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What is a mutual fund?
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A mutual fund is a pool of money contributed by individuals who have similar financial goals. The money collected is then invested in various securities such as equities, debentures/bonds and/or money market instruments.
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What is a fund house?
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A group of funds managed under one umbrella. The most basic fund family would include a stock, bond and money market-portfolio, although many funds have variants like sector funds, balanced funds. |
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What is the Net asset value (NAV)? |
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The price or value of one unit of a fund. It is calculated by summing the current market values of all securities held by the fund, adding in cash and any accrued income, then subtracting liabilities and dividing the result by the number of units outstanding. Most open-ended funds companies compute NAVs once a day based on closing market prices.
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What are a fund’s net assets?
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The total value of a fund's cash and securities less its liabilities or obligations.
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What is a fund portfolio?
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A group of securities held by the mutual fund. A portfolio could be a mixture of stocks, bonds and cash.
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How are mutual funds classified?
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Mutual Funds can be classified into the following 3 broad categories:
 Portfolio classification.
Functional classification.
Geographical classification. |
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What are the different plans that mutual funds offer?
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Mutual Funds in order to cater to a range of investors have various investment plans. Some of the important investment plans include:
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Growth Plan
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Under the Growth Plan, the investor realizes only the capital appreciation on the investment (by an increase in NAV) and does not get any income in the form of dividend.
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Income Plan
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Under the Income Plan, the investor realizes income in the form of dividend. However his NAV will fall to the extent of the dividend.
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Dividend Re-investment Plan
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Here the dividend accrued on mutual funds is automatically re-invested in purchasing additional units in open-ended funds. In most cases mutual funds offer the investor an option of collecting dividends or re-investing the same. |
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Systematic Investment Plan (SIP)
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Here the investor is given the option of preparing a pre-determined number of post-dated cheques in favor of the fund. He will get units on the date of the cheque at the existing NAV. For instance, if on 25th March, he has given a post-dated cheque for June 25th, he will get units on 25th June at existing NAV.
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Systematic Withdrawal Plan
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As opposed to the Systematic Investment Plan, the Systematic Withdrawal Plan allows the investor the facility to withdraw a pre-determined amount/units from his fund at a pre-determined interval. The investor’s units will be redeemed at the existing NAV as on that day.
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Retirement Pension Plan
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Some schemes are linked with retirement pension. Individuals participate in these plans for themselves and corporate for their employees.
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Insurance Plan
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Some schemes launched by UTI and LIC offer insurance cover to investors. |
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What are the advantages of investing in a mutual fund? |
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Mutual funds are superior to other comparable investment avenues because of the following reasons:
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Investors are exposed to reduced investment risk due to portfolio diversification, economies of scale in transaction cost and professional management.
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Limited Risk . |
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Investors are exposed to reduced investment risk due to portfolio diversification, economies of scale in transaction cost and professional management.
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Diversified investment.
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Small investors can participate in larger basket of securities and share the benefits of efficiently managed portfolio by experts, and are freed from maintaining records of company share certificates, and tracking tax rules. Mutual fund investments are less risky due to portfolio diversification, which is possible mainly due to large funds available at their disposal. Small investors can never spread their risks across such a wide portfolio, as can mutual funds.
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Freedom
from tracking investments.
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Investors do not have to track their investments regularly, as the tracking is done by experts who buy and sell securities for them. Investors are only required to track the performance of the mutual fund.
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Professional management. |
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Mutual funds are run by professionals, with experience in portfolio management. Analysts employed by mutual funds analyses data and information available in a manner that cannot be matched by the lay investor.
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Tax benefits.
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Income tax benefits are granted to investors in mutual funds, making it more tax efficient as compared to other comparable investment avenues.
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Who is a custodian?
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The custodian, an independent organization, has the physical possession of all securities purchased by the mutual fund, and undertakes responsibility for its handling and safekeeping. For instance, the Stock Holding Corporation of India Ltd (SCHIL) is the custodian for most fund houses in the country.
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What is an Asset Management Company (AMC)?
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A highly regulated organization that pools money from many people into a portfolio structured to achieve certain objectives. Hence it is termed as an Asset Management Company. Typically an AMC manages several funds - open-end /closed-end across several categories - growth, income, balanced. Every mutual fund has an AMC associated with it.
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What is load?
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It is a charge collected by a mutual fund when it sells units. It can be either front-end load (i.e., the charge is collected when an investor buys the units) or back-end load (i.e, the charge collected when the investor sells back the units). Some schemes do not charge any load and are called No Load Schemes
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What is an ex-dividend date?
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Normally, one business day after the record date. Investors purchasing unit on or after the ex-dividend date are not entitled to collect dividends or bonus units. The NAV falls by the amount of the dividend distributed and/or bonus issued. The terms ex-bonus and ex-dividend often are used synonymously.
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For instance, if the record dates for dividend is October 15th, then investors who don’t have their names in the list of unit holders as on that day, will not receive dividend. This works very similar to dividend and bonus declarations in the case of stocks.
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How does one calculate the expense ratio for a fund?
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The expense ratio for a fund is the annual expenses of a fund (at the end of the financial year), including the management fee, administrative costs, divided by the number of units on that day.
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How relevant is the expense ratio?
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As is evident from the definition, a lower expense ratio underlines the efficiency of a fund. This is a yardstick that investors need to apply to gauge the efficiency (or lack of it) between funds.
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What is a contingent deferred sales charge (or CDSC)?
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A back-end load imposed on an investor if he exits from the fund before a pre-determined period (say 6 months). The charges decline the longer an investor stays invested with a fund.
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What is a daily dividend fund? |
A fund (money-market or bond) that calculates dividends daily, paying out or reinvesting the same.
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What is an asset management fee?
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The fee charged by the asset management company (AMC) for portfolio management. The fee charged on an annual basis is calculated as percentage of net assets under management.
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What is growth investing?
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A popular investment style whereby fund managers identify companies showing promise of above-average earnings. Stocks are held primarily for price appreciation as opposed to dividend income. Growth investors (or managers) are willing to pay a premium to acquire a stock if they feel it has the right prospects. Growth investing is an alternative to value investing.
For instance, buying an over-valued software stock would be the part of a growth manager’s investment strategy.
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What is value investing? |
As opposed to growth investors, value investors (or managers) focus on identifying under-priced stocks. Value investors look out for stocks selling at low prices, but which have the potential to give attractive returns in future.
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What is hedging?
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A general term used to describe any of several risk-reduction strategies. A fund manager might partially hedge against a market decline simply by moving a larger fraction of the portfolio into cash. Alternatively, the manager could sell stock-index futures contracts. If the market falls, the gains on the shorted futures would more or less offset the decline in the portfolio's value.
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What is passive investing?
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This is the investment style espoused by index fund managers who simply invest by benchmarking their portfolio to a common stock market index like the BSE-30 or the SP CNX-50. The fund manager only invests in stocks in the index in exactly the same proportion. There is no attempt to beat the benchmark index, but to simply replicate it, and therefore it is called as passive investing. The index fund will never outperform the benchmark index, nor does it attempt to.
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