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Introduction
Different investment avenues are available
to investors. Mutual funds also offer good investment
opportunities to the investors. Like all investments,
they also carry certain risks. The investors should
compare the risks and expected yields after adjustment
of tax on various instruments while taking investment
decisions. The investors may seek advice from experts
and consultants including agents and distributors of
mutual funds schemes while making investment decisions.
With an objective to make the investors
aware of functioning of mutual funds, an attempt has
been made to provide information in question-answer
format which may help the investors in taking investment
decisions.
What is a Mutual
Fund?
Mutual fund is a mechanism for pooling
the resources by issuing units to the investors and
investing funds in securities in accordance with objectives
as disclosed in offer document.
Investments in securities are spread
across a wide cross-section of industries and sectors
and thus the risk is reduced. Diversification reduces
the risk because all stocks may not move in the same
direction in the same proportion at the same time. Mutual
fund issues units to the investors in accordance with
quantum of money invested by them. Investors of mutual
funds are known as unitholders.
The profits or losses are shared by
the investors in proportion to their investments. The
mutual funds normally come out with a number of schemes
with different investment objectives which are launched
from time to time. A mutual fund is required to be registered
with Securities and Exchange Board of India (SEBI) which
regulates securities markets before it can collect funds
from the public.
What is the history
of Mutual Funds in India and role of SEBI in mutual
funds industry?
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.
In the year 1992, Securities and exchange
Board of India (SEBI) Act was passed. The objectives
of SEBI are – to protect the interest of investors
in securities and to promote the development of and
to regulate the securities market.
As far as mutual funds are concerned,
SEBI formulates policies and regulates the mutual funds
to protect the interest of the investors. SEBI notified
regulations for the mutual funds in 1993. Thereafter,
mutual funds sponsored by private sector entities were
allowed to enter the capital market. 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.
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. There is no distinction in regulatory
requirements for these mutual funds and all are subject
to monitoring and inspections by SEBI. The risks associated
with the schemes launched by the mutual funds sponsored
by these entities are of similar type. It may be mentioned
here that Unit Trust of India (UTI) is not registered
with SEBI as a mutual fund (as on January 15, 2002).
How is a mutual
fund set up?
A mutual fund is set up in the form
of a trust, which has sponsor, trustees, asset management
company (AMC) and custodian. The trust is established
by a sponsor or more than one sponsor who is like promoter
of a company. The trustees of the mutual fund hold its
property for the benefit of the unitholders. Asset Management
Company (AMC) approved by SEBI manages the funds by
making investments in various types of securities. Custodian,
who is registered with SEBI, holds the securities of
various schemes of the fund in its custody. The trustees
are vested with the general power of superintendence
and direction over AMC. They monitor the performance
and compliance of SEBI Regulations by the mutual fund.
SEBI Regulations require that at least
two thirds of the directors of trustee company or board
of trustees must be independent i.e. they should not
be associated with the sponsors. Also, 50% of the directors
of AMC must be independent. All mutual funds are required
to be registered with SEBI before they launch any scheme.
However, Unit Trust of India (UTI) is not registered
with SEBI (as on January 15, 2002).
What is Net Asset
Value (NAV) of a scheme?
The performance of a particular scheme
of a mutual fund is denoted by Net Asset Value (NAV).
Mutual funds invest the money collected
from the investors in securities markets. In simple
words, Net Asset Value is the market value of the securities
held by the scheme. Since market value of securities
changes every day, NAV of a scheme also varies on day
to day basis. The NAV per unit is the market value of
securities of a scheme divided by the total number of
units of the scheme on any particular date. For example,
if the market value of securities of a mutual fund scheme
is Rs 200 lakhs and the mutual fund has issued 10 lakhs
units of Rs. 10 each to the investors, then the NAV
per unit of the fund is Rs.20. NAV is required to be
disclosed by the mutual funds on a regular basis - daily
or weekly - depending on the type of scheme.
What are the different
types of mutual fund schemes?
Schemes according to Maturity Period:
A mutual fund scheme can be classified
into open-ended scheme or close-ended scheme depending
on its maturity period.
