FINANCIAL PLANNING 0USING MUTUAL FUNDS FIN

PROJECT REPORT
ON
FINANCIAL PLANNING USING MUTUAL
FUNDS
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ACKNOWLEDGEMENT
I wish to express my heartfelt appreciation to many who have contributed to
this study. I would like to thank to Faculty Guide, Firdaus Khan,for her
valuable guidance. I wish to express my gratitude to my faculty guide, who
provided me with constant impetus to complete this project.
SOHAIL DHANANI
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INDEX
1.0 Executive Summary
2.0 Introduction
3.0 Research Methodology
a. Research Objectives
b. Hypothesis
c. Research Design
d. Sample Design
e. Data Collection
f. Limitations
4.0 Industry Profile
a. Review of literature on the industry
b. Basics of mutual fund
c. Major Companies
d. Growth chart – past and projections for future
e. Swot
f. Financial planning
5.0 Issues and challenges faced by the company and the MF industry
6.0 Finding and Analysis
7.0 Recommendations
8.0 Bibliography
9.0 Annexure
10.0 Case study
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1.0 EXECUTIVE SUMMARY
I always preferred finance as a subject because I always wanted to enter Finance Industry. As
Finance is the core area be it be personal finance(cash in hand) of an individual or funds available
with the company, needs to be well taken care of. Finance is a branch of economics that deals with
the management of funds, financial resources and other assets. In broader terms, finance is raising or
investing money both as equity or debt .Finance is a wide-ranging term which includes funding,
investments, trading and risk management. Finance involves investment of funds in financial assets,
such as stocks, bonds, mutual funds and private equities for income generation. We are not all
investment professional. We go to a doctor when we need medical advice or a lawyer for legal
guidance. Similarly, mutual funds are investment vehicles managed by professional fund managers.
Mutual funds are like professional money managers, however a key factor in their favour is that they
are more regulated and hence offer investors the ability to analyse and evaluate their track record.
According to a study conducted by Associated Chambers of Commerce and Industry
Of India (ASSOCHAM), the mutual fund industry is expected to be worth Rs. Mutual funds
offloaded shares worth more than Rs 14,000 crore during FY 2013-14, making it the fifth
consecutive year of net outflows. This is based on the perception that investors in future would prefer
mutual funds for their investment destination rather than choosing to park their funds in stock
markets because of safer returns and lower degree of risk as compared to other markets.
Such undoubted potential that the future holds for companies in the business, has called for a very
competitive scenario, wherein each mutual fund house will try to grab the opportunity to increase its
market share. Tata Asset Management Limited, the Mutual Fund arm of the Tata group, is one such
company in the race.
Banks all over the world have now stepped into the mutual fund business. The branch systems that
are part of banks provide the opportunity for extensive networks of retail outlets for mutual fund
sales. So far, banks have had an excellent record as managers of mutual funds who are marketing
mutual them with good reason: deposits in these funds could soon surpass bank deposits.
However, now with more than 10,000 mutual funds to choose from, banks have begun streamlining
their focus on a few set of funds over a period of time.
This Project gave me a great learning experience and at the same time it gave me enough scope to
implement my analytical ability.
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2.0 INTRODUCTION
Financial Planning is the process of meeting your life goals through the proper management of your
finances. Life goals can include buying a house, saving for your child's higher education or planning
for retirement. The Financial Planning Process consists of six steps that help you take a 'big picture'
look at where you are currently. Using these six steps, you can work out where you are now, what
you may need in the future and what you must do to reach your goals. The process involves
gathering relevant financial information, setting life goals, examining your current financial status
and coming up with a strategy or plan for how you can meet your goals given your current situation
and future plans.
Financial Planning provides direction and meaning to your financial decisions. It allows you to
understand how each financial decision you make affects other areas of your finances. For example,
buying a particular investment product might help you pay off your mortgage faster or it might delay
your retirement significantly. By viewing each financial decision as part of the whole, you can
consider its short and long-term effects on your life goals. You can also adapt more easily to life
changes and feel more secure that your goals are on track.
Financial Planning is the process of creating strategies to help you manage your finances in order to
meet your life goals. It is a complicated matter that all rational and capable people must one day
begin to pursue. Financial Planning consists of four primary steps: creating Financial Planning
Objectives, developing plans that will fulfill these objectives, creating a budget by which the assets
will be obtained, and finally review and revision of the financial plan.
The Financial Planning Objectives can be divided into 5 sections. The first is the basic things you
need for survival, and obviously this is the primary objective that must be met before others can be
considered. These things are comprised of food, clothing, shelter, and even our automobile expenses.
Next is the money left over that we can afford to put into savings or an emergency fund.
Then there are the discretionary insurance you put on things such as life insurance, home owners
insurance, and auto insurance. Investment is the next step, the accumulation of assets in order to
secure a return. Finally, we have estate planning which includes providing for heirs by leaving them
assets and minimizing taxes.
After the Financial Planning Objectives have been laid out, financial plans must be devised in order
to fulfill them. This is done by analyzing both your current problems that are keeping you from
obtaining your goals and whatever economic opportunities from which you may currently benefit.
Solutions are then developed on how to fix the problems or benefit from opportunities and then they
are implemented. The final step is to monitor and keep track of these objectives and review their
progress.
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The third step in the financial planning process is to devise a budget by which the previous
objectives can be accomplished. There are three steps to the budget creation process: identify how
you're spending your money, set goals for yourself that will accomplish your financial plan, and
track your spending to make sure you're following your budget. Look for small expenses that add up
over time, reduce larger expenses, and try to cut taxes. Finally, keep track of how inflation will
influence your savings.
The final step in financial planning is to review and revise your financial plan. There are many
reasons for this step, the most important being to make sure that you are meeting your objectives and
that these objectives are helping to achieve your goal. It's also important to review and revise your
financial plan as you may have a drastic change in circumstances, your objectives may have
changed, and maybe you have made a change to your long-term financial goals.
Financial Planning may seem to be difficult and time consuming, which it is, but with practice and
dedication you will find it to be easier than you expected. There are also many financial institutions
and computer software that can aid you when it comes to financial planning. Remember that with
social security becoming less trustworthy, you'll never too young to begin to prepare for retirement.
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3.0 RESEARCH METHODOLOGY
Financial Planning is a branch of the finance advising field which caters to individual clients rather
than corporations or Business. Savings form an important part of the economy of any nation. With
the savings invested in various options available to the people, the money acts as the driver for
growth of the country. Indian financial scene too presents a plethora of avenues to the investors.
The financial market holds great opportunities for companies in the financial sector of the country. It
is a growing market backed by a strong economy with huge untapped potential.
Tata Asset Management Company is a part of this financial market where it offers its mutual fund
units for sale through its various distribution channels. Investors form the backbone of such a market,
hence, the company. With growing investor awareness and knowledge of mutual
Funds, it has become imperative for every company to provide the investor with a thorough analysis
of the various schemes available, before suggesting him to vouch his money on a particular scheme.
