pexels-photo-164474

Understanding a Mutual Fund

A Mutual Fund is a TRUST that pools the savings of a number of investors who share a common financial goal.

The money collected is then invested in capital market instruments such as shares, debentures and other market securities. The investments of the mutual fund are driven by the investment objectives of the scheme.

The income earned through these investments and the capital appreciation realised are shared by its unit holders in proportion to the number of units owned by them after recovery of the management expenses.

Thus a Mutual Fund is the most suitable investment for the common man as it offers an opportunity to invest in a diversified, professionally managed basket of securities at a relatively low cost. 

About MF_1

FLOW OF FUNDS

The following are the parties to a Mutual Fund: 

Unit Holder: is a person who is holding the units in a scheme of a mutual fund. The term is comparable to shareholder in case of a company. Unit holder can be a resident individual, HUF, company, NRI, partnership, society etc. 

The Mutual Fund: As stated, the Mutual Fund is the legal entity in the form of a trust which holds investments of its Unitholders. 

Sponsor: A sponsor is the promoter who sets up the Mutual Fund, appoints trustees and the AMC in accordance with the SEBI Regulations. Generally the sponsor and the AMC are part of the same business house. 

Trustee: A trustee is appointed by the sponsor. The trustee holds the property of the mutual fund for the benefit of the unit holders and is responsible to the investors of the fund. The trustee is vested with the general power of superintendence and direction over the AMC.

About MF_2

INTER RELATIONSHIPS

Asset Management Company(AMC): AMC is the business face of the mutual fund as it manages all the affairs of the fund. Investment professionals employed by the AMC determine which securities to buy and sell in the fund’s portfolio, consistent with the fund’s investment objectives and policies. In addition to managing the fund’s portfolio, the AMC often serves as administrator to the fund with the support of the R&T agent and the Custodian. 

R&T Agent: The Registrar and Transfer Agent (R&T) helps investors with the purchase of units in the Mutual Fund schemes, redemptions and switches, change of address and bank details and resolving related queries and complaints. CAMS and KARVY are the key R&T agents in India.

Custodian: The securities which form a part of the mutual fund’s portfolio are usually held by an authorized custodian. The custodian is like the mutual fund’s demat account.

Distributor: A distributor acts as an intermediary between the mutual fund and the investor. He helps the investor choose the right fund as per the investor’s objectives. Mutual fund units can be distributed by only AMFI registered, certified distributors. 

AMFI: The Association of Mutual Funds in India(AMFI) is a body dedicated to developing the Indian Mutual Fund Industry on professional, healthy and ethical lines and to enhance and maintain standards in all areas with a view to protecting and promoting the interests of mutual funds and their unit holders. 

SEBI: SEBI is the market regulator in India which, apart from other functions,  overseas the functioning of the entire Mutual Fund industry with the objective of protecting the interest of investors.

Most Essential Factor for a Successful Investor

Scores of articles have been written on this topic, what does it take to be a Successful Investor. A quick search on Google will give you results which include Fundamental Analysis, Technical Analysis, Economic data Analysis, Understanding the business of company, Timing the markets, monitoring Currency movements, and the list goes on and on. Then, what is the Most Essential Factor for a Successful Investor?

DISCIPLINE.

This one word overrides all other factors.

Discipline to stick to one’s investment plan.

Discipline to continue to contribute for one’s goals.

Discipline to book profits and re-allocate based on one’s Asset Allocation.

DISCIPLINE PAYS OFF

Studies have shown that more than 90% of the returns earned by an investor can be explained by Asset Allocation. That means, right Asset Allocation (for example, Debt or Equity) is more important than the selection of the actual instrument (say an HDFC Fund scheme or a Reliance Fund scheme). And it requires DISCIPLINE to maintain the Asset Allocation as time passes and as markets fluctuate.

Investors reaped enormous profits when the markets reached new peaks in January, 2008. This was followed by the famed crash in September, 2008 all across the globe. This led to panic redemptions on part of many many investors. Unexpectedly, the markets recovered quickly to reach the 2008 highs in November, 2010.

Investors who stayed invested were the ones’ who reaped maximum returns on the systematic investments made in the dips. Investors who exited in 2008 out of panic have only themselves to blame for missing out on the rally.

Again, the longer you stay invested in the equity markets, lesser is the probability of getting negative returns. A study of the Sensex returns for the past 30 years have shown that, if you were invested in the index for any period of 14 years or more, there is zero probability of earning negative returns. As one of the Investment gurus rightly said, “Time in the market is more important than timing the market”.

Successful investors from around the world swear by only one thing…DISCIPLINE. A Financial Plan helps you initiate and maintain that Discipline.