Open-ended Fund/ Scheme
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. Investors can conveniently buy and
sell units at Net Asset Value (NAV) related prices which
are declared on a daily basis. The key feature of open-end
schemes is liquidity.
Close-ended Fund/ Scheme
A close-ended fund or scheme has a
stipulated maturity period e.g. 5-7 years. The fund
is open for subscription only during a specified period
at the time of launch of the scheme. Investors can invest
in the scheme at the time of the initial public issue
and thereafter they can buy or sell the units of the
scheme on the stock exchanges where the units are listed.
In order to provide an exit route to the investors,
some close-ended funds give an option of selling back
the units to the mutual fund through periodic repurchase
at NAV related prices. SEBI Regulations stipulate that
at least one of the two exit routes is provided to the
investor i.e. either repurchase facility or through
listing on stock exchanges. These mutual funds schemes
disclose NAV generally on weekly basis.
Schemes according to Investment Objective:
A scheme can also be classified as
growth scheme, income scheme, or balanced scheme considering
its investment objective. Such schemes may be open-ended
or close-ended schemes as described earlier. Such schemes
may be classified mainly as follows:
Growth / Equity Oriented Scheme
The aim of growth funds is to provide
capital appreciation over the medium to long- term.
Such schemes normally invest a major part of their corpus
in equities. Such funds have comparatively high risks.
These schemes provide different options to the investors
like dividend option, capital appreciation, etc. and
the investors may choose an option depending on their
preferences. The investors must indicate the option
in the application form. The mutual funds also allow
the investors to change the options at a later date.
Growth schemes are good for investors having a long-term
outlook seeking appreciation over a period of time.
Income / Debt Oriented Scheme
The aim of income funds is to provide
regular and steady income to investors. Such schemes
generally invest in fixed income securities such as
bonds, corporate debentures, Government securities and
money market instruments. Such funds are less risky
compared to equity schemes. These funds are not affected
because of fluctuations in equity markets. However,
opportunities of capital appreciation are also limited
in such funds. The NAVs of such funds are affected because
of change in interest rates in the country. If the interest
rates fall, NAVs of such funds are likely to increase
in the short run and vice versa. However, long term
investors may not bother about these fluctuations.
Balanced Fund
The aim of balanced funds is to provide
both growth and regular income as such schemes invest
both in equities and fixed income securities in the
proportion indicated in their offer documents. These
are appropriate for investors looking for moderate growth.
They generally invest 40-60% in equity and debt instruments.
These funds are also affected because of fluctuations
in share prices in the stock markets. However, NAVs
of such funds are likely to be less volatile compared
to pure equity funds.
Money Market or Liquid Fund
These funds are also income funds and
their aim is to provide easy liquidity, preservation
of capital and moderate income. These schemes invest
exclusively in safer short-term instruments such as
treasury bills, certificates of deposit, commercial
paper and inter-bank call money, government securities,
etc. Returns on these schemes fluctuate much less compared
to other funds. These funds are appropriate for corporate
and individual investors as a means to park their surplus
funds for short periods.
Gilt Fund
These funds invest exclusively in government
securities. Government securities have no default risk.
NAVs of these schemes also fluctuate due to change in
interest rates and other economic factors as is the
case with income or debt oriented schemes.
Index Funds
Index Funds replicate the portfolio
of a particular index such as the BSE Sensitive index,
S&P NSE 50 index (Nifty), etc These schemes invest
in the securities in the same weightage comprising of
an index. NAVs of such schemes would rise or fall in
accordance with the rise or fall in the index, though
not exactly by the same percentage due to some factors
known as "tracking error" in technical terms.
Necessary disclosures in this regard are made in the
offer document of the mutual fund scheme.
There are also exchange traded index
funds launched by the mutual funds which are traded
on the stock exchanges.
What are sector
specific funds/schemes?