It is also a responsibility of a mutual fund house to ensure that the investor is not misguided at any
point of time and is given due time and attention. Hence, proper knowledge and time needs to be
provided to the investor leading to more informed decision making at his end.
Also, increased consciousness towards the benefits and importance of saving and the evident
increase in the saving and investment habit of people has made it possible for Mutual Fund houses to
tap new investments. Since most investors trust Banks for the custody and management of their cash,
the onus of ensuring adequate returns on such resource falls on them. Hence, banks form a major
distribution channel for a mutual fund house.
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a. RESEARCH OBJECTIVES
My project, “FINANCIAL PLANNING USING MUTUAL FUND” focuses on:
I. Primary Objective
The Primary objective of the project is to gain a better understanding of the branch that help
investor in investing across investment avenues specially mutual funds based on his risk profile
and investment objective.
II. Secondary Objective
The secondary objective is “TO STUDY THE VARIOUS FACTORS CONSIDERED BY THE
CUSTOMER WHILE GOING FOR INVESTMENT IN MUTUAL FUND”
b. HYPOTHSIS
 H0- (NULL HYPOTHESIS): All investors seek help from a professional Financial Planner.
 H1-(ALTERNATE HYPOTHESIS): Many investors don’t trust advice by financial
planner.
c. RESEARCH DESIGN
 Exploratory research: Here we are going to find out the Preference of investors towards
MUTUAL FUND.
d. SAMPLE DESIGN
 Sample size
Total of 170 respondents were contacted and Questionnaire was given.
 Sampling unit
Jubilee Hills Place in the Delhi Hyderabad Region was selected for sampling and the target
area for collecting data because there are many brokerage houses nearby.
 Sampling Technique
The Non- Probabilistic technique under which convenient sampling is used.
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e. DATA COLLECTION
The source of my data collection is primary as well as secondary data.
Primary Data:
Qualitative data is collected on investor’s preference towards mutual fund investment option.
Secondary Data:
Qualitative as well as quantitative data collected from various sources including material available in
the corporate office, business newspapers, magazines and trade journals and internet. Other sources
of information include industry statistics published by AMFI, SEBI & CAMS, product performance
statistics from various sources like mutualfundsindia.com, Value Research, CRISIL.
f. LIMITATIONS
 The survey sample was not very large for analysis.
 Respondent were so busy in their work, they hardly read the questions properly leading to
unfair result.
 The survey was carried through questionnaire and the questions were based on perception.
 There may be some biased views.
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4.0 INDUSTRY PROFILE
A .REVIEW OF LITERATURE ON THE INDUSTRY
Literature on mutual fund performance evaluation is enormous.
Sharpe, William F. (1966) suggested a measure for the evaluation of portfolio performance. Drawing
on results obtained in the field of portfolio analysis, economist Jack L. Treynor has suggested a new
predictor of mutual fund performance, one that differs from virtually all those used previously by
incorporating the volatility of a fund's return in a simple yet meaningful manner.
Michael C. Jensen (1967) derived a risk-adjusted measure of portfolio performance (Jensen’s alpha)
that estimates how much a manager’s forecasting ability contributes to fund’s returns.
As indicated by Statman (2000), the e SDAR of a fund portfolio is the excess return of the portfolio
over the return of the benchmark index, where the portfolio is leveraged to have the benchmark
index’s standard deviation. S.Narayan Rao , et. al., evaluated performance of Indian mutual funds in
a bear market through relative performance index, risk-return analysis, Treynor’s ratio, Sharpe’s
ratio, Sharpe’s measure , Jensen’s measure, and Fama’s measure. The study used 269 open-ended
schemes (out of total schemes of 433) for computing relative performance index. Then after
excluding funds whose returns are less than risk-free returns, 58 schemes are finally used for further
analysis. The results of performance measures suggest that most of mutual fund schemes in the
sample of 58 were able to satisfy investor’s expectations by giving excess returns over expected
returns based on both premium for systematic risk and total risk.
Bijan Roy, et. al., conducted an empirical study on conditional performance of Indian mutual funds.
This paper uses a technique called conditional performance evaluation on a sample of eighty-nine
Indian mutual fund schemes .This paper measures the performance of various mutual funds with
both unconditional and conditional form of CAPM, Treynor- Mazuy model and Henriksson-Merton
model. The effect of incorporating lagged information variables into the evaluation of mutual fund
managers’ performance is examined in the Indian context. The results suggest that the use of
conditioning lagged information variables improves the performance of mutual fund schemes,
causing alphas to shift towards right and reducing the number of negative timing coefficients.
Mishra, et al., (2002) measured mutual fund performance using lower partial moment. In this paper,
measures of evaluating portfolio performance based on lower partial moment are developed.
Risk from the lower partial moment is measured by taking into account only those states in which
return is below a pre-specified “target rate” like risk-free rate. Kshama Fernandes(2003) evaluated
index fund implementation in India. In this paper, tracking error of index funds in India is
measured .The consistency and level of tracking errors obtained by some well-run index fund
suggests that it is possible to attain low levels of tracking error under Indian conditions. At the same
time, there do seem to be periods where certain index funds appear to depart from the discipline of
indexation. K. Pendaraki et al. studied construction of mutual fund portfolios, developed a multi-
criteria methodology and applied it to the Greek market of equity mutual funds. The methodology is
based on the combination of discrete and continuous multi-criteria decision aid methods for mutual
fund selection and composition. UTADIS multi-criteria decision aid method is employed in order to
develop mutual fund’s performance models.
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Goal programming model is employed to determine proportion of selected mutual funds in the final
portfolios.
Zakri Y.Bello (2005) matched a sample of socially responsible stock mutual funds matched to
randomly selected conventional funds of similar net assets to investigate differences in
characteristics of assets held, degree of portfolio diversification and variable effects of diversification
on investment performance. The study found that socially responsible funds do not differ
significantly from conventional funds in terms of any of these attributes. Moreover, the effect of
diversification on investment performance is not different between the two groups. Both groups
underperformed the Domini 400 Social Index and S & P 500 during the study period.
A number of recent studies have examined the issue of performance persistence in mutual funds.
Grinblatt and Titman (1992) analyze performance of 279 funds over the period of 1975 to 1984 using
a benchmark technique and find evidence that performance differences between funds persists over
time. Hendricks, Patel, and Zeckhauser (1993) study 165 no-load growth-oriented funds over the
period 1974 to 1988 and obtain similar results. In a study of 728 mutual fund returns over the period
1976 to 1988, Goetzman and Ibbotson (1994) find that two-year performance is predictive of
performance over the successive two years. Volkman and Wohar (1995) extend this analysis to
examine factors that impact performance persistence. Their data consists of 322 funds over the
period 1980 to 1989, and shows performance persistence is negatively related to size and negatively
related to levels of management fees.