648967c7793f1aa4891586a1fac4f904_cards-casino-chance-269630-6000-c-90

Risk Involved in Investing in Equities

As mentioned, Risk is the uncertainty involved in the expected returns. Risk associated with Equities are much higher compared to Debt instruments. So are the returns. This follows the universal principle, “Higher the Risk, Higher the Return”.

Market Risk

The biggest risk associated with Equities is Market Risk. Equity instruments are volatile and prone to price fluctuations on a daily basis due to changes in market conditions.

Financial Risk

This is the second biggest risk associated with investment in Equities. Disruption in the internal financial affairs of a company will have a direct impact on the share prices of the company and may cause a loss to the investor. A prime example of such an instance is the Satyam fiasco in the January 2009 or a recent example of management fights in SKS Microfinance.

 Investing Risks…there are a multitude of them.

Liquidity Risk

This refers to the ease with which a security can be sold at or near to its market value.

Securities, which are not quoted on the stock exchanges, are inherently illiquid in nature and carry a larger amount of liquidity risk in comparison to securities that are listed on the exchanges. While securities listed on the stock exchange carry lower liquidity risk, the ability to sell these investments at the market price is limited by the overall trading volume on the stock exchanges.

Settlement Risk

It is a risk that the counter party does not deliver the security purchased against cash paid for it or value in cash for the security sold is not received after the securities are delivered by us.

Such risk can be avoided by entering into transactions in the nature of delivery versus payment (DVP) or settlements via clearing houses where the Stock Exchange acts as the counter party to every transaction.

 Risks associated with investing in foreign securities

The biggest risk associated with investments in foreign securities is fluctuation in foreign exchange rates. If you invest in a US Stock which gives you 20% return over a period of time and the US Dollar depreciates by 10% during this period, your net return in domestic currency will be much lower than 10%.

Other risk involved include restriction on repatriation of capital and earnings under the exchange control regulations and transaction procedures in overseas market.

You will see that a some of the risks listed above also affect Debt Securities. It is very difficult to segregate risks which affect only one type of investment.

12

Types of Mutual Funds

In the last few years, mutual fund companies were releasing various mutual fund scheme and there was a lot of confusion amongst retailers on the definition of the same and how are the classified. To avoid this, SEBI released a notification to classify mutual fund schemes into 5 broad categories:
  1. Equity Schemes
  2. Debt Schemes
  3. Hybrid Schemes
  4. Solution Oriented Schemes
  5. Other Schemes
An understanding of the classifications of the various categories of schemes will help sort clear the confusion to a certain extent.
All the listed Equity Stocks are divided into large cap, mid cap, and small cap equity stocks based on the ranking on the stock exchange as per their market capitalization. Accordingly, AMFI, in consultation with SEBI and Stock Exchanges, has prepared the list of stocks, based on the data provided by Bombay Stock Exchange (BSE), National Stock Exchange (NSE) and Metropolitan Stock Exchange of India (MSEI).
  • Large Cap Equity Stocks – 1st – the 100th company in terms of full market capitalization.
  • Mid Cap Equity Stocks are – 101st – the 250th company in terms of full market capitalization.
  • Small Cap Equity Stocks are – 251st company onwards in terms of full market capitalization

EQUITY MUTUAL FUNDS

Any fund which invests not less than 65% of its corpus in equities is known as an equity fund. 
  1. Large Cap Funds: An open-ended equity scheme which invests a minimum of 80% of its total assets in large-cap equity stocks.
  2. Large & Mid Cap Funds: An open-ended equity scheme which invests in both large-cap and mid-cap stocks with a minimum of 35 % of its total assets in large-cap equity stocks and a minimum of 35% of. its total assets in mid-cap stocks.
  3. Mid Cap Funds – An Open-ended equity scheme which invests a minimum of 65% of its total assets in mid-cap equity stocks.
  4. Small Cap Funds – An Open-ended equity scheme which invests a minimum of 65% of its total assets in small-cap equity stocks.
  5. Multi-Cap Funds: An Open-ended equity scheme which invests a minimum of 65% of its total assets in equity related instruments. These funds invest across large-cap, small-cap and mid-cap stocks.   
  6. Thematic Funds: These funds are also known as Sectoral Funds. An open-ended scheme which invests a minimum of 80% of its assets in equity stocks of a particular sector/theme. Such funds can be focused on Infrastructure, Power, Banking sector, Pharma companies, only Public Sector Undertakings(PSUs), etc. 
  7. ELSS – Equity linked savings scheme – An open-ended scheme with a statutory lock-in of 3 years for the purpose of tax deduction. It has a minimum investment in equity and equity related instruments of a minimum of 80%.
  8. Focussed Fund – An open-ended scheme focussed on the number of stocks (maximum 30) and has a minimum investment of 65% of its total assets in Equity and equity related instruments.
  9. Dividend Yield Funds – An open-ended scheme which predominately invests in dividend yielding stocks and has a minimum of 65% of its total assets invested in Equity.
  10. Value Funds – An open-ended scheme following a value investment strategy and invests a minimum of 65% in equity and equity related instruments.
  11. Contra Funds – An open-ended scheme should follow a contrarian investment strategy with a minimum of 65% in equity and equity related instruments.
  12. Index Funds: An index fund is a mutual fund or exchange-traded fund(ETF) that aims to replicate the returns of a specific index. The fund manager does not have a major role as he has to only replicate the composition of the index.