These are the funds/schemes which invest
in the securities of only those sectors or industries
as specified in the offer documents. e.g. Pharmaceuticals,
Software, Fast Moving Consumer Goods (FMCG), Petroleum
stocks, etc. The returns in these funds are dependent
on the performance of the respective sectors/industries.
While these funds may give higher returns, they are
more risky compared to diversified funds. Investors
need to keep a watch on the performance of those sectors/industries
and must exit at an appropriate time. They may also
seek advice of an expert.
What are Tax Saving
Schemes?
These schemes offer tax rebates to
the investors under specific provisions of the Income
Tax Act, 1961 as the Government offers tax incentives
for investment in specified avenues. e.g. Equity Linked
Savings Schemes (ELSS). Pension schemes launched by
the mutual funds also offer tax benefits. These schemes
are growth oriented and invest pre-dominantly in equities.
Their growth opportunities and risks associated are
like any equity-oriented scheme.
What is a Load
or no-load Fund?
A Load Fund is one that charges a percentage
of NAV for entry or exit. That is, each time one buys
or sells units in the fund, a charge will be payable.
This charge is used by the mutual fund for marketing
and distribution expenses. Suppose the NAV per unit
is Rs.10. If the entry as well as exit load charged
is 1%, then the investors who buy would be required
to pay Rs.10.10 and those who offer their units for
repurchase to the mutual fund will get only Rs.9.90
per unit. The investors should take the loads into consideration
while making investment as these affect their yields/returns.
However, the investors should also consider the performance
track record and service standards of the mutual fund
which are more important. Efficient funds may give higher
returns in spite of loads.
A no-load fund is one that does not
charge for entry or exit. It means the investors can
enter the fund/scheme at NAV and no additional charges
are payable on purchase or sale of units.
Can
a mutual fund impose fresh load or increase the load
beyond the level mentioned in the offer documents?
Mutual funds cannot increase the load
beyond the level mentioned in the offer document. Any
change in the load will be applicable only to prospective
investments and not to the original investments. In
case of imposition of fresh loads or increase in existing
loads, the mutual funds are required to amend their
offer documents so that the new investors are aware
of loads at the time of investments.
What is a sales
or repurchase/redemption price?
The price or NAV a unitholder is charged
while investing in an open-ended scheme is called sales
price. It may include sales load, if applicable.
Repurchase or redemption price is the
price or NAV at which an open-ended scheme purchases
or redeems its units from the unitholders. It may include
exit load, if applicable.
What is an assured
return scheme?
Assured return schemes are those schemes
that assure a specific return to the unitholders irrespective
of performance of the scheme.
A scheme cannot promise returns unless
such returns are fully guaranteed by the sponsor or
AMC and this is required to be disclosed in the offer
document.
Investors should carefully read the
offer document whether return is assured for the entire
period of the scheme or only for a certain period. Some
schemes assure returns one year at a time and they review
and change it at the beginning of the next year.
Can a mutual fund
change the asset allocation while deploying
funds of investors?
Considering the market trends, any
prudent fund managers can change the asset allocation
i.e. he can invest higher or lower percentage of the
fund in equity or debt instruments compared to what
is disclosed in the offer document. It can be done on
a short term basis on defensive considerations i.e.
to protect the NAV. Hence the fund managers are allowed
certain flexibility in altering the asset allocation
considering the interest of the investors. In case the
mutual fund wants to change the asset allocation on
a permanent basis, they are required to inform the unitholders
and giving them option to exit the scheme at prevailing
NAV without any load.
How to invest in
a scheme of a mutual fund?
Mutual funds normally come out with
an advertisement in newspapers publishing the date of
launch of the new schemes. Investors can also contact
the agents and distributors of mutual funds who are
spread all over the country for necessary information
and application forms. Forms can be deposited with mutual
funds through the agents and distributors who provide
such services. Now a days, the post offices and banks
also distribute the units of mutual funds. However,
the investors may please note that the mutual funds
schemes being marketed by banks and post offices should
not be taken as their own schemes and no assurance of
returns is given by them. The only role of banks and
post offices is to help in distribution of mutual funds
schemes to the investors.