Studies of performance persistence in mutual funds are not without contrary evidence. Carhart
(1997) shows that expenses and common factors in stock returns such as beta, market capitalization,
one-year return momentum, and whether the portfolio is value or growth oriented "almost
completely" explain short term persistence in risk-adjusted returns. He concludes that his evidence
does not "support the existence of skilled or informed mutual fund portfolio managers" (Carhart,
1997, p. 57). In the Kahn and Rudd 1995 study of 300 equity funds and 195 bond funds between
1983 and 1993, only the bond funds show evidence of persistence. In an article in this issue, Detzel
and Weigand (1998) use a regression residual technique to control for the effects of investment style,
size and expense ratios. They find, after controlling for these variables, no evidence of performance
persistence.
Two other studies have used performance ranks. Dunn and Theisen (1983) rank the annual
performance of 201 institutional portfolios for the period 1973 through 1982 without controlling for
fund risk. They found no evidence that funds performed within the same quartile over the ten-year
period. They also found that ranks of individual managers based on 5-year compound returns
revealed no consistency. Bauman and Miller (1995) studied the persistence of pension and
investment fund performance by type of investment organization and investment style. They
employed a quartile ranking technique because they noted that "investors pay particular attention to
consultants' and financial periodicals' investment performance rankings of mutual funds and pension
funds" (Bauman & Miller, 1995, p. 79). They found that portfolios managed by investment advisors
showed more consistent performance (measured by quartile rankings) over market cycles and that
funds managed by banks and insurance companies showed the least consistency. They suggest that
this result may be caused by a higher turnover in the decision-making structure in these less
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consistent funds. This study controls for the effects of turnover of key decision makers by restricting
the sample to those funds with the same manager for the entire period of study.
Two important research streams in the finance literature focus on predicting fund performance and
understanding investor behavior. The academic literature on mutual funds has mostly focused on
fund performance and management style (e.g., Grinblatt and Titman, 1992; Brown and Goetzman,
1997; Lunde et al., 1999; Chevalier and Ellison, 1999; Kothari and Warner, 2001), although others
have focused on the risk-return characteristics of bond mutual funds (Philpot et al., 2000; Blake et
al., 1993). Some studies (Indro et al., 1999; Morey and Morey, 1999; Sirri and Tufano, 1998) have
also investigated the different methods of predicting fund performance by using tools, such as neural
networks or benchmarking. Recent literature, however, proposes the use of integrated or hybrid
models for predicting fund performance. Tsaih et al. (1998), for example, develop a hybrid artificial
intelligence technique to implement trading strategies in the S & P 500 stock index futures market.
Their empirical results show that their system outperformed the passive buy-and-hold investment
strategy during the six-year testing period. The authors suggest that the hybrid approach facilitates
the development of more reliable intelligent systems than standalone expert systems models.
Hybrid systems also offer the organization a method to facilitate knowledge management.
Knowledge management includes knowledge repositories, expert networks, best practices, and
communities of practice (King et al., 2002). The repositories consist of databases from which
members of the organization can retrieve specific technical knowledge. Knowledge management has
been used to add external knowledge to Web sites (Ojala, 2002), provide knowledge discovery for
destination management (Pyo et al., 2002), and deliver distance teaching (Hirschbuhl et al., 2002).
These applications reflect the fact that one of the uses of knowledge management is to provide a
strategic advantage (King et al., 2002).
Some recent studies have begun to address the issue of understanding investor behavior (e.g., Zheng,
1999; Harliss and Peterson, 1998; Goetzmann and Peles, 1997; Alexander et al. 1997, 1998; Bogle,
1992). These studies have aroused scholarly interest in understanding how investors make
investment decisions. A study by Alexander et al. (1998) examines responses of randomly selected
mutual fund investors. Their findings show that employees investing in mutual funds through their
employer-sponsored pension plans [e.g., 401(k)] are generally younger, more likely to own stock
funds, and less likely to own certificate of deposits and money market accounts. In addition,
individuals investing in mutual funds via non employer channels are significantly more experienced
than individuals investing in employer-sponsored pension plans. Both types of mutual fund holders
(those investing through employers and those investing in non employer plans) are well educated,
with 55% having at least a college degree, and do not consider the operating expenses of the mutual
fund to be an important factor in their purchasing decision.
Overall, limited research has been performed to integrate these three streams of literature--financial,
behavioral, and information technology (e.g., Nagy and Obenberger, 1994). This paper attempts to
integrate these three streams of research to enhance our understanding of investors' fund-switching
behavior and in improving prediction accuracy. Our study attempts to extend the literature on the
investment behavior of mutual fund investors by focusing on the differences and similarities between
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individuals investing in employer versus non employer investment plans. This issue has not been
investigated adequately in the literature.
B. BASICS OF MUTUAL FUND
A mutual fund is the ideal investment vehicle for today’s complex and modern financial scenario.
Markets for equity shares, bonds and other fixed income instruments, real estate, derivatives and
other assets have become mature and information driven. Price changes in these assets are driven by
global events occurring in faraway places. A typical individual is unlikely to have the knowledge,
skills, inclination and time to keep track of events, understand their implications and act speedily. An
individual also finds it difficult to keep track of ownership of his assets, investments, brokerage dues
and bank transactions etc. and hence need a financial intermediary who can provide the required
knowledge and the professional expertise for the purpose of investing successfully.
In USA the banking industry has been well overtaken by the Mutual Fund Industry as there is more
money into the Mutual Fund Industry for management than the deposits in the bank.
Indian households started investing more of the saving’s into the capital market after 1980’s. Now
the investment flows more into the equity and debt instruments than the conventional bank deposits.
Until 1992 the investors of the primary market were assured good return because the price of the new
equity issues was controlled and was very low.
The Industry has been facing a problem due to market crash and the six months returns of almost all
the equity schemes have gone negative. And the philosophy of the Indian Investor is to invest in a
period of boom rather than opting for value investing. The Industry is only allowed to invest in
Options for the purpose of hedging rather but is not allowed to use them for earning good returns. A
Mutual Fund is allowed only to invest maximum of 20% of their Assets into Mutual Funds have
merged as professional intermediaries.
They not only provide expertise on successful investing but also allow investing in small amount
and have benefits of having a diversified portfolio with a good potential for income and growth.
Over the course of the past 60 years, the mutual fund industry has Undergone tremendous change. In
1945, it was a tiny industry offering a relative handful of funds—largely diversified equity and
balanced Funds. As 2005 begins, it is a multi-trillion-dollar titan offering thousands of funds with a
dizzying array of investment policies and strategies. In India Unit Trust of India occupied the place
in the capital market as the first intermediaries in 1964 which was the market monopoly till 1987.
UTI was established in 1963 by an act of Parliament. It was set up by the Reserve Bank of India and
later was de-linked from RBI. The first scheme launched by UTI was US-64 which was the first open
end scheme in the country. Unit linked Insurance Plan (ULIP) was launched in 1971 and after that
scheme like Children’s Gift Growth Fund, Master share were launched.
