MUTUAL FUNDS

An introduction to the concept

Roll No. 32 41

Name Mane Shubhangi Phalke Rupesh Rakesh Kumar Rane Sandesh Rao Sanjith

42
43 44

Contents
1

Introduction MF, Benefits of Mutual Funds

Structure in India, Key Terms, Types of Funds Loads & fees, Mutual Funds Pricing Selection of mutual funds, Mutual fund analysis Mutual fund Myths and Performance evaluation

History
Unit Trust of India was the first mutual fund set up in India in the year 1963. In early 1990s, Government allowed public sector banks and institutions to set up mutual funds. The regulations were fully revised in 1996 and have been amended thereafter from time to time. SEBI has also issued guidelines to the mutual funds from time to time to protect the interests of investors.

Phases in Mutual Funds - India

First Phase - 1964- -1987 Second Phase - 1987-1993
Entry of Public Sector Funds

Third Phase - 1993-2003

Entry of Private Sector Funds

Fourth Phase - since February 2003

WHAT IS A MUTUAL FUND?

A Mutual Fund is a trust that pools the savings of a number of investors who share a common investment objective, in turn buy assets Mutual Fund is the most suitable investment for common man as it offers an opportunity to invest in a diversified, professionally managed basket of securities at a relatively low cost The wide investible universe includes stocks, bonds, money market instruments and other types of securities which aids diversification Owner of a mutual fund unit gets a proportional share of the funds gains, losses, income and expenses

Collective pooled investment

Sandesh Sanjith

Where?

Money to Invest Fees

Returns Market Invests

Smart Market Person Rakesh

Working of a Mutual Fund

Investors
Passed Back to Pools their money

Returns

Fund Manager

Generates

Invests in

Securities

Mutual Funds
X Fund Manager

Mutual Fund

Stocks

Derivati ves

Bonds/ Debt

Benefits of Mutual Funds

Benefits of Mutual Funds

Diversification:
Investments in broad cross- section of industries and sectors Lowers the Risk Quotient in the portfolio as seldom do all securities fall at the same time in the same proportion Mutual Funds are a cost effective way of investing in various asset classes in the lowest cost Different category of schemes offer varied choices for diversification for all investors

Benefits of Mutual Funds

Well Regulated:
All Mutual Funds registered with SEBI are

SEBI has enlisted strict regulations which have to be mandatorily abided by all Mutual Funds The provisions of these regulations are designed in a manner to protect the interests of investors

Benefits of Mutual Funds

Return Potential:
Aimed at beating the Benchmark leads to Higher Returns to Investors Over medium to long term, they provide higher returns due to investment in diversified basket of securities Provides the cost efficient option to invest in various securities across asset classes in a portfolio Benefits of Scale in Brokerage, Custodial and other fees leads in to lower costs for investors

Low Costs:

Benefits of Mutual Funds

Liquidity:
Open-Ended Schemes offered by Mutual Funds provide easy redemption facility as per requirement of the investors In case of Close-ended schemes, the schemes are listed on the stock exchange wherein the can sell investor the units For certain schemes which are not listed on the stock exchange, periodical redemption facility is provided by the Mutual Fund

Benefits of Mutual Funds

Transparency:
Periodic and regular information/update is provided in terms of value of investment via an account statement Disclosure on the specific investments made by respective scheme, the proportion invested in each class of assets and the fund managers investment strategy and outlook is also provided via Monthly Fact Sheets published by Mutual Funds

Benefits of Mutual Funds

Flexibility & Variety:
With various types of schemes offered by various players, investors have a variety of investment options to choose from Investment features such as Lump Sum, Systematic Investment Plan Systematic Withdrawal Plan, etc. assist the investors to invest or redeem from their investments as per their needs

Benefits of Mutual Funds

Professional Management:
Team of Experienced and Skilled Professionals take care of Investment Management Analysis of companies performance and prospects before selecting suitable investments to achieve the objectives of the scheme Convenient Administration aids avoidance of problems such as Delayed Payments, Bad Deliveries, etc.