Investors should not be carried away
by commission/gifts given by agents/distributors for
investing in a particular scheme. On the other hand
they must consider the track record of the mutual fund
and should take objective decisions.
Can non-resident
Indians (NRIs) invest in mutual funds?
Yes, non-resident Indians can also
invest in mutual funds. Necessary details in this respect
are given in the offer documents of the schemes.
How much should
one invest in debt or equity oriented
schemes?
An investor should take into account
his risk taking capacity, age factor, financial position,
etc. As already mentioned, the schemes invest in different
type of securities as disclosed in the offer documents
and offer different returns and risks. Investors may
also consult financial experts before taking decisions.
Agents and distributors may also help in this regard.
How to fill up
the application form of a mutual fund
scheme?
An investor must mention clearly his
name, address, number of units applied for and such
other information as required in the application form.
He must give his bank account number so as to avoid
any fraudulent encashment of any cheque/draft issued
by the mutual fund at a later date for the purpose of
dividend or repurchase. Any changes in the address,
bank account number, etc at a later date should be informed
to the mutual fund immediately.
What should an
investor look into an offer document?
An abridged offer document, which contains
very useful information, is required to be given to
the prospective investor by the mutual fund. The application
form for subscription to a scheme is an integral part
of the offer document. SEBI has prescribed minimum disclosures
in the offer document. An investor, before investing
in a scheme, should carefully read the offer document.
Due care must be given to portions relating to main
features of the scheme, risk factors, initial issue
expenses and recurring expenses to be charged to the
scheme, entry or exit loads, sponsor’s track record,
educational qualification and work experience of key
personnel including fund managers, performance of other
schemes launched by the mutual fund in the past, pending
litigations and penalties imposed, etc.
When
will the investor get certificate or statement of account
after investing in a mutual fund?
Mutual funds are required to dispatch
certificates or statements of accounts within six weeks
from the date of closure of the initial subscription
of the scheme. In case of close-ended schemes, the investors
would get either a demat account statement or unit certificates
as these are traded in the stock exchanges. In case
of open-ended schemes, a statement of account is issued
by the mutual fund within 30 days from the date of closure
of initial public offer of the scheme. The procedure
of repurchase is mentioned in the offer document.
How
long will it take for transfer of units after purchase
from stock markets in case of close-ended schemes?
According to SEBI Regulations, transfer
of units is required to be done within thirty days from
the date of lodgment of certificates with the mutual
fund.
As
a unitholder, how much time will it take to receive
dividends/repurchase proceeds?
A mutual fund is required to dispatch
to the unitholders the dividend warrants within 30 days
of the declaration of the dividend and the redemption
or repurchase proceeds within 10 working days from the
date of redemption or repurchase request made by the
unitholder.
In case of failures to dispatch the
redemption/repurchase proceeds within the stipulated
time period, Asset Management Company is liable to pay
interest as specified by SEBI from time to time (15%
at present).
Can
a mutual fund change the nature of the scheme from the
one specified in the offer document?
Yes. However, no change in the nature
or terms of the scheme, known as fundamental attributes
of the scheme e.g.structure, investment pattern, etc.
can be carried out unless a written communication is
sent to each unitholder and an advertisement is given
in one English daily having nationwide circulation and
in a newspaper published in the language of the region
where the head office of the mutual fund is situated.
The unitholders have the right to exit the scheme at
the prevailing NAV without any exit load if they do
not want to continue with the scheme. The mutual funds
are also required to follow similar procedure while
converting the scheme form close-ended to open-ended
scheme and in case of change in sponsor.
How
will an investor come to know about the changes, if
any, which may occur in the mutual fund?
There may be changes from time to time
in a mutual fund. The mutual funds are required to inform
any material changes to their unitholders. Apart from
it, many mutual funds send quarterly newsletters to
their investors.
At present, offer documents are required
to be revised and updated at least once in two years.
In the meantime, new investors are informed about the
material changes by way of addendum to the offer document
till the time offer document is revised and reprinted.
How
to know the performance of a mutual fund scheme?