DEBT FUNDS

Debt Funds are funds that invest in debt securities like debentures, commercial paper(CP), certificate of deposit(CD), government securities, etc.
  1. Overnight Funds – Investment in overnight securities having a maturity of 1 day.
  2. Liquid Funds – Investment in debt and money market securities with a maturity of up to 91 days only.
  3. Ultrashort Duration Funds – Investment in Debt & Money Market instruments such that the Macaulay duration of the portfolio is between 3 months – 6 months.
  4. Low Duration Funds – Investment in Debt & Money Market instruments such that the Macaulay duration of the portfolio is between 6 months- 12 months.
  5. Money Market Funds -Investment in Money Market instruments having maturity up to 1 year
  6.  Short Duration Funds – Investment in Debt & Money Market instruments such that the Macaulay duration of the portfolio is between 1 year – 3 years
  7. Medium Duration Funds – Investment in Debt & Money Market instruments such that the Macaulay duration of the portfolio is between 3 years – 4 years
  8. Medium to Long-Duration Funds – Investment in Debt & Money Market instruments such that the Macaulay duration of the portfolio is between 4 – 7 years
  9. Long Duration Funds – Investment in Debt & Money Market Instruments such that the Macaulay duration of the portfolio is greater than 7 years
  10. Dynamic bond – An open-ended dynamic debt scheme investing across the duration
  11. Corporate bond Funds – An open-ended debt scheme  with a minimum investment of 80% in the highest rated corporate bonds
  12. Credit Risk Funds – An open-ended debt scheme with a minimum investment of 65% in the highest rated corporate bonds.
  13. Banking and PSU Fund – An open-ended debt scheme with a minimum investment of 80% of total assets in Debt instruments of banks, Public Sector Undertakings, Public Financial Institutions
  14. Gilt Fund – An open-ended debt scheme with a minimum investment of 80% of its total assets in government securities across the maturity
  15. Gild Fund with a 10-year constant period – An open-ended debt scheme with a minimum investment of 80% of its total assets in government securities having a constant maturity of 10 years
  16. Floater Fund – An open-ended debt scheme with a minimum investment of 65% of its total assets in floating rate instruments.

HYBRID FUNDS

Hybrid funds are funds that invest in a mix of debt and equity based on their investment mandate.

  1. Conservative Hybrid Funds – An open-ended scheme investing 10%-25% of its total assets in Equity and 75% -90% in debt instruments.
  2. Balanced Hybrid Funds – An open-ended balanced scheme investing up to 40%-60% of its total assets in both debt and equity. No arbitrage is permitted in this scheme.
  3. Aggressive Hybrid Funds – An open-ended hybrid scheme investing 65%-80% of total assets in Equity and Equity related instruments and 20%-35% in debt and debt related instruments.
  4. Dynamic Asset allocation or balanced advantage – Investment in equity/debt that is managed dynamically.
  5. Multi-Asset Allocation – An open-ended scheme which invests in at least three asset classes with a minimum of 10% in each of the three asset classes.
  6. Arbitrage Funds – An open-ended Scheme following arbitrage strategy. Minimum investment in equity and equity related instruments of 65 of total assets.
  7. Equity Savings – An open-ended scheme investing in equity, arbitrage and debt with a minimum investment of 65% of its total assets in equity or equity-related instruments and a minimum of 10% in debt instruments.

SOLUTION ORIENTED FUNDS

  1. Retirement Fund – An open-ended retirement solution oriented scheme having a lock-in of 5 years or till retirement age (whichever is earlier)
  2. Children’s Fund – An open-ended fund for investment for children having a lock-in for at least 5 years or till the child attains the age of majority (whichever is earlier)

OTHER SCHEMES

  1. Index Funds/ETFs -An open-ended scheme with a minimum investment of 95% of its total assets in securities of a particular index (which is being replicated/ tracked).
  2. FOFs (Overseas Funds) – An open-ended fund of fund scheme investing 95% of its total assets in the underlying funds.

Contact Info

508C, 5th Floor, Western Edge I, Western Express Highway, Borivali East, Mumbai - 400 066.

+91 98886 03330       iplan@wealthcafe.in

Daily: 10:00 am - 7:00 pm
Sunday + 2nd & 4th Saturday: Closed

 

Copyright 2010-18 Wealth Café ©  All Rights Reserved