MUTUAL FUNDS

Mutual Funds (Part 1)

Definition: A mutual fund is a pool of investors' money that is managed by specialist investment management firms.
Basic Features:
- Mutual funds offer products to investors, stating upfront the objectives with which the pooled money will be invested.
- Investors are allotted mutual fund units, which represent their proportional participation in the assets of the mutual fund scheme.
- The money mobilized is invested in a portfolio of securities in accordance with the objectives.
- The portfolio is monitored and managed on behalf of investors by the mutual fund.
Key Concepts:
- Asset Allocation: The proportions in which the fund will invest in securities such as equity, debt, gold, real estate, etc.
- Investment Objective: The focus in creating and managing the portfolio, such as growth and capital appreciation, generation of regular income, or a combination of both.
- Costs and Fees: The costs to be borne by the investor on an annual basis for the management of the fund and charges while leaving the fund.
- Operational Details: The terms for subscription, redemption, and ongoing transactions in the fund.
Mutual Fund Scheme:
- A mutual fund may offer multiple products, variously called schemes, plans, and funds to investors.
- Different schemes launched by a mutual fund should ideally be distinct in terms of asset allocation, investment strategy, and other essential aspects.
- SEBI has broadly classified mutual funds into 5 categories: Equity, Debt, Hybrid, Solution Oriented, and Others.
Pooling and Proportionate Representation:
- Mutual funds pool the money contributed by investors to a scheme and invest it in a portfolio of securities.
- The investments made by the fund belong to the investors, who will share the profits or losses made and the costs incurred in proportion to their investment.
Units and Unit Capital:
- An investor's investment in a mutual fund is represented by the number of units holding, and a mutual fund investor is called a unit holder.
- Each unit has a face value, typically Rs.10.
Mark to Market (MTM):
- The process of valuing the securities at their current market price.
- A mutual fund has to calculate and declare to its investors the current market value of each unit every day by taking the current market price of the securities held in the portfolio.
Net Asset Value (NAV):
- The current value of a mutual fund unit, which depends upon the current MTM value of the securities held in the portfolio of the fund and any income earned.
- The NAV is calculated by deducting the costs and expenses charged for managing the fund from the current market value of the portfolio and dividing the result by the number of outstanding units.
Pricing of Transactions:
- Mutual funds are typically "open-ended", meaning there is no fixed maturity date for the fund, and investors can buy or sell units on any business day as per their convenience.
- Investor transactions are done at a price linked to the NAV, adjusted for any charges associated with buying or selling.

Mutual Funds (Part 2)

Net Asset Value (NAV): The NAV of a mutual fund is calculated by dividing the total value of the fund's assets by the number of units outstanding. For example, if the assets of the fund are Rs. 62,000 and there are 5,000 units outstanding, the NAV will be Rs. 12.40.
Fund Running Expenses: These are expenses incurred by the mutual fund in managing the investment portfolio, such as fees payable to the asset management company, and are charged to investors. Expenses are calculated as a percentage of the daily average net assets managed by the fund.
Total Expense Ratio (TER): This is the ratio of the fund's total expenses to its average net assets, expressed as a percentage. The TER differs with the type of mutual fund, such as equity or debt funds.
Loads: Mutual funds may impose a charge on investors at the time of exiting from a fund, known as an exit load. This is calculated as a percentage of the NAV and reduced from the NAV to arrive at the price the investor will get on exiting.
Relative Performance: A mutual fund's return is dependent on the performance of the underlying assets in its portfolio. For example, equity funds will generate returns in line with equity markets and with the volatility that equity investments have.
Diversification: This involves creating a portfolio of securities that is well-balanced across multiple sectors and securities, to smoothen out the rise or fall in prices of the components. Most mutual fund portfolios are well-diversified, unless they are specifically designed to focus on a single sector.
Pass-through Entity: Mutual funds are classified as "pass-through" entities under income tax laws, meaning that the income of the fund is exempt from tax and is passed through to the investors, who are then taxed on the income.
Open-Ended, Closed-End, and Interval Funds: These are different types of mutual funds, each with its own characteristics and features.
- Open-Ended Funds: These funds do not have a fixed maturity date and allow investors to buy and sell units at any time at the current NAV-linked price.
- Closed-End Funds: These funds issue units only during the new fund offer (NFO) period and have a fixed maturity date, after which the fund is wound up.
- Interval Funds: These funds have features of both open-ended and closed-ended funds and allow investors to buy and sell units directly with the fund during specified transaction periods.
Dividend and Growth Options: Investors can choose between two options to receive returns from a mutual fund: growth and dividend.
- Growth Option: The gains made in the portfolio are retained in the fund and reflected in the rising NAV.
- Dividend Option: The fund declares dividends from the realised profits and distributes them to the unitholders.
Working of a Mutual Fund: A mutual fund is managed by an Asset Management Company (AMC), which launches schemes, collects money from investors, and manages the investments. The AMC charges a fee from investors and is supervised by its own board of directors and the board of trustees of the mutual fund.