The performance of a scheme is reflected
in its net asset value (NAV) which is disclosed on daily
basis in case of open-ended schemes and on weekly basis
in case of close-ended schemes. The NAVs of mutual funds
are required to be published in newspapers. The NAVs
are also available on the web sites of mutual funds.
All mutual funds are also required to put their NAVs
on the web site of Association of Mutual Funds in India
(AMFI) http://www.amfiindia.com
and thus the investors can access NAVs of all mutual
funds at one place
The mutual funds are also required
to publish their performance in the form of half-yearly
results which also include their returns/yields over
a period of time i.e. last six months, 1 year, 3 years,
5 years and since inception of schemes. Investors can
also look into other details like percentage of expenses
of total assets as these have an affect on the yield
and other useful information in the same half-yearly
format.
The mutual funds are also required
to send annual report or abridged annual report to the
unitholders at the end of the year.
Various studies on mutual fund schemes
including yields of different schemes are being published
by the financial newspapers on a weekly basis. Apart
from these, many research agencies also publish research
reports on performance of mutual funds including the
ranking of various schemes in terms of their performance.
Investors should study these reports and keep themselves
informed about the performance of various schemes of
different mutual funds.
Investors can compare the performance
of their schemes with those of other mutual funds under
the same category. They can also compare the performance
of equity oriented schemes with the benchmarks like
BSE Sensitive Index, S&P CNX Nifty, etc.
On the basis of performance of the
mutual funds, the investors should decide when to enter
or exit from a mutual fund scheme.
How
to know where the mutual fund scheme has invested money
mobilised from the investors?
The mutual funds are required to disclose
full portfolios of all of their schemes on half-yearly
basis which are published in the newspapers. Some mutual
funds send the portfolios to their unitholders.
The scheme portfolio shows investment
made in each security i.e. equity, debentures, money
market instruments, government securities, etc. and
their quantity, market value and % to NAV. These portfolio
statements also required to disclose illiquid securities
in the portfolio, investment made in rated and unrated
debt securities, non-performing assets (NPAs), etc.
Some of the mutual funds send newsletters
to the unitholders on quarterly basis which also contain
portfolios of the schemes.
Is
there any difference between investing in a mutual
fund and in an initial public offering (IPO) of a company?
Yes, there is a difference. IPOs of
companies may open at lower or higher price than the
issue price depending on market sentiment and perception
of investors. However, in the case of mutual funds,
the par value of the units may not rise or fall immediately
after allotment. A mutual fund scheme takes some time
to make investment in securities. NAV of the scheme
depends on the value of securities in which the funds
have been deployed.
If
schemes in the same category of different mutual
funds are available, should one choose a scheme with
lower NAV?
Some of the investors have the tendency
to prefer a scheme that is available at lower NAV compared
to the one available at higher NAV. Sometimes, they
prefer a new scheme which is issuing units at Rs. 10
whereas the existing schemes in the same category are
available at much higher NAVs. Investors may please
note that in case of mutual funds schemes, lower or
higher NAVs of similar type schemes of different mutual
funds have no relevance. On the other hand, investors
should choose a scheme based on its merit considering
performance track record of the mutual fund, service
standards, professional management, etc. This is explained
in an example given below.
Suppose scheme A is available at a
NAV of Rs.15 and another scheme B at Rs.90. Both schemes
are diversified equity oriented schemes. Investor has
put Rs. 9,000 in each of the two schemes. He would get
600 units (9000/15) in scheme A and 100 units (9000/90)
in scheme B. Assuming that the markets go up by 10 per
cent and both the schemes perform equally good and it
is reflected in their NAVs. NAV of scheme A would go
up to Rs. 16.50 and that of scheme B to Rs. 99. Thus,
the market value of investments would be Rs. 9,900 (600*
16.50) in scheme A and it would be the same amount of
Rs. 9900 in scheme B (100*99). The investor would get
the same return of 10% on his investment in each of
the schemes. Thus, lower or higher NAV of the schemes
and allotment of higher or lower number of units within
the amount an investor is willing to invest, should
not be the factors for making investment decision. Likewise,
if a new equity oriented scheme is being offered at
Rs.10 and an existing scheme is available for Rs. 90,
should not be a factor for decision making by the investor.