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CONCEPT OF MUTUAL FUND
A Mutual Fund is a body corporate registered with the Securities and Exchange Board of India
(SEBI) that pools up the money from individual / corporate investors and invests the same on behalf
of the investors /unit holders, in equity shares, Government securities, Bonds, Call money markets
etc., and distributes the profits. In other words, a mutual fund allows an investor to indirectly take a
position in a basket of assets.
A Mutual Fund is a trust that pools the savings of a number of investors who share a common
financial goal. The money thus collected is then invested in capital market instruments such as
shares, debentures and other securities. The income earned through these investments and the capital
appreciation realized are shared by its unit holders in proportion to the number of units owned by
them. Thus a Mutual Fund is the most suitable investment for the common man as it offers an
opportunity to invest in a diversified, professionally managed basket of securities at a relatively low
cost.
THE SECURITY AND EXCHANGE BOARD OF INDIA (Mutual Funds) REGULATIONS,1996
defines a mutual fund as a " a fund establishment in the form of a trust to raise money through the
sale of units to the public or a section of the public under one or more schemes for investing in
securities, including money market instruments."
Every Mutual Fund is managed by a fund manager, who using his investment management skills and
necessary research works ensures much better return than what an investor can manage on his own.
The capital appreciation and other incomes earned from these investments are passed on to the
investors (also known as unit holders) in proportion of the number of units they own.
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When an investor subscribes for the units of a mutual fund, he becomes part owner of the assets of
the fund in the same proportion as his contribution amount put up with the corpus (the total amount
of the fund). Mutual Fund investor is also known as a mutual fund shareholder or a unit holder.
Any change in the value of the investments made into capital market instruments (such as shares,
debentures etc) is reflected in the Net Asset Value (NAV) of the scheme. NAV is defined as the
market value of the Mutual Fund scheme's assets net of its liabilities. NAV of a scheme is calculated
by dividing the market value of scheme's assets by the total number of units issued to the investors.
For example:
A. If the market value of the assets of a fund is Rs. 100,000
B. The total number of units issued to the investors is equal to 10,000.
C. Then the NAV of this scheme = (A)/(B), i.e. 100,000/10,000 or 10.00
D. Now if an investor 'X' owns 5 units of this scheme
E. Then his total contribution to the fund is Rs. 50 (i.e. Number of units held multiplied by the
NAV of the scheme)
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The Evolution
The formation of Unit Trust of India marked the evolution of the Indian mutual fund industry in the
year 1963. The primary objective at that time was to attract the small investors and it was made
possible through the collective efforts of the Government of India and the Reserve Bank of India.
The history of mutual fund industry in India can be better understood divided into following phases:
Phase 1. Establishment and Growth of Unit Trust of India - 1964-87
Unit Trust of India enjoyed complete monopoly when it was established in the year 1963 by an act of
Parliament. UTI was set up by the Reserve Bank of India and it continued to operate under the
regulatory control of the RBI until the two were de-linked in 1978 and the entire control was
transferred in the hands of Industrial Development Bank of India (IDBI). UTI launched its first
scheme in 1964, named as Unit Scheme 1964 (US-64), which attracted the largest number of
investors in any single investment scheme over the years.
UTI launched more innovative schemes in 1970s and 80s to suit the needs of different investors. It
launched ULIP in 1971, six more schemes between 1981-84, Children's Gift Growth Fund and India
Fund (India's first offshore fund) in 1986, Mastershare (India’s first equity diversified scheme) in
1987 and Monthly Income Schemes (offering assured returns) during 1990s. By the end of 1987,
UTI's assets under management grew ten times to Rs 6700 crores.
Phase II. Entry of Public Sector Funds - 1987-1993
The Indian mutual fund industry witnessed a number of public sector players entering the market in
the year 1987. In November 1987, SBI Mutual Fund from the State Bank of India became the first
non-UTI mutual fund in India. SBI Mutual Fund was later followed by Canbank Mutual Fund, LIC
Mutual Fund, Indian Bank Mutual Fund, Bank of India Mutual Fund, GIC Mutual Fund and PNB
Mutual Fund. By 1993, the assets under management of the industry increased seven times to Rs.
47,004 crores. However, UTI remained to be the leader with about 80% market share.
Phase III. Emergence of Private Sector Funds - 1993-96
The permission given to private sector funds including foreign fund management companies (most of
them entering through joint ventures with Indian promoters) to enter the mutual fund industry in
1993, provided a wide range of choice to investors and more competition in the industry. Private
funds introduced innovative products, investment techniques and investor-servicing technology. By
1994-95, about 11 private sector funds had launched their schemes.
Phase IV. Growth and SEBI Regulation - 1996-2004
The mutual fund industry witnessed robust growth and stricter regulation from the SEBI after the
year 1996. The mobilization of funds and the number of players operating in the industry reached
new heights as investors started showing more interest in mutual funds.
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Investors’' interests were safeguarded by SEBI and the Government offered tax benefits to the
investors in order to encourage them. SEBI (Mutual Funds) Regulations, 1996 was introduced by
SEBI that set uniform standards for all mutual funds in India. The Union Budget in 1999 exempted
all dividend incomes in the hands of investors from income tax. Various Investor Awareness
Programmes were launched during this phase, both by SEBI and AMFI, with an objective to educate
investors and make them informed about the mutual fund industry.
In February 2003, the UTI Act was repealed and UTI was stripped of its Special legal status as a trust
formed by an Act of Parliament. The primary objective behind this was to bring all mutual fund
players on the same level. UTI was re-organized into two parts: 1. The Specified Undertaking, 2. The
UTI Mutual Fund
Presently Unit Trust of India operates under the name of UTI Mutual Fund and its past schemes (like
US-64, Assured Return Schemes) are being gradually wound up. However, UTI Mutual Fund is still
the largest player in the industry. In 1999, there was a significant growth in mobilization of funds
from investors and assets under management.
Phase V. Growth and Consolidation - 2004 Onwards
The industry has also witnessed several mergers and acquisitions recently, examples of which are
acquisition of schemes of Alliance Mutual Fund by Birla Sun Life, Sun F&C Mutual Fund and PNB
Mutual Fund by Principal Mutual Fund. Simultaneously, more international mutual fund players
have entered India like Fidelity, Franklin Templeton Mutual Fund etc. There were 29 funds as at the
end of March 2006. This is a continuing phase of growth of the industry through consolidation and
entry of new international and private sector players
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CONSTITUENTS OF A MUTUAL FUND
Mutual fund is vehicle that facilitates a number of investors to pool their money and have it jointly
managed by a professional money manager. There are many entities involved and the diagram below
illustrates the organizational set up of a mutual fund.
Since mutual funds receive money from the public for investments, the regulatory authorities have to
ensure that the investors' rights and interests are protected. If mutual fund promoters and fund
managers are given a free hand, there is every possibility of the interests of investors being ignored.
