MUTUAL FUNDS

AN OVERVIEW

MYTHS ABOUT MUTUAL FUNDS 1.Mutual Funds invest only in shares.

2. Mutual Funds are prone to very high risks/actively traded.

3. Mutual Funds are very new in the financial market.

4. Mutual Funds are not reliable and people rarely invest

5. The good thing about Mutual Funds is that you don’t have to pay attention to them.

Facts about Mutual Funds

1.Equity Instruments like shares form only a part of the securities held by mutual funds. Mutual funds also invest in debt securities which are relatively much safer.

2. The biggest advantage of Mutual Funds is theirability to diversify the risk.3. Mutual Funds are their in India since 1964. Mutual

Funds market is very evolved in U.S.A and isthere for the last 60 years.

4. Mutual Funds are the best solution for people whowant to manage risks and get good returns

Facts about Mutual Funds

5. The truth is as an investor you should always payattention to your mutual funds and continuouslymonitor them. There are various funds to suitinvestor needs, both as a long term investmentvehicle or as a very short term cash managementvehicle.

6.US-64 is very much a part of the market and is not immune to its vagaries. The crisis has risen due to mismanagement of the fund.

Mutual Funds• A mutual fund is a common pool of

money into whichinvestors place their contributions that are to be investedin different types of securities in accordance with thestated objective.

• An equity fund would buy equity assets – ordinary

• shares, preference shares, warrants etc.• A bond fund would buy debt

instruments such asdebenture bonds, or government securities/moneymarket securities.

MUTUAL FUNDS

• A balanced fund will have a mix of equity assets and debt

• instruments.• Mutual Fund shareholder or a unit

holder is a part owner of the fund’s asset.

MUTUAL FUND AS A FINANCIAL INTERMEDIARY

INVESTORS

POOLING

MUTUAL FUNDS

INVESTMENT

FINANCIAL MARKETS

RETURNS

MUTUAL FUNDS

RETURN TO INVESTORS

Advantages of Mutual Funds PORTFOLIO DIVERSIFICATION: It enables him to hold a diversified

investment portfolio even with a small amount of investment like Rs. 2000/-.

PROFESSIONAL MANAGEMENT: The investment management skills, alongwith the needed research into available investment options, ensure amuch better return as compared to what an investor can manage on hisown.

REDUCTION/DIVERSIFICATION OF RISKS: The potential losses are also shared with other investors. REDUCTION OF TRANSACTION COSTS: The investor has the benefit of

economies of scale; the funds pay lesser costs because of larger volumesand it is passed on to the investors.

WIDE CHOICE TO SUIT RISK-RETURN PROFILE: Investors can chose the fundBased on their risk tolerance and expected returns.

Advantages of Mutual Funds LIQUIDITY: Investors may be unable to sell shares directly, easily and

quickly. When they invest in mutual funds, they can cash their investmentany time by selling the units to the fund if it is open-ended and get theintrinsic value. Investors can sell the units in the market if it is closed-ended fund.

CONVENIENCE AND FLEXIBILITY: Investors can easily transfer theirholdings from one scheme to other, get updated market information andso on. Funds also offer additional benefits like regular investment andregular withdrawal options.

TRANSPARENCY: Fund gives regular information to its investors on thevalue of the investments in addition to disclosure of portfolio held by theirscheme, the proportion invested in each class of assets and the fundmanager's investment strategy and outlook

Disadvantages of Mutual Funds

NO CONTROL OVER COSTS: The investor pays investmentmanagement fees as long as he remains with the fund, even whilethe value of his investments are declining. He also pays for fundsdistribution charges which he would not incur in direct investments.

NO TAILOR-MADE PORTFOLIOS: The very high net-worth individuals orlarge corporate investors may find this to be a constraint as they willnot be able to build their own portfolio of shares, bonds and othersecurities.

MANAGING A PORTFOLIO OF FUNDS: Availability of a large number offunds can actually mean too much choice for the investor. So, hemay again need advice on how to select a fund to achieve hisobjectives.

DELAY IN REDEMPTION: It takes 3-6 days for redemption of the units and the money to flow back into the investor’s account.

Broad Types of Mutual Funds

ACCORDING TO OWNERSHIP

PUBLIC SECTOR MUTUAL FUNDS

PRIVATE SECTOR MUTUAL FUNDS

Public sector mutual funds:- Unit Trust of India(UTI) was the first mutual fund emerged in the country in 1964. It took another 23 years before the second mutual fund was established in India by the4 State Bank of India. SBI Mutual Fund was the first mutual fund among all the public sector commercial banks that started operations during November 1987.

Private Sector Mutual Fund:- The Govt. of India allowed private sector corporates to join the Mutual Fund Industry seeing the success and growth of Mutual Funds in the Indian Capital Market. The Union Finance Ministry on Feb. 14,1992 allowed the private sector to float MF’s in the market. They are required to function under the direct superintendence of the SEBI.

II. ACCORDING TO SCHEME OF OPERATION

OPEN ENDED SCHEME

CLOSE ENDED SCHEME

INTERVAL SCHEME

OPEN-END ED SCHEME• Available for sale and repurchase at all times based on the net assetvalue (NAV) per unit.• Unit capital of the fund is not fixed but variable.• Fund size and its total investment go up if more new subscriptionscome in than redemptions and vice-versa.