The Structure of Mutual Funds

SEBI Sponsor Trustees/Trustee Company

Asset Management Company Custodian Transfer Agent

Securities Exchange Board of India

Set up in the year 1992, with objective to to protect the interest of investors in securities and to promote the development of and to regulate the securities market Role of SEBI
Formulates policies and regulates the mutual funds It regulates the guidelines from time to time All mutual funds whether promoted by public sector or private sector entities including those promoted by foreign entities are governed by the same set of Regulations. All mutual funds are subject to monitoring and inspections by SEBI

Sponsor
They are the Promoters of the Mutual Fund They are given the charge to form a Trust and appoint Trustees. They are also responsible for appointing the Custodian and AMC Eligibility Criteria for Selection of Sponsors:
Over 5 year of sound financial Track Record 3 Year Profit making record At least 40% contribution to AMC Capital He must have net worth in the immediate preceding year more than the capital contribution in AMC

Trustees/Trustee Company
Fiduciary Responsibility for investor funds as a Board of Trustees or Trustee Company Appointed by Sponsor with SEBI approval. They in turn appoint an Asset Management Company (AMC) to manage the portfolio of securities Registered ownership of investments is with Trust. Trustees hold the Unit Holders money in fiduciary capacity There should be at least 4 Trustees (2/3 should be independent) Right to seek regular information and remedial action. All major decisions need trustee approval

Asset Management Company

The AMC is responsible for the operational aspects of the Mutual Fund. It holds an Investment Management agreement with Trustees. It is a SEBI registered entity Requirement of minimum 10 crores of net worth to be maintained at all times At least 1/2 of the board members to be independent and it cannot have any other business interest Structured as a private limited company (Sponsors and Associates hold capital) AMC of one Mutual Fund cannot be trustee of another Mutual Fund 75% of the Unit Holders jointly can terminate the AMC appointment

Custodian, Registrar&Transfer Agent

Custodian
Responsible for the safe keeping of investments of the funds and receipt of all benefits due to the fund. Participates in Clearing System on behalf of the Fund Registered with SEBI

Registrar & Transfer Agent

Responsible for unit holders record maintenance and servicing including purchase, repurchase and transfer of units Responsible for updating Investor Records and Transactions

Types of Mutual Funds

Types of Mutual Funds

Open Ended

Can enter and exit the fund scheme at its NAV as there is no fixed maturity Variable Corpus and not listed These funds charge a marginal exit load Continuously selling and buying back from the fund, these funds provide investors with a very useful and convenient investing vehicle

Close Ended

Applications to funds restricted to only NFO period and are launched with a fixed maturity period These funds are not allowed to charge Entry Load Since the funds are listed, the existing & prospective investors can buy or sell through the exchange These funds generally carry a tenure of around 3 to 5 years
Combines the features of open-ended & close-ended schemes. Units may be
traded on the stock exchange, or may be open for sale, or redemption

Interval

during pre-determined intervals at NAV related prices.

Types of Mutual Funds

Equity fund:
Maximum part of corpus invested into equities holdings.
Diversified Equity Funds Mid-Cap Funds Sector Specific Funds Tax Savings Funds (ELSS)

Longer time horizon Rank high on the risk-return matrix

Hybrid / Balanced funds:

A mix of both equity and debt funds They invest in both equities and fixed income securities Equity offers growth & debt offers stability in returns

Types of Mutual Funds

Debt funds:
Invests in debt papers
Government authorities, Private companies, Banks and financial institutions

Funds ensure low risk Provides stable Debt funds are further classified as:
Gilt Funds Income Funds MIPs Short Term Plans (STPs) Liquid Funds

Money Market Funds:

Invests solely in money market instruments such as Treasury bills Goal - to preserve principal while yielding a modest return Low-risk, highest safety Low-return on investment

Categories of Funds
Mutual Fund Type
Money market /Liquid Funds

Objective
Liquidity + Moderate Income + Preservation of Capital Liquidity + Moderate Income