A fund promoter may prefer to invest in companies which he is associated with. Internal control and
risk management systems may be ignored.
The best way to avoid such problems is to separate ownership of the mutual fund, management of the
fund organization and investment management from each other. To increase transparency and
professional management, the functions and responsibilities of each should be well defined. Finally,
to ensure objectivity in decision making, independent persons should be inducted in organizational
and fund management.
The SEBI regulations stipulate that a mutual fund should be structured in such a way as to ensure
clear differentiation between the promoters and managers of a fund. 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 unit holders. 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.
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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). The various functionaries as defined in the regulations and required for any
mutual fund are:
Sponsors: Sponsors are individuals, group of individuals or companies who promote a mutual fund.
Sponsors should have at least five years of experience in the financial services business. They should
be financially sound and stable. To be more specific, they should have reported positive net worth for
the previous five years and net profits for at least three of the preceding five years. Also, sponsors or
any of their principal officers, like directors and chief executive officers, should not have been
convicted for economic offences.
Trustees: Trustees are board members of the mutual fund trust. They should be persons of good
capability and standing and should not have been convicted for any economic offence. At least two
thirds of the trustees shall be independent, or in other words they should not be associated with the
promoters. No person can serve as the trustee of more than one mutual fund, unless he is an
independent trustee. Trustees can be individuals or companies.
Trustees are responsible for the overall management of the mutual fund. They hold all assets of the
mutual fund on behalf of its investors and it is their job to ensure proper management of such funds.
Trustees are not allowed to manage the funds or take investment decisions themselves. Their
responsibilities include appointment of fund managers, ensuring all legal compliances, appointment
of auditors, establishment of internal controls, supervision of fund management, etc.
Trustees are required to carry out frequent checks on the activities of the fund and its managers. They
are also required to report about the activities to SEBI, once every six months. A compliance officer
should be appointed by the trustees to ensure that all legal provisions are adhered to.
Asset Management Company: An Asset Management Company or AMC is a company engaged in
the business of professional investment management for mutual funds. An AMC should be registered
with SEBI and its board of directors should have sufficient experience in the financial service
industry. They should not have been convicted of any economic offence.
The chairman of the company should not be the trustee of any mutual fund and at least half of the
company's directors should not have any association with the sponsors or trustees of the mutual fund.
An AMC or any of its employees cannot become the trustee of a mutual fund. The sponsors or
trustees of a mutual fund should appoint a registered AMC to invest the funds received from
investors. The contract between the trust and the asset management company is called investment
management agreement. The AMC can charge a fee from the mutual fund for its services, subject to
the limits set by SEBI.
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Custodian: A custodian is an external agency, registered with SEBI, who physically hold the assets
of a fund like shares, bonds etc. Many large commercial banks offer custodial services to mutual
funds. A custodian is responsible for the administrative and back office work relating to transactions
undertaken by the fund. They are also responsible for ensuring collection of incomes due to the fund,
like dividend from shares and interest on bonds. The custodian can charge a fee for offering such
services.
Registrars and Transfer Agents: A Registrar is an external agency responsible for handling the
administrative work relating to collection of application from investors, issue of mutual fund units,
and transfer of mutual fund units from a seller to a buyer when the scheme starts trading on the stock
exchanges etc. The fund can pay a fee to the registrar for such services.
TYPES OF MUTUAL FUND
General classification of Mutual Fund (By Structure)
A. Open ended and Close ended Funds
Open-end Funds
Funds that can sell and purchase units at any point in time are classified as Open-end Funds.
The fund size (corpus) of an open-end fund is variable (keeps changing) because of
continuous selling (to investors) and repurchases (from the investors) by the fund. An open-
end fund is not required to keep selling new units to the investors at all times but is required
to always repurchase, when an investor wants to sell his units. The NAV of an open-end fund
is calculated every day.
Closed-end Funds
Funds that can sell a fixed number of units only during the New Fund Offer (NFO) period are known
as Closed-end Funds. The corpus of a Closed-end Fund remains unchanged at all times. After the
closure of the offer, buying and redemption of units by the investors directly from the Funds is not
allowed. However, to protect the interests of the investors, SEBI provides investors with two avenues
to liquidate their positions:
1. Closed-end Funds are listed on the stock exchanges where investors can buy/sell units
from/to each other. The trading is generally done at a discount to the NAV of the scheme.
The NAV of a closed end fund is computed on a weekly basis (updated every Thursday).
2. Closed-end Funds may also offer "buy-back of units" to the unit holders. In this case, the
corpus of the Fund and its outstanding units do get changed.
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B. Load and No Load Funds
Load Funds
Mutual Funds incur various expenses on marketing, distribution, advertising, portfolio churning,
fund manager's salary etc. Many funds recover these expenses from the investors in the form of load.
These funds are known as Load Funds. A load fund may impose following types of loads on the
investors:
• Entry Load - Also known as Front-end load, it refers to the load charged to an investor at the
time of his entry into a scheme. Entry load is deducted from the investor's contribution
amount to the fund.
• Exit Load - Also known as Back-end load, these charges are imposed on an investor when he
redeems his units (exits from the scheme). Exit load is deducted from the redemption
proceeds to an outgoing investor.
• Deferred Load - Deferred load is charged to the scheme over a period of time.
• Contingent Deferred Sales Charge (CDSC) - In some schemes, the percentage of exit load
reduces as the investor stays longer with the fund. This type of load is known as Contingent
Deferred Sales Charge.
No-load Funds
All those funds that do not charge any of the above mentioned loads are known as No-load
Funds.
C. Tax exempt Funds and Non Tax exempt Funds
Tax-exempt Funds
Funds that invest in securities free from tax are known as Tax-exempt Funds. All open-end
equity oriented funds are exempt from distribution tax (tax for distributing income to investors).
Long term capital gains and dividend income in the hands of investors are tax-free.
Non-Tax-exempt Funds
Funds that invest in taxable securities are known as Non-Tax-exempt Funds. In India, all funds,
except open-end equity oriented funds are liable to pay tax on distribution income. Profits arising
out of sale of units by an investor within 12 months of purchase are categorized as short-term
capital gains, which are taxable. Sale of units of an equity oriented fund is subject to Securities
Transaction Tax (STT). STT is deducted from the redemption proceeds to an investor
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Types of Mutual Funds by Investment objective:
1. Equity Funds
Equity funds are considered to be the more risky funds as compared to other fund types, but they also
provide higher returns than other funds. It is advisable that an investor looking to invest in an equity
fund should invest for long term i.e. for 3 years or more. There are different types of equity funds
each falling into different risk bracket. In the order of decreasing risk level, there are following types
of equity funds:
a. Aggressive Growth Funds - In Aggressive Growth Funds, fund managers aspire for
maximum capital appreciation and invest in less researched shares of speculative nature.
