What is a Mutual Fund?
A Mutual Fund is a body corporate that pools the savings of a number of investors and invests the same in a variety of different financial instruments, or securities. The income earned through these investments and the capital appreciation realised by the scheme are shared by its unit holders in proportion to the number of units owned by them. Mutual funds can thus be considered as financial intermediaries in the investment business who collect funds from the public and invest on behalf of the investors. The losses and gains accrue to the investors only. The Investment objectives outlined by a Mutual Fund in its prospectus are binding on the Mutual Fund scheme. The investment objectives specify the class of securities a Mutual Fund can invest in. Mutual Funds invest in various asset classes like equity, bonds, debentures, commercial paper and government securities.
What is an Asset Management Company?
An Asset Management Company (AMC) is a highly regulated organization that pools money from investors and invests the same in a portfolio. They charge a small management fee, which is normally 1.5 per cent of the total funds managed.
What is NAV?
NAV or Net Asset Value of the fund is the cumulative market value of the assets of the fund net of its liabilities. NAV per unit is simply the net value of assets divided by the number of units outstanding. Buying and selling into funds is done on the basis of NAV-related prices. NAV is calculated as follows:
NAV = Market value of the funds investments + Receivables +Accrued Income- Liabilities-Accrued Expenses
Number of Outstanding units
How often is the NAV declared?
The NAV of a scheme has to be declared at least once a week. However many Mutual Fund declare NAV for their schemes on a daily basis. As per SEBI Regulations, the NAV of a scheme shall be calculated and published at least in two daily newspapers at intervals not exceeding one week. However, NAV of a close-ended scheme targeted to a specific segment or any monthly income schemes (which are not mandatorily required to be listed on a stock exchange) may be published at monthly or quarterly intervals.
What are the benefits of investing in Mutual Funds?
1. Qualified and experienced professionals manage Mutual Funds. Generally, investors, by themselves, may have reasonable capability, but to assess a financial instrument a professional analytical approach is required in addition to access to research and information and time and methodology to make sound investment decisions and keep monitoring them.
2. Since Mutual Funds make investments in a number of stocks, the resultant diversification reduces risk. They provide the small investors with an opportunity to invest in a larger basket of securities.
3. The investor is spared the time and effort of tracking investments, collecting income, etc. from various issuers, etc.
4. It is possible to invest in small amounts as and when the investor has surplus funds to invest.
5. Mutual Funds are registered with SEBI. SEBI monitors the activities of Mutual Funds.
6. In case of open-ended funds, the investment is very liquid as it can be redeemed at any time with the fund unlike direct investment in stocks/bonds.
Are there any risks involved in investing in Mutual Funds?
Mutual Funds do not provide assured returns. Their returns are linked to their performance. They invest in shares, debentures and deposits. All these investments involve an element of risk. The unit value may vary depending upon the performance of the company and companies may default in payment of interest/principal on their debentures/bonds/deposits. Besides this, the government may come up with new regulation which may affect a particular industry or class of industries. All these factors influence the performance of Mutual Funds.
What are the different types of Mutual funds?
(a) On the basis of Objective
Equity Funds/ Growth Funds
Funds that invest in equity shares are called equity funds. They carry the principal objective of capital appreciation of the investment over the medium to long-term. The returns in such funds are volatile since they are directly linked to the stock markets. They are best suited for investors who are seeking capital appreciation. There are different types of equity funds such as Diversified funds, Sector specific funds and Index based funds.
These funds invest in companies spread across sectors. These funds are generally meant for risk-taking investors who are not bullish about any particular sector.
These funds invest primarily in equity shares of companies in a particular business sector or industry. These funds are targeted at investors who are extremely bullish about a particular sector.
These funds invest in the same pattern as popular market indices like S&P 500 and BSE Index. The value of the index fund varies in proportion to the benchmark index.
Tax Saving Funds
These funds offer tax benefits to investors under the Income Tax Act. Opportunities provided under this scheme are in the form of tax rebates U/s 88 as well saving in Capital Gains U/s 54EA and 54EB. They are best suited for investors seeking tax concessions.
Debt / Income Funds
These Funds invest predominantly in high-rated fixed-income-bearing instruments like bonds, debentures, government securities, commercial paper and other money market instruments. They are best suited for the medium to long-term investors who are averse to risk and seek capital preservation. They provide regular income and safety to the investor.