Risk
Negligible

Who should invest

Those who park their funds in current accounts or short-term bank deposits

Credit Risk & Interest Rate Those with surplus Risk as per instrument short/medium term funds maturity period Security & Income Interest Rate Risk Salaried & conservative Gilt Funds investors Growth & Regular Capital Market Risk & Salaried & conservative Hybrid Funds Income Interest Rate Risk investors To generate returns that To generate returns that To generate returns that Index Funds are commensurate with are commensurate with are commensurate with returns of respective returns of respective returns of respective indices indices indices High Capital Market Risk Aggressive investors with Diversified Equity Funds Long-term Capital Appreciation long term outlook Debt Funds Tax Planning Funds Sector /Thematic Funds Growth with Tax Planning Moderate Capital Market Risk Long Term Capital Appreciation High Capital Market Risk Investors with long term outlook and tax planning Very aggressive investors with long term outlook

Saving options
Purchase Lump Sum Redeem Switch Mutual Fund Investing Systematic Investment Plan (SIP) Periodic

Systematic Withdrawal Plan (SWP)

Systematic Transfer Plan (STP)

Loads & Fees

Used to have entry loads (now banned)
i.e. 2% entry load For 1,00,000 investment only 98,000 invested

Exit loads prevalent to prevent churning

Might vanish after a period 30 days, 1-2 years

Commissions paid to distributors who intermediates your transactions

From management fees Or Exit load

Loads & Fees

AMC charges a fee for Managing Money
Limited to 2.5% of Asset Under Management Use Daily Average AUM Deducted from NAV everyday

No profit sharing fee allowed Higher the AUM lower the fees Debt Mutual Funds have lower fees

Mutual Fund - Pricing

Initial investors pay money
Receive units Usually Rs. 10/unit Rs. 10 is called Par Value or Face Value Process called New Fund Offer (NFO)

Fund invests in whatever it is supposed to

Stocks, Bonds, Derivatives

Everyday market price investment will change

Stock prices go Up or Down

of

each

Mutual Fund - Pricing

Every Day, Funds portfolio is Market to Market Assume 2 investors in one fund
Sanjith Rupesh Total
Rs. 10,000 Rs. 90,000 Rs. 1,00,000 1,000 Units 9,000 Units 10,000 Units

NAV = Total Investment / Total Units

Mutual Fund Pricing

Fund invests on Day 2
Reliance 50 Share @ Rs. 1000 Infosys 16 Shares @ Rs. 2500 Retain Cash Rs. 10,000 Portfolio of Rs. 1,00,000

Portfolio
Reliance Infosys Cash Total

Shares
50 16

Price
1,000 2,500

Value
50,000 40,000 10,000 1,00,000

Mutual Fund Pricing

Day 3 Price changes Reliance & Infosys go up by 20% (Example) Management fees 2%/365 days for 2 days
Portfolio
Reliance Infosys Cash Management fees Total No. of Units
NAV per Unit

Shares
50 16

Price
1,000 1,200 2,500 3,000

Value
60,000 48,000 10,000

@2% for 2 days

-11.95 1,17,988.05 10,000

11.7988

Mutual Fund Pricing

Investor holding went up with NAV New investors only buy at new NAV
Units
Day 3

New NAV
11.7988
11.7988

Value
11798.80
1,06,189.20

Invested
10,000
90,000

Sanjith
Rupesh

1,000
9,000

Stock went up 20%, NAV only went up 18%

Mutual Fund Pricing

NAV prices are declared @ 9 P.M. every day You can buy at todays price upto 3 P.M.
After that tomorrows price

Small cash is held up by funds for redemption

Above that, holdings are sold

You can buy or sell fractional units

If NAV = 11.7988, you can buy Rs. 1000 worth You will get 84.7544 Units

Taxation in Mutual Funds

Entity Type Equity Funds Other Funds Long Term Dividend Distr Short Capital Liquid/Money Market Funds Term Tax Short Term Tax Gains Tax & Long Term Capital Capital Deducted Capital Deducted Dividend Gains Tax Gains at Source Gains Tax at Source Liquid / Money Distribution Others Tax Market Funds Tax As per 10% without 15% Nil Nil Income Indexation or 20% 25% 12.50% Nil Slab with Indexation 15% Nil Nil As per Income Slab As per Income Slab As per Income Slab 10% without Indexation or 20% with Indexation 10% without Indexation or 20% with Indexation 10% without Indexation or 20% with Indexation 10% without Indexation or 20% with Indexation 25% 12.50% Nil