Because of these speculative investments Aggressive Growth Funds become more volatile and
thus, are prone to higher risk than other equity funds.
b. Growth Funds - Growth Funds also invest for capital appreciation (with time horizon of 3 to
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5 years) but they are different from Aggressive Growth Funds in the sense that they invest in
companies that are expected to outperform the market in the future. Without entirely adopting
speculative strategies, Growth Funds invest in those companies that are expected to post
above average earnings in the future.
c. Specialty Funds - Specialty Funds have stated criteria for investments and their portfolio
comprises of only those companies that meet their criteria. Criteria for some specialty funds
could be to invest/not to invest in particular regions/companies. Specialty funds are
concentrated and thus, are comparatively riskier than diversified funds.. There are following
types of specialty funds:
i. Sector Funds: Equity funds that invest in a particular sector/industry of the market are
known as Sector Funds. The exposure of these funds is limited to a particular sector
(say Information Technology, Auto, Banking, Pharmaceuticals or Fast Moving
Consumer Goods) which is why they are more risky than equity funds that invest in
multiple sectors.
ii. Foreign Securities Funds: Foreign Securities Equity Funds have the option to invest
in one or more foreign companies. Foreign securities funds achieve international
diversification and hence they are less risky than sector funds. However, foreign
securities funds are exposed to foreign exchange rate risk and country risk.
iii. Mid-Cap or Small-Cap Funds: Funds that invest in companies having lower market
capitalization than large capitalization companies are called Mid-Cap or Small-Cap
Funds. Market capitalization of Mid-Cap companies is less than that of big, blue chip
companies (less than Rs. 2500 crores but more than Rs. 500 crores) and Small-Cap
companies have market capitalization of less than Rs. 500 crores. Market
Capitalization of a company can be calculated by multiplying the market price of the
company's share by the total number of its outstanding shares in the market. The
shares of Mid-Cap or Small-Cap Companies are not as liquid as of Large-Cap
Companies which gives rise to volatility in share prices of these companies and
consequently, investment gets risky.
iv. Option Income Funds*: While not yet available in India, Option Income Funds write
options on a large fraction of their portfolio. Proper use of options can help to reduce
volatility, which is otherwise considered as a risky instrument. These funds invest in
big, high dividend yielding companies, and then sell options against their stock
positions, which generate stable income for investors.
v.
d. Diversified Equity Funds - Except for a small portion of investment in liquid money market,
diversified equity funds invest mainly in equities without any concentration on a particular
sector(s). These funds are well diversified and reduce sector-specific or company-specific
risk. However, like all other funds diversified equity funds too are exposed to equity market
risk. One prominent type of diversified equity fund in India is Equity Linked Savings
Schemes (ELSS). As per the mandate, a minimum of 90% of investments by ELSS should be
in equities at all times. ELSS investors are eligible to claim deduction from taxable income
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(up to Rs 1 lakh) at the time of filing the income tax return. ELSS usually has a lock-in period
and in case of any redemption by the investor before the expiry of the lock-in period makes
him liable to pay income tax on such income(s) for which he may have received any tax
exemption(s) in the past.
e. Equity Index Funds - Equity Index Funds have the objective to match the performance of a
specific stock market index. The portfolio of these funds comprises of the same companies
that form the index and is constituted in the same proportion as the index. Equity index funds
that follow broad indices (like S&P CNX Nifty, Sensex) are less risky than equity index funds
that follow narrow sectoral indices (like BSEBANKEX or CNX Bank Index etc). Narrow
indices are less diversified and therefore, are more risky.
f. Value Funds - Value Funds invest in those companies that have sound fundamentals and
whose share prices are currently under-valued. The portfolio of these funds comprises of
shares that are trading at a low Price to Earnings Ratio (Market Price per Share / Earning per
Share) and a low Market to Book Value (Fundamental Value) Ratio. Value Funds may select
companies from diversified sectors and are exposed to lower risk level as compared to growth
funds or specialty funds. Value stocks are generally from cyclical industries (such as cement,
steel, sugar etc.) which make them volatile in the short-term. Therefore, it is advisable to
invest in Value funds with a long-term time horizon as risk in the long term, to a large extent,
is reduced.
g. Equity Income or Dividend Yield Funds - The objective of Equity Income or Dividend
Yield Equity Funds is to generate high recurring income and steady capital appreciation for
investors by investing in those companies which issue high dividends (such as Power or
Utility companies whose share prices fluctuate comparatively lesser than other companies'
share prices). Equity Income or Dividend Yield Equity Funds are generally exposed to the
lowest risk level as compared to other equity funds.
2. Debt / Income Funds
Funds that invest in medium to long-term debt instruments issued by private companies,
banks, financial institutions, governments and other entities belonging to various sectors (like
infrastructure companies etc.) are known as Debt / Income Funds. Debt funds are low risk
profile funds that seek to generate fixed current income (and not capital appreciation) to
investors. In order to ensure regular income to investors, debt (or income) funds distribute
large fraction of their surplus to investors. Although debt securities are generally less risky
than equities, they are subject to credit risk (risk of default) by the issuer at the time of
interest or principal payment. To minimize the risk of default, debt funds usually invest in
securities from issuers who are rated by credit rating agencies and are considered to be of
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"Investment Grade". Debt funds that target high returns are more risky. Based on different
investment objectives, there can be following types of debt funds:
a. Diversified Debt Funds - Debt funds that invest in all securities issued by entities belonging
to all sectors of the market are known as diversified debt funds. The best feature of diversified
debt funds is that investments are properly diversified into all sectors which results in risk
reduction. Any loss incurred, on account of default by a debt issuer, is shared by all investors
which further reduces risk for an individual investor.
b. Focused Debt Funds* - Unlike diversified debt funds, focused debt funds are narrow focus
funds that are confined to investments in selective debt securities, issued by companies of a
specific sector or industry or origin. Some examples of focused debt funds are sector,
specialized and offshore debt funds, funds that invest only in Tax Free Infrastructure or
Municipal Bonds. Because of their narrow orientation, focused debt funds are more risky as
compared to diversified debt funds. Although not yet available in India, these funds are
conceivable and may be offered to investors very soon.
c. High Yield Debt funds - As we now understand that risk of default is present in all debt
funds, and therefore, debt funds generally try to minimize the risk of default by investing in
securities issued by only those borrowers who are considered to be of "investment grade".
But, High Yield Debt Funds adopt a different strategy and prefer securities issued by those
issuers who are considered to be of "below investment grade". The motive behind adopting
this sort of risky strategy is to earn higher interest returns from these issuers. These funds are
more volatile and bear higher default risk, although they may earn at times higher returns for
investors.
d. Assured Return Funds - Although it is not necessary that a fund will meet its objectives or
provide assured returns to investors, but there can be funds that come with a lock-in period
and offer assurance of annual returns to investors during the lock-in period. Any shortfall in
returns is suffered by the sponsors or the Asset Management Companies (AMCs). These
funds are generally debt funds and provide investors with a low-risk investment opportunity.
