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What is Mutual funds? |
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A mutual fund is a group of investors
operating through a fund manager to purchase a diverse
portfolio of stocks or bonds. A mutual fund offers an
easy way to invest in something with a higher return.
Being a collection of many stocks, you may have thought
that picking a mutual fund might be easy. Not necessarily...
there are over 10,000 mutual funds to choose from. It
is easier to think of mutual funds in categories. |
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Introduction |
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Understanding Mutual
Funds |
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Types of Mutual Funds |
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Buying Mutual
Funds |
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Selling Mutual
Funds |
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Investor
rights |
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Easy Reference
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Introduction |
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Rahul, a young executive, works for a private
firm. He has just received Rs 15000 as a bonus.
Though he earlier contemplated buying a new music
system, after seeing advertisements on TV and
hearing a friend mention mutual funds, he is rethinking
his plan. However he is only 28 years old. Does
he need to start investing so early in life, and
if yes, why invest in mutual funds? Thoroughly
confused, he approaches his cousin, Mr. Shah,
an investment banker who has 20 years of experience
in his field. Seeing that Rahul is unaware about
the benefits of mutual funds, Mr. Shah decides
to guide him on how to go about investing in the
right way. For that, he has to answer Rahul’s
queries…
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I’ve
seen many advertisements for mutual funds. What
are they? Can I invest in mutual funds?
We
have all heard this term somewhere, especially
in advertisements, through those who closely follow
the share market, or even somewhere in the newspaper,
mentioned in the depths of articles on investment.
Mutual funds essentially collect money from many
investors, which are then invested by professional
managers. These investments could be in instruments
such as shares or bonds. The investor participates
in the invested instrumentss’ gains and
losses in an amount proportionate to his/her investment.
You must take up mutual funds as a serious investment
option as they are basically formed to cater to
individuals like you and me. |
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Understanding
Mutual Funds |
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How
will benefit by investing in a mutual fund? |
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The benefits are plenty,
and some of them are… |
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Professional
Management |
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Fund
managers, people who are highly qualified in the area
of investment and have a thorough knowledge of the capital
market, manage mutual funds. |
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Diversification
and Lowered Risks |
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Since
a mutual fund is a trust that pools the savings of a
number of investors sharing a common financial goal,
the associated risks are greatly reduced. This is also
because a fund will invest your money in different types
of instruments like shares and bonds. Hence, loss in
one sphere will not greatly affect your overall investment
status. |
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Low
Costs |
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When
compared to direct investments in the capital market,
mutual funds cost less. This is due to savings in brokerage
costs, demat costs, depository costs, etc. |
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Liquidity |
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Investments
in mutual funds are quite liquid and hence can be redeemed
at the Net Assets Value (NAV)-related price on any working
day. |
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Transparency |
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All
that you invest in scheme is made known to you and you
are periodically informed about all the updates and
changes taking place. |
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Flexibility |
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Mutual
funds offer flexibility in their options and schemes
to match individual needs. Also, with features like
regular withdrawal plans and systematic investment plans,
you can withdraw or invest funds according to your needs
and convenience. |
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Choice
of Schemes |
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Mutual
funds offer a vast variety of well-designed schemes
and options that you can choose from depending on your
risk appetite. |
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Tax
Benefits |
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Mutual
funds offer a vast variety of well-designed schemes
and options that you can choose from depending on your
risk appetite. |
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Regulation |
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Mutual
funds are regulated by SEBI and function within provisions
and regulations that protect the interests of investors,
SEBI acts as a watchdog to ensure fair market practices. |
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* As per the Income Tax
Act currently in force. |
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What
is the structure of the mutual fund industry? |
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There
are many entities involved in a mutual fund. This is
what makes it safer than other investment avenues. Everyone
is accountable for their part in the fund structure. |
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Organisational
set up of a Mutual Fund |
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| Sponsor
: is like
the promoter of a company. |
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| Asset
Management Company (AMC) : approved
by SEBI, it manages the funds by making investments
in various types of instruments and securities. |
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| Trustees
: Hold the
mutual fund’s property for the benefit of
unit holders. They are an independent authority
set up under the aegis of SEBI. |
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| Custodian
: registered
with SEBI, it holds the securities of various
schemes of the fund in its custody. |
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Transfer
