk- The risk is mainly found in debt oriented funds. The debt securities are subject to the risk of interest rate fluctuation in the country. When interest rates rise, then the value of a debt security decreases and hence adversely affecting the NAV and returns of the scheme.  

Credit risk- When the funds invest in corporate debts, they run the risk of the corporates defaulting on their interest and principal payment obligations and when that risk crystallizes, it leads to a fall in the value of the debt causing the NAV of the fund to take a beating.

What is NFO?

NFO stands for New Fund Offer. Often an investment company offers new funds to the public having opening date and closing date for investing. Investors can invest in that scheme within that time period (between open date of fund and close date of fund). This kind of fund offer is called New Fund Offer.

What are the investment styles of the Fund Manger?  

The investment style of any fund manager can be broadly of two types:  

Active Investment- Is a systematic and proactive approach to investment that involves the constant review of the portfolio of the fund. The basic aim behind such investing style is to beating the market. This investing style is based on the argument that markets are not efficient and at any point of time there is scope to earn abnormal profits through an active investment style.  

Passive Investment- This investment style is exactly opposite of the active portfolio management. In this style, the portfolio manager assumes that markets are efficient and all information is already analyzed and reflected in the prices of share and there is no scope of finding any undervalued stock.

What is the expenses ratio and how it is important?

In order to manage a fund, there are certain expenses like administrative expenses, operating expenses, management fee ,etc, that are required to incurred. The expense ratio refers to the expenses incurred on the total deployable fund available. A low ratio is considered to be good. As the size of the fund increases, the expense ratio decreases.

Is there any minimum and maximum amount to be invested in mutual fund?

Generally, Investors can invest in NFO with a minimum investment of Rs.5000, thereafter multiple of Rs.5000. There is no prescribed maximum amount for investing in Mutual Fund.  

Is there any lockin period?

No, generally investors cannot face any lock in period for investing in Mutual Fund. But, investors seeking tax benefit by investing in mutual fund, can invest in ELSS (Equity-Linked-Savings Schemes), then investors are subject to 3 yrs lock in period to avail tax benefit.

What is Sharpe Ratio of mutual funds?

Sharpe Ratio of Mutual Fund /Portfolio is a measure of risk-adjusted return of the investment i.e. this ratio will determine how much return you are getting per unit of risk in investment.               

This ratio will tell you whether the return is due to efficient optimal portfolio diversification or due to excess risk taken by fund managers. Some Mutual Funds having return higher than its peer groups do not necessarily due to optimization of funds but due to additional risk associated with it. That’s why higher the Sharpe Ratio

better is the mutual fund/ Portfolio from the investor point of view.  

What is Treynor Ratio of mutual funds?

Treynor Ratio also known as Reward-to-Variability-Ratio is a measure of risk-adjusted return of the investment based on systematic risk (i.e. that portion of total risk which cannot be diversified). This ratio will determine return on investment per unit of market risk.  

This ratio is similar to Sharpe Ratio with the difference that Sharpe Ratio takes total risk (standard deviation of portfolio return) into consideration while Treynor Ratio concentrates only on Systematic Risk/undiversifiable risk, which is denoted by Beta of the portfolio. Higher the Treynor Ratio better is the mutual fund/ Portfolio for the investor.  

What is the maximum amount an AMC can charge as initial expenses from investors?  

SEBI has put a cap on the limit of initial expenses charged by AMC from investors. When an AMC is launching a new fund, maximum amount they can charge is 6% of total corpus collected from investors i.e. if total corpus is Rs1, 00,00,000 they can charge only Rs6, 00,000 from investors that can be amortized over 5 years.