However, the security of investments depends upon the net worth of the guarantor (whose
name is specified in advance on the offer document). To safeguard the interests of investors,
SEBI permits only those funds to offer assured return schemes whose sponsors have adequate
net-worth to guarantee returns in the future. In the past, UTI had offered assured return
schemes (i.e. Monthly Income Plans of UTI) that assured specified returns to investors in the
future. UTI was not able to fulfill its promises and faced large shortfalls in returns.
Eventually, government had to intervene and took over UTI's payment obligations on itself.
Currently, no AMC in India offers assured return schemes to investors, though possible.
e. Fixed Term Plan Series - Fixed Term Plan Series usually are closed-end schemes having
short term maturity period (of less than one year) that offer a series of plans and issue units to
investors at regular intervals. Unlike closed-end funds, fixed term plans are not listed on the
exchanges. Fixed term plan series usually invest in debt / income schemes and target short-
term investors. The objective of fixed term plan schemes is to gratify investors by generating
some expected returns in a short period.
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3. Gilt Funds
Also known as Government Securities in India, Gilt Funds invest in government papers (named
dated securities) having medium to long term maturity period. Issued by the Government of India,
these investments have little credit risk (risk of default) and provide safety of principal to the
investors. However, like all debt funds, gilt funds too are exposed to interest rate risk. Interest rates
and prices of debt securities are inversely related and any change in the interest rates results in a
change in the NAV of debt/gilt funds in an opposite direction.
4. Money Market / Liquid Funds
Money market / liquid funds invest in short-term (maturing within one year) interest bearing debt
instruments. These securities are highly liquid and provide safety of investment, thus making money
market / liquid funds the safest investment option when compared with other mutual fund types.
However, even money market / liquid funds are exposed to the interest rate risk. The typical
investment options for liquid funds include Treasury Bills (issued by governments), Commercial
papers (issued by companies) and Certificates of Deposit (issued by banks).
5. Hybrid Funds
As the name suggests, hybrid funds are those funds whose portfolio includes a blend of equities,
debts and money market securities. Hybrid funds have an equal proportion of debt and equity in their
portfolio. There are following types of hybrid funds in India:
a. Balanced Funds - The portfolio of balanced funds include assets like debt securities,
convertible securities, and equity and preference shares held in a relatively equal proportion.
The objectives of balanced funds are to reward investors with a regular income, moderate
capital appreciation and at the same time minimizing the risk of capital erosion. Balanced
funds are appropriate for conservative investors having a long term investment horizon.
b. Growth-and-Income Funds - Funds that combine features of growth funds and income funds
are known as Growth-and-Income Funds. These funds invest in companies having potential
for capital appreciation and those known for issuing high dividends. The level of risks
involved in these funds is lower than growth funds and higher than income funds.
c. Asset Allocation Funds - Mutual funds may invest in financial assets like equity, debt,
money market or non-financial (physical) assets like real estate, commodities etc.. Asset
allocation funds adopt a variable asset allocation strategy that allows fund managers to switch
over from one asset class to another at any time depending upon their outlook for specific
markets. In other words, fund managers may switch over to equity if they expect equity
market to provide good returns and switch over to debt if they expect debt market to provide
better returns. It should be noted that switching over from one asset class to another is a
decision taken by the fund manager on the basis of his own judgment and understanding of
specific markets, and therefore, the success of these funds depends upon the skill of a fund
manager in anticipating market trends.
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6. Commodity Funds
Those funds that focus on investing in different commodities (like metals, food grains, crude oil
etc.) or commodity companies or commodity futures contracts are termed as Commodity Funds.
A commodity fund that invests in a single commodity or a group of commodities is a specialized
commodity fund and a commodity fund that invests in all available commodities is a diversified
commodity fund and bears less risk than a specialized commodity fund. "Precious Metals Fund"
and Gold Funds (that invest in gold, gold futures or shares of gold mines) are common examples
of commodity funds.
7. Real Estate Funds
Funds that invest directly in real estate or lend to real estate developers or invest in
shares/securitized assets of housing finance companies, are known as Specialized Real Estate
Funds. The objective of these funds may be to generate regular income for investors or capital
appreciation.
8. Exchange Traded Funds (ETF)
Exchange Traded Funds provide investors with combined benefits of a closed-end and an open-
end mutual fund. Exchange Traded Funds follow stock market indices and are traded on stock
exchanges like a single stock at index linked prices. The biggest advantage offered by these funds
is that they offer diversification, flexibility of holding a single share (tradable at index linked
prices) at the same time. Recently introduced in India, these funds are quite popular abroad.
9. Fund of Funds
Mutual funds that do not invest in financial or physical assets, but do invest in other mutual fund
schemes offered by different AMCs, are known as Fund of Funds. Fund of Funds maintain a
portfolio comprising of units of other mutual fund schemes, just like conventional mutual funds
maintain a portfolio comprising of equity/debt/money market instruments or non financial assets.
Fund of Funds provide investors with an added advantage of diversifying into different mutual
fund schemes with even a small amount of investment, which further helps in diversification of
risks. However, the expenses of Fund of Funds are quite high on account of compounding
expenses of investments into different mutual fund schemes.
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MUTUAL FUNDS ADVANTAGES:
The benefits on offer are many with good post-tax returns and reasonable safety being the hallmark
that we normally associate with them. Some of the other major benefits of investing in them are:
• Number of available options
Mutual funds invest according to the underlying investment objective as specified at the time of
launching a scheme. So, we have equity funds, debt funds, gilt funds and many others that cater to
the different needs of the investor. The availability of these options makes them a good option. While
equity funds can be as risky as the stock markets themselves, debt funds offer the kind of security
that aimed at the time of making investments. Money market funds offer the liquidity that desired by
big investors who wish to park surplus funds for very short-term periods. The only pertinent factor
here is that the fund has to selected keeping the risk profile of the investor in mind because the
products listed above have different risks associated with them. So, while equity funds are a good bet
for a long term, they may not find favour with corporate or High Net worth Individuals (HNIs) who
have short-term needs.
• Diversification
Investments spread across a wide cross-section of industries and sectors and so the risk is reduced.
Diversification reduces the risk because not all stocks move in the same direction at the same time.
One can achieve this diversification through a Mutual Fund with far less money than one can on his
own.
• Professional Management
Mutual Funds employ the services of skilled professionals who have years of experience to back
them up. They use intensive research techniques to analyze each investment option for the potential
of returns along with their risk levels to come up with the figures for performance that determine the
suitability of any potential investment.
• Potential of Returns
Returns in the mutual funds are generally better than any other option in any other avenue over a
reasonable period. People can pick their investment horizon and stay put in the chosen fund for the
duration. Equity funds can outperform most other investments over long periods by placing long-
term calls on fundamentally good stocks. The debt funds too will outperform other options such as
banks. Though they are affected by the interest rate risk in general, the returns generated are more as
they pick securities with different duration that have different yields and so are able to increase the
overall returns from the .