CLOSE ENDED SCHEME• One time sale of fixed number of units. Investors are not allowed to buy or redeem the units directly from the funds. Some funds offer repurchase after a fixed period. For example, UTI MIP offers a repurchase after 3 years.• Listed on stock exchange and investors can buy or sell units throughthe exchange.• Units maybe traded at a discount or premium to NAV based oninvestor’s perception about the funds future performance and othermarket factors.INTERVAL SCHEME• The Interval schemes are the combination of both open ended and close ended schemes. •An interval scheme is kept open for a specific interval and after that it operates as a close ended scheme.

III ACCORDING TO PORTFOLIO

INCOM

E FUNDS

GROWTH

FUNDS

BALANCE

D FUNDS

STOCK

FUNDS

BOND

FUNDS

SPECIALISE

D FUNDS

LEVERAG

E FUNDS

TAXATION FUNDS

MONEY MARKET MUTUAL FUNDS

a) INCOME FUNDS: The schemes having highest priority to generate maximum current income are termed as income schemes. The main aim of these funds is to provide maximum current return to the investors. These funds employ their resources in high yielding common stock. They provide regular and steady income to investors. SBI Magnum, Can Guilt are some examples of income funds.

b) GROWTH FUNDS: This category of scheme gives highest priority to appreciation in the value of investments. These funds are more concerned with capital gains than income. These funds concentrate on value appreciation of securities and not on the regularity of income. But these funds do not pay regular returns to their investors.

c) BALANCED FUNDS:• Has a portfolio comprising of debt

instruments, convertible securities, preference and equity shares.

• Almost equal proportion of debt/money market securities and equities. Normally funds maintain a Equity-Debt ratio of 55:45 or60:40.

• Objective is to gain income, moderate capital appreciation and preservation of capital.

• Ideal for investors with a conservative and long-term orientation.

STOCK/EQUITY FUNDS:• Invest a major portion of their corpus in equity shares issued by companies, acquired directly in initial public offering or throughsecondary market and keep a part in cash to take care ofredemptions.• Risk is higher than debt funds but offer very high growth potential for the capital.• Equity funds can be further categorized based on their investment strategy.• Equity funds must have a long-term objective.

BOND FUNDS:These funds employ their resources in debt instruments

like bonds, debentures etc. This type of of funds can be expected to be very secure with a fixed and regular income.

SPECIALISED FUNDS:The portfolio of such fund is not diversified. These

funds invest their resources in a particular type of securities. The funds may specialise in securities of companies dealing in a particular product, firms in a particular industry etc. ‘Can Expro of Can-Bank-MF is one such example.

LEVERAGE FUNDS:The maximum capital appreciation is the main aim of

leverage funds. These funds may use even borrowed funds for buying speculative stock which ensures a profit in the future.

TAXATION FUNDS:Tax funds are another important type of mutual funs.

Tax funds are floated with a specific purpose of granting tax exemption to the investors. They are basically growth oriented funds. The contribution made to tax funds by investor gets some concession in income tax.MEP-95, MEP-96 are such schemes of U.T.I. for the tax payers.

MONEY MARKET FUNDS/CASH FUNDS• Invest in securities of short term nature I.e. less than one

year maturity.• Invest in Treasury bills issued by government, Certificates of

deposit issued by banks, Commercial Paper issued companies and inter-bank call money.

• Aim to provide easy liquidity, preservation of capital and moderate income.

GILT FUNDS• Invest in Gilts which are government securities with

medium to long term maturities, typically over one year.• Gilt funds invest in government paper called dated

securities.• Virtually zero risk of default as it is backed by the Govt.• It is most sensitive to market interest rates. The price falls

when the interest rates goes up and vice-versa

ACCORDING TO LOCATION

DOMESTIC FUNDS OFF SHORE FUNDS

DOMESTIC FUNDS:The mutual funds which operate within one nation’s geographical limit are termed as ‘domestic mutual funds’ for that country. Only citizens of that country can subscribe to the corpus of such scheme.

OFF-SHORE FUNDS:Off shore mutual funds are those which mobilise funds in countries other than the host country where investments are to be made.

ORGANISATION AND MANAGEMENT OF MUTUAL FUND

MUTUAL FUNDS

SPONSOR

AMC

CUSTODIAN

TRUSTEE

I. SPONSORING AGENCY:A mutual funds is launched by a company or a set of companies

whether public limited. These agencies are called sponsors.

II. TRUSTEES:‘Trustee is a person who holds the property of the mutual fund

in trust for the benefit of the unit-holders and includes a trustee company and the directors of the trustee company’.

III. ASSET MANAGEMENT COMPANY(AMC)Assets Management Company is a body engaged to run the

show of mutual fund. It is a body whose Memorandum and Articles of Association are to be approved by SEBI. The sponsor or the trustee appoint AMC to manage the affairs of the mutual fund. AMC can act as an AMC of only one mutual fund.

IV. CUSTODIAN:“Custodian is a person who has been granted a certificate of

registration to carry on the business of custodian of securities under the SEBI (Custodian of Securities) Regulations, 1996”.

Custodian performs the following functions:i) Maintains accounts of securities of a client.ii) Collects the benefits of rights(i.e. interest and dividends)

according to the client in respect of securities.iii) Maintains and reconciles the records of securities iv) Helps in transfer of the securities in the name of trustv) Prevents any manipulations of records and documents.