Similar is the case with income or debt-oriented schemes.
On the other hand, it is likely that
the better managed scheme with higher NAV may give higher
returns compared to a scheme which is available at lower
NAV but is not managed efficiently. Similar is the case
of fall in NAVs. Efficiently managed scheme at higher
NAV may not fall as much as inefficiently managed scheme
with lower NAV. Therefore, the investor should give
more weightage to the professional management of a scheme
instead of lower NAV of any scheme. He may get much
higher number of units at lower NAV, but the scheme
may not give higher returns if it is not managed efficiently.
How
to choose a scheme for investment from a number of schemes
available?
As already mentioned, the investors
must read the offer document of the mutual fund scheme
very carefully. They may also look into the past track
record of performance of the scheme or other schemes
of the same mutual fund. They may also compare the performance
with other schemes having similar investment objectives.
Though past performance of a scheme is not an indicator
of its future performance and good performance in the
past may or may not be sustained in the future, this
is one of the important factors for making investment
decision. In case of debt oriented schemes, apart from
looking into past returns, the investors should also
see the quality of debt instruments which is reflected
in their rating. A scheme with lower rate of return
but having investments in better rated instruments may
be safer. Similarly, in equities schemes also, investors
may look for quality of portfolio. They may also seek
advice of experts.
Are
the companies having names like mutual benefit the
same as mutual funds schemes?
Investors should not assume some companies
having the name "mutual benefit" as mutual
funds. These companies do not come under the purview
of SEBI. On the other hand, mutual funds can mobilise
funds from the investors by launching schemes only after
getting registered with SEBI as mutual funds.
Is the
higher net worth of the sponsor a guarantee for better
returns?
In the offer document of any mutual
fund scheme, financial performance including the net
worth of the sponsor for a period of three years is
required to be given. The only purpose is that the investors
should know the track record of the company which has
sponsored the mutual fund. However, higher net worth
of the sponsor does not mean that the scheme would give
better returns or the sponsor would compensate in case
the NAV falls.
Where
can an investor look out for information on mutual funds?
Almost all the mutual funds have their
own web sites. Investors can also access the NAVs, half-yearly
results and portfolios of all mutual funds at the web
site of Association of mutual funds in India (AMFI)
http://www.amfiindia.com.
AMFI has also published useful literature for the investors.
Investors can log on to the web site
of SEBI http://www.sebi.gov.in
and go to "Mutual Funds" section for information
on SEBI regulations and guidelines, data on mutual funds,
draft offer documents filed by mutual funds, addresses
of mutual funds, etc. Also, in the annual reports of
SEBI available on the web site, a lot of information
on mutual funds is given.
There are a number of other web sites
which give a lot of information of various schemes of
mutual funds including yields over a period of time.
Many newspapers also publish useful information on mutual
funds on daily and weekly basis. Investors may approach
their agents and distributors to guide them in this
regard.
If mutual
fund scheme is wound up, what happens to money invested?
In case of winding up of a scheme,
the mutual funds pay a sum based on prevailing NAV after
adjustment of expenses. Unitholders are entitled to
receive a report on winding up from the mutual funds
which gives all necessary details.
How
can the investors redress their complaints?
Investors would find the name of contact
person in the offer document of the mutual fund scheme
whom they may approach in case of any query, complaints
or grievances. Trustees of a mutual fund monitor the
activities of the mutual fund. The names of the directors
of asset management company and trustees are also given
in the offer documents. Investors can also approach
SEBI for redressal of their complaints. On receipt of
complaints, SEBI takes up the matter with the concerned
mutual fund and follows up with them till the matter
is resolved.
Investors may send
their complaints to:
Securities and Exchange Board of India
Mutual Funds Department
Mittal Court ‘B’ wing, First Floor,
224, Nariman Point,
Mumbai – 400 021.
Phone: 2850451-56, 2880962-70
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