Liquid Funds / Money Market Funds
These funds invest in highly liquid money market instruments. The period of investment could be as short as a day. They provide easy liquidity. They have emerged as an alternative for savings and short-term fixed deposit accounts with comparatively higher returns. These funds are ideal for Corporates, institutional investors and business houses who invest their funds for very short periods.
These funds invest in Central and State Government securities. Since they are Government backed bonds they give a secured return and also ensure safety of the principal amount. They are best suited for the medium to long-term investors who are averse to risk.
These funds invest both in equity shares and fixed-income-bearing instruments (debt) in some proportion. They provide a steady return and reduce the volatility of the fund while providing some upside for capital appreciation. They are ideal for medium- to long-term investors willing to take moderate risks.
These funds adopt highly speculative trading strategies. They hedge risks in order to increase the value of the portfolio.
(b) On the basis of Flexibility
These funds do not have a fixed date of redemption. Generally they are open for subscription and redemption throughout the year. Their prices are linked to the daily net asset value (NAV). From the investors perspective, they are much more liquid than closed-ended funds. Investors are permitted to join or withdraw from the fund after an initial lock-in period.
These funds are open initially for entry during the Initial Public Offering (IPO) and thereafter closed for entry as well as exit. These funds have a fixed date of redemption. One of the characteristics of the close-ended schemes is that they are generally traded at a discount to NAV; but the discount narrows as maturity nears. These funds are open for subscription only once and can be redeemed only on the fixed date of redemption. The units of these funds are listed (with certain exceptions), are tradable and the subscribers to the fund would be able to exit from the fund at any time through the secondary market. Units allotted under Fixed Term Plans & Fixed Maturity Plans shall be credited in your linked Demat account.
These funds combine the features of both open-ended and close-ended funds wherein the fund is close-ended for the first couple of years and open-ended thereafter. Some funds allow fresh subscriptions and redemption at fixed times every year (say every six months) in order to reduce the administrative aspects of daily entry or exit, yet providing reasonable liquidity.
(c) On the basis of geographic location
These funds mobilise the savings of nationals within the country.
These funds facilitate cross border fund flow. They invest in securities of foreign companies. They attract foreign capital for investment.
Is there is any tax applicable on the redemption of mutual funds?
Yes. The tax applicable is called as STT i.e. Security transaction tax which is 0.25%. STT is applicable only in case of redemption of equity linked schemes
What are the different plans that Mutual Funds offer?
Growth Plan and Dividend Plan
A growth plan is a plan under a scheme wherein the returns from investments are reinvested and very few income distributions, if any, are made. The investor thus only realises capital appreciation on the investment. This plan appeals to investors in the high income bracket. Under the dividend plan, income is distributed from time to time. This plan is ideal to those investors requiring regular income.
Dividend Reinvestment Plan
Dividend plans of schemes carry an additional option for reinvestment of income distribution. This is referred to as the dividend reinvestment plan. Under this plan, dividends declared by a fund are reinvested on behalf of the investor, thus increasing the number of units held by the investors.
Automatic Investment Plan
Under the Automatic Investment Plan (AIP) also called Systematic Investment Plan (SIP), the investor is given the option for investing in a specified frequency of months in a specified scheme of the Mutual Fund for a constant sum of investment. AIP allows the investors to plan their savings through a structured regular monthly savings program.
Automatic Withdrawal Plan
Under the Automatic Withdrawal Plan (AWP) also called Systematic Withdrawal Plan (SWP), a facility is provided to the investor to withdraw a pre-determined amount from his fund at a pre-determined interval.
What is Exit Load?
The non refundable fee paid to the Asset Management Company at the time of redemption/ transfer of units between schemes of mutual funds is termed as exit load. It is deducted from the NAV (selling price) at the time of such redemption/ transfer.
What is redemption price?
Redemption price is the price received on selling units of open-ended scheme. If the fund does not levy an exit load, the redemption price will be same as the NAV. The redemption price will be lower than the NAV in case the fund levies an exit load.
What is repurchase price?
Repurchase price is the price at which a close-ended scheme repurchases its units. Repurchase can either be at NAV or can have an exit load.
What is a Switch?
Some Mutual Funds provide the investor with an option to shift his investment from one scheme to another within that fund. For this option the fund may levy a switching fee. Switching allows the Investor to alter the allocation of their investment among the schemes in order to meet their changed investment needs, risk profiles or changing circumstances during their lifetime.