MUTUAL FUNDS (Part 3)

Asset Management Company (AMC): An AMC is responsible for managing the mutual fund's investments and is registered with SEBI.
Constituents: The constituents of a mutual fund include the Custodian, R&T Agent, Banks, Auditor, Distributors, and Brokers.
Role of Constituents:
- Custodian: Holds and settles funds and securities.
- R&T Agent: Keeps and services investor records.
- Banks: Enable collections and payments.
- Auditor: Audits scheme accounts.
- Distributors: Distribute fund products to investors.
- Brokers: Execute transactions in securities.

Types of Open-ended Mutual Fund Products

Mutual funds provide a convenient way for investors to invest in different asset classes. The investment objective of the fund will determine the asset class in which the fund invests and the portfolio of securities created. SEBI has broadly classified the open-ended mutual funds into 5 categories:

Equity
Debt
Hybrid
Solution Oriented
Other

Types of Equity Schemes

Equity funds invest in a portfolio of equity shares and equity-related instruments. The return and risk of the fund will be similar to investing in equity. Investors in equity funds seek growth and capital appreciation as their primary objective and should ideally have a long investment horizon that will allow time for the investment to appreciate in value and not be affected by short-term fluctuations.

Multi Cap Fund: An open-ended equity scheme investing across large cap, mid cap, small cap stocks.
Large Cap Fund: An open-ended equity scheme predominantly investing in large cap stocks.
Large and Mid-Cap Fund: An open-ended equity scheme investing in both large cap and mid cap stocks.
Mid Cap Fund: An open-ended equity scheme predominantly investing in mid cap stocks.
Small Cap Fund: An open-ended equity scheme predominantly investing in small cap stocks.
Flexi Cap Fund: An open-ended, dynamic equity scheme that invests across different market capitalizations.
Dividend Yield Fund: An open-ended equity scheme predominantly investing in dividend-yielding stocks.
Value Fund or Contra Fund: A value fund is an open-ended equity scheme following a value investment strategy, while a contra fund is an open-ended equity scheme following a contrarian investment strategy.
Focused Fund: An open-ended equity scheme investing in a maximum of 30 stocks.
Sectoral/Thematic: An open-ended equity scheme investing in a specific sector or theme.
Environmental, Social and Governance (ESG) Investing: A separate sub-category for ESG investments under the thematic category of Equity schemes.
Equity Linked Savings Scheme (ELSS): An open-ended equity-linked saving scheme with a statutory lock-in of 3 years and tax benefit.

Types of Debt Schemes

Debt funds invest in debt securities issued by the government, public sector units, banks, and private limited companies. Debt securities may have different features, such as:

Short-term or long-term: Short-term securities include treasury bills, commercial paper, and certificates of deposit, while long-term securities include government securities and bonds issued by public sector units and companies.
Credit risk: Debt securities may have credit risk or the risk of default, such as corporate bonds, or have no credit risk, such as government securities.
Mark-to-market (MTM) risk: The market value of a debt security changes in response to a change in interest rates. The types of debt funds are:
Overnight Fund: An open-ended debt scheme investing in overnight securities.
Liquid Fund: An open-ended liquid scheme whose investment is into debt and money market securities with maturity of up to 91 days only.
Ultra Short Duration Fund: An open-ended ultra-short term debt scheme investing in debt and money market instruments with Macaulay duration between 3 months and 6 months.
Low Duration Fund: An open-ended low duration debt scheme investing in debt and money market instruments with Macaulay duration between 6 months and 12 months.
Money Market Fund: An open-ended debt scheme investing in money market instruments having maturity up to 1 year.
Short Duration Fund: An open-ended short term debt scheme investing in debt and money market instruments with Macaulay duration between 1 year and 3 years.
Medium Duration Fund: An open-ended medium term debt scheme investing in debt and money market instruments with Macaulay duration of the portfolio being between 3 years and 4 years.
Medium to Long Duration Fund: An open-ended medium term debt scheme investing in debt and money market instruments with Macaulay duration between 4 years and 7 years.
Long Duration Fund: An open-ended debt scheme investing in debt and money market instruments with Macaulay duration greater than 7 years.