Resident Individual /HUF Association of Person / Body of Individuals Partnership Firm Domestic Companies

15%

Nil

Nil

25%

20%

Nil

15%

Nil

Nil

25%

20%

Nil

NRIs

15%

Nil

As per 15% of Gains Income Slab

25%

20%

STCG30%of Gains, LTCG-20% of Gains

Risks in Mutual Funds

Market Risk
The time of broad market changes, the stock prices of both an outstanding, highly profitable company and a fledgling corporation may be affected. This change in price is due to "market risk". Also known as Systematic risk Also known as "loss of purchasing power" Whenever inflation rises faster than the earnings on your investment, you run the risk that you'll actually be able to buy less, not more. Inflation risk also occurs when prices rise faster than your returns In short, how stable is the company or entity to which you lend your money when you invest? How certain are you that it will be able to pay the interest you are promised, or repay your principal when the investment matures? Changing interest rates affect both equities and bonds in many ways. Investors are reminded that "predicting" which way rates will go is rarely successful

Inflation Risk

Credit Risk

Interest Rate Risk

Risks in Mutual Funds

Exchange risk
Risk associated with changes in exchange rates may have a positive or negative impact on companies which in turn would have an effect on the investment of the fund The sectoral fund schemes, investments will be predominantly in equities of select companies in the particular sectors. Accordingly, the NAV of the schemes are linked to the equity performance of such companies and may be more volatile than a more diversified portfolio of equities. Changes in Government policy especially in regard to the tax benefits may impact the business prospects of the companies leading to an impact on the investments made by the fund

Investment Risks

Changes in the Government Policy

Selection of Mutual Funds

Need Assessment
Understanding ones needs and setting realistic investment goals Aids selection of right funds for investment

Asset Allocation
Knowledge of asset classes before investment Need Assessment helps in dictating the combination of asset classes for investment

Performance Analysis
Track Record of Schemes to be one of the parameters Consistency and stability in returns to be given higher weightage

Selection of Mutual Funds

AMC Experience
Fund House vintage should be understood. Expertise in understanding assets a key parameter Product & Service capabilities to be reviewed thoroughly

Asset size
Too large and too small corpus size have both pros and cons Fund Selection should be preceded by peer comparison to arrive at ideal corpus size of the funds

Investment Objective
Synchronization of investment objectives helps in setting the expectations right for the investments Risk-Return payoff of the fund should be understood

Analyzing Mutual Funds

Assessment of your risk tolerance Importance of diversification Should hold Min 6 mutual funds

Should be able to earn 16% plus with a beta equivalent to 1.0 or slightly less

Analyzing Mutual Funds

Portfolio Analysis:
identifies the process of investing by fund managers that leads them to pick certain kinds of securities.

Three factors of Portfolio Analysis:

Growth
buy stocks in companies whose earnings are growing rapidly.

Value
bargain hunters seeking stocks with low prices compared to intrinsic value.

Company Size
specialize in small companies or large cos.

Analyzing Mutual Funds

Sector Weights
the investor must compare the fund to its relevant indexes - S&P 500 Growth Index and the S&P 500 Value Index

Attribution Analysis
Top-down approach & bottom-up approach to stock-picking

Performance Analysis
Track Record of Schemes Consistency and stability in returns Expense Ratio Fund Manager History

Mutual Fund - Myths

The Conventional Wisdom Myth
Looking at the Historic Trends

The Diversification Myth

If you own at least 10 different mutual funds youll have a diversified portfolio

The Momentum Myth

The easiest way to beat the market is to buy last years top-performing funds

The Five-Star Myth

The best funds to buy are those rated 4 or 5 Stars

Mutual Fund - Myths

The Market Timing Myth
The safest strategy is to move everything into money market funds when the market is declining and switch everything back into stock funds when the market is rising

The Long-Term Performance Myth

The best measure of a funds quality is its long-term performance

The New fund Myth

You should wait until a fund has at least a 3-year track record before investing.