What is Shut-Out Period?
After the closure of the Initial Offer Period, on an ongoing basis, the Trustee reserves a right to declare Shut-Out period not exceeding 5 days at the end of each month/quarter/half-year, as the case may be, for the investors opting for payment of dividend under the respective Dividends Plans. The declaration of the Shut-Out period is envisaged to facilitate the AMC/the Registrar to determine the Units of the unitholders eligible for receipt of dividend under the various Dividend Options. Further, the Shut-Out period will also help in expeditious processing and despatch of dividend warrants. During the Shut-Out period investors may make purchases into the Scheme but the Purchase Price for subscription of units will be calculated using the NAV as at the end of the first Business Day in the following month/quarter/half-year as the case may be, depending on the Dividend Plan chosen by the investor. Therefore, if investments are made during the Shut -Out period, Units to the credit of the Unitholders account will be created only on the first Business Day of the following month/ quarter/half year, as the case may be, depending on the dividend plan chosen by the investor. The Shut-Out period applies to new investors in the Scheme as well as to Unitholders making additional purchases of Units into an existing folio. The Trustee reserves the right to change the Shut-Out period and prescribe new Shut- Out period, from time to time.
Is there any minimum lock-in period for my units?
There is no lock-in period in the case of open-ended funds. However in the case of tax saving funds a minimum lock-in period is applicable. The lock-in period for different tax saving schemes are as follows:
section minimum lock-in period
U/s 80C 3 yrs.
U/s 54EA 3 yrs.
U/s 54EB 7 yrs.
Who are the issuers of Mutual funds in India?
Unit Trust of India was the first mutual fund which began operations in 1964. Other issuers of Mutual funds are Public sector banks like SBI, Canara Bank, Bank of India, Institutions like IDBI, ICICI, GIC, LIC, Foreign Institutions like Alliance, Morgan Stanley, Templeton and Private financial companies like Kothari Pioneer, DSP Merrill Lynch, Sundaram, Kotak Mahindra, Cholamandalam etc.
What are the factors that influence the performance of Mutual Funds?
The performances of Mutual funds are influenced by the performance of the stock market as well as the economy as a whole. Equity Funds are influenced to a large extent by the stock market. The stock market in turn is influenced by the performance of the companies as well as the economy as a whole. The performance of the sector funds depends to a large extent on the companies within that sector. Bond-funds are influenced by interest rates and credit quality. As interest rates rise, bond prices fall, and vice versa. Similarly, bond funds with higher credit ratings are less influenced by changes in the economy.
As a new investor how do I select a particular scheme?
Choice of any scheme would depend to a large extent on the investor preferences. For an investor willing to undertake risks, equity funds would be the most suitable as they offer the maximum returns. Debt funds are suited for those investors who prefer regular income and safety. Gilt funds are best suited for the medium to long-term investors who are averse to risk. Balanced funds are ideal for medium- to long-term investors willing to take moderate risks. Liquid funds are ideal for Corporates, institutional investors and business houses who invest their funds for very short periods. Tax Saving Funds are ideal for those investors who want to avail tax benefits.
An important aspect while selecting a particular scheme is the duration of the investment. Depending on your time horizon you can select a particular scheme. Besides all this, factors like promoters image, objective of the fund and returns given by the funds on different schemes should also be taken into account while selecting a particular scheme.
What are the rights that are available to a Mutual Fund holder?
As per SEBI Regulations on Mutual Funds, an investor is entitled to
1. Receive Unit certificates or statements of accounts confirming your title within 6 weeks from the date your request for a unit certificate is received by the Mutual Fund.
2. Receive information about the investment policies, investment objectives, financial position and general affairs of the scheme;
3. Receive dividend within 42 days of their declaration and receive the redemption or repurchase proceeds within 10 days from the date of redemption or repurchase
4. The trustees shall be bound to make such disclosures to the unit holders as are essential in order to keep them informed about any information which may have an adverse bearing on their investments.
5. 75% of the unit holders with the prior approval of SEBI can terminate the AMC of the fund.
6. 75% of the unit holders can pass a resolution to wind-up the scheme.
7. An investor can send complaints to SEBI, who will take up the matter with the concerned Mutual Funds and follow up with them till they are resolved.
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