MUTUAL FUNDS (Part 4)

Definition: Mutual funds are investment vehicles that pool money from various investors to invest in a diversified portfolio of securities.
Types of Mutual Funds:
- Debt Funds: Invest in debt securities such as bonds and debentures.
  - Dynamic Bond: Invests across duration.
  - Corporate Bond Fund: Invests in AA+ and above rated corporate bonds.
  - Credit Risk Fund: Invests in AA and below rated corporate bonds.
  - Banking and PSU Fund: Invests in debt instruments of banks, Public Sector Undertakings, and Public Financial Institutions.
  - Gilt Fund: Invests in government securities across maturity.
  - Gilt Fund with 10-year constant duration: Invests in government securities with a constant maturity of 10 years.
  - Floater Fund: Invests in floating rate instruments.
- Hybrid Funds: Invest in a combination of equity and debt securities.
  - Conservative Hybrid Fund: Invests predominantly in debt instruments.
  - Balanced Hybrid Fund: Invests in equity and debt instruments in a balanced manner.
  - Aggressive Hybrid Fund: Invests predominantly in equity and equity related instruments.
  - Dynamic Asset Allocation or Balanced Advantage: Invests in equity and debt dynamically.
  - Multi Asset Allocation: Invests in at least three asset classes.
  - Arbitrage Fund: Invests in arbitrage opportunities.
  - Equity Savings: Invests in equity, arbitrage, and debt.
- Solution Oriented Schemes:
  - Retirement Fund: A retirement solution oriented scheme with a lock-in of 5 years or till retirement age.
  - Children’s Fund: A fund for investment for children with a lock-in for at least 5 years or till the child attains age of majority.
- Other Schemes:
  - Index Funds/ Exchange Traded Fund: Replicates or tracks a specific index.
  - Gold ETFs: Invests in gold.
  - Silver ETFs: Invests in silver.
  - Fund of Funds (Overseas/ Domestic): Invests in an underlying fund.
- Closed-Ended Mutual Fund Schemes:
  - Fixed Maturity Plans: Invests in securities whose maturity matches the term of the scheme.
  - Infrastructure Debt Funds: Invests in debt securities and securitised debt of infrastructure companies.
  - Real Estate Mutual Funds: Invests in real estate either in the form of physical property or in the form of securities of companies engaged in the real estate business.
Investment Approaches:
- Active Investing: Managed actively by the fund manager to generate returns higher than the benchmark.
- Passive Investing: Tracks a specific index or benchmark without actively trying to beat it.

MUTUAL FUNDS (Part 5)

Active Mutual Funds: These funds aim to outperform the benchmark by actively researching different sectors and selecting stocks based on defined parameters. They continuously monitor their portfolio and buy and sell stocks to achieve the right opportunity. However, this approach is expensive and results in high fees.
Passive Mutual Funds: These funds aim to generate returns in line with the benchmark returns by replicating the index. They buy all the stocks that are constituents of the index in the same proportion of their weights in the index. Passive funds have lower management fees and provide transparency, lower costs, and diversification to investors.
Index Funds and ETFs: Both are examples of passively managed funds. Index funds are bought and sold like mutual funds, while ETFs are traded on an exchange like stocks.
SEBI Guidelines: SEBI has issued guidelines for the development of passive funds, including facilitating direct transactions with AMCs for investors, disclosing indicative NAV of ETFs, and launching Equity Linked Savings Scheme (ELSS) as passive ELSS under 'Other Schemes' category.

Investing in Mutual Funds

Offline and Online Investment Modes: Investors can invest in mutual funds through offline or online modes. Offline mode involves contacting a representative of the AMC or its approved distributor, while online mode involves investing through the website of the AMC or RTA.
KYC Norms: All investors must have a Permanent Account Number (PAN) and undergo a Know Your Customer (KYC) procedure prescribed by SEBI. KYC can be done online through Aadhaar-based eKYC.
FATCA and CRS: Mutual funds are required to undertake due diligence to identify foreign reportable accounts and collect information as required under FATCA and CRS provisions.

Purchase Transactions

New Fund Offer (NFO): Units of a mutual fund are first available for investing when the scheme is launched in an NFO. The NFO is open for a period of 15 days, and payment can be made only through approved payment modes.
Continuous Offer: Investors can invest in open-ended funds after the NFO period. The price of units depends on the Net Asset Value (NAV) of the fund.
Scheme Related Documents: SEBI requires AMCs to provide relevant and complete information to help investors take an informed decision. Scheme related documents include Statement of Additional Information (SAI), Scheme Information Document (SID), and Key Information Memorandum (KIM).
Riskometer: Mutual funds depict the level of risk in the schemes through a pictorial meter called Riskometer, which is provided on the front pages of NFO application forms, SID, and KIM.