Agents : also known as Registrars,
transfer the units to the unit holders’
accounts. |
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Distributors
/Agents : sell
units on behalf of funds and are generally appointed
by the AMC. |
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Before
we move on, let’s understand some basic
terminologies used in mutual funds. |
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| Net Asset Value (NAV) |
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Net Asset Value is the market
value of the assets of the scheme minus its liabilities
divided by the units outstanding. Simply put,
if the fund is dissolved or liquidated, by selling
off all the assets in the fund is dissolved of
liquidated, by selling off all the assets in the
fund, this is the amount that the unit holders
would collectively own. The NAV is used to calculate
the value of your investments and to determine
the price of per unit for buying or selling. |
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| Open-ended Fund |
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An open-ended fund or scheme
is one that is available for subscription and
repurchase on a continuous basis. These schemes
do not have a fixed maturity period. The key feature
of open-end schemes is liquidity, as investors
can buy and sell on an ongoing basis. Most mutual
fund’s a schemes are open-ended. |
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| Close-ended Fund |
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A
close-ended fund or scheme has a stipulated maturity
period eg. 5-7 years. The fund is open for subscription
only during a specified period at the time of
launch. Generally, investors can invest in the
scheme at the time of New Fund Offer (NFO) and
thereafter they can buy or sell the units of the
scheme on the stock exchange where the units maybe
listed. Occasionally, the mutual fund provides
a re-purchase option to investors for a specified
period. |
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| Portfolio |
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Combined
holding of many kinds of financial securities
like shares, debentures and bonds. The objective
is risk diversification and maximization of gain
of group of assets. |
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| Corpus |
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| The total amount of money
that a fund has at any point of time. |
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| Unit |
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A
unit represents an investor’s share in the
assets of the schemes/he has invested. |
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| Load |
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A
load is a one-time sales charge paid by an investor
while buying or selling units of a scheme. An
entry loads is charged at the time of purchase
of units and an exit load is charged at the time
of redemption. |
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| Expense Ratio |
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Expense
ratio is defined as the ratio of total expenses
to the net assets of the fund. It is the annual
percentage of the fund’s assets that is
paid out in expenses. Expenses include management
fees and all the fees associated with the fund’s
daily operations. The ratio is listed in a fund’s
offer Document. The expense allowed for a fund
is a percentage of the weekly average net assets
outstanding : |
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| Equity scheme up to 2.5% |
| Debt scheme up to 2.25% |
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Types of Mutual Funds |
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Types
of Mutual Funds |
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| Mutual
Fund type |
Who
should
invest? |
Objective |
Investment
proportion |
Risk |
Ideal
Investment Horizon |
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Diversified
Equity funds
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Moderate and aggressive investors |
High growth |
Equity shares |
High |
1-3 years |
Sector funds |
Aggressive investors |
High growth |
Equity shares |
Very High |
1-3 years |
Index funds |
Moderate investors |
To generate returns which
are similar to the returns of the respective index |
Portfolio index like BSE Sensex,
Nifty, etc |
Returns of NAV, vary with
index performance |
1-3 years |
Equity Linked saving scheme
(ELSS) |
Moderate and aggressive investors |
Long-term growth with tax-saving |
Equity shares |
High |
1-3 years |
Balance funds |
Moderate and aggressive investors |
Growth and regular income |
Balance ratio of equity and
debt fund to ensure higher returns at lower risk |
Capital market risk and interest
rate risk |
Over 2 years |
Bond funds |
Salaried and conservative
investors |
Regular income |
Predominantly debentures government
securities, corporate bonds |
Credit risk and interest rate
risk |
Over 9-12 months |
Gilt Funds |
Salaried and conservative
investors |
Security and income |
Government securities |
Interest rate risk |
Over 12 months |
Short-term Funds |
Investors with surplus short-term
funds |
Liquidity and moderate income |
Call money, commercial papers,
treasury bills, short-term G-secs |
Little interest rate risk |
3 weeks- 3 months |
Liquid Funds |
Investors who park their funds
in current account or short-term bank fixed deposits |
Liquidity + moderate income
+ preservation of capital |
Treasury bills, certificate
of deposits, commercial papers, securities, call
money |
Negligible risk papers |
2 days- 3 weeks |
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Investors
can also opt for international funds, country-specific
funds or emerging market funds (usually focusing on
small developing countries and can be risky) |
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Emerging
Funds* |
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Gold Funds |
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Indians
are the largest investors in gold in its various forms.
Historically, gold has been a preferred choice of investment
as a hedge against inflation or as a means of security
in bad times. To benefit from this inherent quality
of gold, you may soon have a Gold Fund. |
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Real Estate Funds |
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With
continuous migration of people from rural areas to towns,
increasing population, rising income levels and the
consequent increase in demand for property, real estate
prices area bound to increase. This is why real estate
has also been a preferred investment alternative for
the Indian investor. To tap this potential, Real Estate
Funds may soon be made available. |
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