Mutual Funds (Part 6)

Fund Fact Sheet: A monthly report provided by a mutual fund manager, disclosing information such as the fund's objective, category, plan options, Assets under Management, benchmark, minimum investment amount, exit load, and riskiness using the Riskometer.
Fund Manager's Details: The factsheet provides details about the fund manager's experience, educational qualifications, and performance details of other funds managed by them.
Portfolio Allocation: The factsheet discloses the portfolio allocation, top 10 holdings, and sector-wise and company-wise allocation.
Historical Performance: The factsheet provides data on the historical performance of the fund, along with key ratios and their significance.

Transaction Channels

Stock Exchange Channel: Units of mutual funds can be transacted on the stock exchange through stock brokers who have obtained an AMFI Registration Number (ARN) and are certified mutual fund distributors.
Payment Instruments: Investors can make payments using cash, cheques, and electronic payment modes such as NEFT, RTGS, and ASBA.
Joint Holders: A mutual fund folio can have up to three joint holders, and all holders must undergo PAN and KYC formalities.

Redemptions

Redemption Process: Investments in an open-ended fund can be redeemed at any time at the current applicable NAV.
Redemption Request: The redemption request must be signed by the holders according to the mode of holding, and the applicable NAV is adjusted for any exit loads before calculating the redemption amount.

Non-Financial Transactions

Change in Details: Investors can change their address, bank account details, and joint holder information by providing a transaction slip with the folio number and supporting documents.
Centralized Agencies: Changes can be made through centralized agencies, which will verify and communicate the changes to R&T agents to update the investor's records.

Proof of Investment and Transaction

Statement of Account (SoA): The R&T agents dispatch a SoA after every transaction, which serves as proof of the investment made by the investor in a mutual fund.
Consolidated Account Statement (CAS): A CAS is sent to the investor for each calendar month where there have been transactions in a folio.

Distributor Commission

Trail Commission: Mutual funds pay a trail commission to distributors, which is based on the period for which the investment remains with the fund and is a percentage of the current value of the investments.
Full Trail Model: SEBI has allowed mutual funds to adopt a full trail model of commission in all schemes, without payment of any upfront commission or upfronting of any trail commission.

Systematic Transactions

Systematic Investment Plans (SIPs): SIPs enable investors to invest a fixed sum periodically into a mutual fund scheme, reducing the risk of investing a lump sum at a specific time.
Systematic Withdrawal Plans (SWPs): SWPs allow investors to make periodic redemptions from their existing mutual fund investments at the prevailing NAV.
Systematic Transfer Plans (STPs): STPs permit investors to periodically transfer a specified sum from one scheme to another within the same fund house.

Mutual Funds (Part 7)

Systematic Transfer Plan (STP): Allows investors to transfer a fixed amount from one scheme to another at regular intervals. The number of units transferred depends on the Net Asset Value (NAV) of each scheme.
Switches: A single transaction that involves redeeming units from one scheme and purchasing units in another scheme. The source scheme is the scheme from which units are redeemed, and the destination scheme is the scheme into which the money is switched.
Reading Mutual Fund Information: Investors can access information about mutual funds through scheme-related documents, product brochures, fund factsheets, and websites of SEBI and AMFI.
Benefits of Investing in Mutual Funds: Include diversification, professional management, liquidity, flexibility, tax efficiency, and accessibility to a wide range of securities.
Costs and Fees: Investors pay a fee for the benefit of holding a managed portfolio, which includes fund management fees and operational costs.
Regulation of Mutual Funds: SEBI is the primary regulator of mutual funds in India, and mutual funds are required to register with SEBI under the SEBI (Mutual Funds) Regulations, 1996.
Features of Mutual Fund Regulation: Include the creation of a trust to hold investors' funds, definition of roles and responsibilities of trustees and AMCs, and regulations on investment portfolios and expense ratios.
Investor Service Standards: SEBI regulations lay down the rights of investors and the time frame within which services must be provided, including NAV disclosure, unit allotment, and account statements.
Specialized Investment Fund (SIF): A new product line introduced by SEBI, which requires a minimum investment of Rs. 10 lakhs and is designed for sophisticated investors.

MUTUAL FUNDS (Part 8)

Systematic Withdrawal Plan: A plan that allows investors to withdraw a fixed amount of money from their mutual fund investment at regular intervals.
Systematic Dividend Plan: A plan that allows investors to receive dividends from their mutual fund investment at regular intervals.
Dividend Re-investment Plan: A plan that allows investors to re-invest their dividend payouts back into the mutual fund, increasing their investment over time.
Net Asset Value (NAV) Disclosure: Mutual funds are required to disclose their Net Asset Value (NAV) on a daily basis, making statement (a) True.

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