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• Efficiency
By pooling investors' monies together, mutual fund companies can take advantage of economies of
scale. With large sums of money to invest, they often trade commission-free and have personal
contacts at the brokerage firms.
• Ease of Use
Can you imagine keeping track of a portfolio consisting of hundreds of stocks? The bookkeeping
duties involved with stocks are much more complicated than owning a mutual fund. If you are doing
your own taxes, or are short on time, this can be a big deal.
Wealthy stock investors get special treatment from brokers and wealthy bank account holders get
special treatment from the banks, but mutual funds are non-discriminatory. It doesn't matter whether
you have $50 or $500,000; you are getting the exact same manager, the same account access and the
same investment.
• Risk
In general, mutual funds carry much lower risk than stocks. This is primarily due to diversification
(as mentioned above). Certain mutual funds can be riskier than individual stocks, but you have to go
out of your way to find them.
With stocks, one worry is that the company you are investing in goes bankrupt. With mutual funds,
that chance is next to nil. Since mutual funds, typically hold anywhere from 25-5000 companies, all
of the companies that it holds would have to go bankrupt.
We discussed all advantages of investing in mutual funds. These advantages together make mutual
fund a very attractive investment avenue because it provides high return at low risk.
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Drawbacks of Mutual Funds
Mutual funds have their drawbacks and may not be for everyone:
No Guarantees: No investment is risk free. If the entire stock market declines in value, the value of
mutual fund shares will go down as well, no matter how balanced the portfolio. Investors encounter
fewer risks when they invest in mutual funds than when they buy and sell stocks on their own.
However, anyone who invests through a mutual fund runs the risk of losing money.
Fees and commissions: All funds charge administrative fees to cover their day-to-day expenses.
Some funds also charge sales commissions or "loads" to compensate brokers, financial consultants,
or financial planners. Even if you don't use a broker or other financial adviser, you will pay a sales
commission if you buy shares in a Load Fund.
Taxes: During a typical year, most actively managed mutual funds sell anywhere from 20 to 70
percent of the securities in their portfolios. If your fund makes a profit on its sales, you will pay taxes
on the income you receive, even if you reinvest the money you made.
Management risk: When you invest in a mutual fund, you depend on the fund's manager to make
the right decisions regarding the fund's portfolio. If the manager does not perform as well as you had
hoped, you might not make as much money on your investment as you expected. Of course, if you
invest in Index Funds, you forego management risk, because these funds do not employ managers.
Cash, Cash and More Cash: As we know already, mutual funds pool money from thousands of
investors, so everyday investors are putting money into the fund as well as withdrawing investments.
To maintain liquidity and the capacity to accommodate withdrawals, funds typically have to keep a
large portion of their portfolios as cash. Having ample cash is great for liquidity, but money sitting
around as cash is not working for you and thus is not very advantageous.
Misleading Advertisements: The misleading advertisements of different funds can guide investors
down the wrong path. Some funds may be incorrectly labelled as growth funds, while others are
classified as small cap or income funds. The Securities and Exchange Commission (SEC) requires
that funds have at least 80% of assets in the particular type of investment implied in their names.
How the remaining assets are invested is up to the fund manager.
However, the different categories that qualify for the required 80% of the assets may be vague and
wide-ranging. A fund can therefore manipulate prospective investors by using names that are
30

attractive and misleading. Instead of labeling itself a small cap, a fund may be sold as a "growth
fund". Or, the "Congo High-Tech Fund" could be sold with the title "International High-Tech Fund".
Evaluating Funds: Another disadvantage of mutual funds is the difficulty they pose for investors
interested in researching and evaluating the different funds. Unlike stocks, mutual funds do not offer
investors the opportunity to compare the P/E ratio, sales growth, earnings per share, etc. A mutual
fund's net asset value gives investors the total value of the fund's portfolio less liabilities, but how
do you know if one fund is better than another?
Furthermore, advertisements, rankings and ratings issued by fund companies only describe past
performance. Always note that mutual fund descriptions/advertisements always include the tagline
"past results are not indicative of future returns". Be sure not to pick funds only because they have
performed well in the past - yesterday's big winners may be today's big losers.
LEGAL AND REGULATORY ENVIRONMENT
SEBI
In 1998 the securities and exchange board of india was established by the government of india
through an executive resolution, and was subsequently upgraded as a fully autonomous body in the
year 1992 with the passing of the securities and exchange board of india act on 30th
January 1992.
The SEBI was established on April 12, 1992 in accordance with the provisions of the securities and
exchange board of India act, 1992 to protect the interest of investors in securities and to
promote the development of, and to regulate the securities market and for matters connected
therewith or incidental thereto.
SEBI has 9 members including a chairman, 2 members from amongst the officials of the ministry of
the central government, 1 member from amongst the officials of the reserve bank and 5 other
members to be appointed by the central government.
Functions of SEBI
• Main purpose of SEBI is to protect the interest of the investors in securities and to promote
the development of, and to regulate the securities market, by such measures as it thinks fit.
• Regulating the business in stock exchanges and any other securities market.
• Registering and regulating the working of stock brokers, share transfer agents, bankers to an
issue, trustees of trust deeds, registrars to an issue, merchant bankers, underwriters , portfolio
31

managers, investment advisors and such other intermediaries who may be associated with
securities market in any manner.
• Registering and regulating the working of the depositories, custodians of securities, foreign
institutional investors, credit rating agencies and such other intermediaries.
• Registering and regulating the working of venture capital funds and collective investment
schemes, including mutual funds.
• Promoting and regulating self-regulatory organizations.
• Prohibiting fraudulent and unfair trade practices relating to securities market.
• Promoting investors education and training of intermediaries of securities market.
• Prohibiting insider trading in securities.
• Regulating substantial acquisition of shares and take-over of companies.
SEBI as Mutual Fund Regulator
The MFs are regulated under the SEBI [MF] Regulation, 1996. All the MFs have to be registered
with SEBI. the regulations have laid down a detailed procedure for launching of schemes ,
disclosures in the offer document ,advertisement, listing and repurchase of close ended schemes,
offer period o, transfer of units, investments, among others.
In addition ,RBI also supervises the operations of bank –owned MFs .While SEBI regulates all
market related and investor related activities of the bank /FI –owned funds ,any issues concerning the
ownership of the AMCs by bank falls under the regulatory ambit of the RBI.
FURTHER, AS THE MF’s, AMC’s AND CORPORATE TRUSTEES AS REGISTERED AS
COMPANIES ACT 1956, THEY HAVE TO COMPLY WITH THE PROVISION OF THE
COMPANIES ACT. MANY CLOSE –ENDED SCHEMES OF THE MF’s are listed on one or more
stock exchanges. Such schemes are therefore subject to the regulations of the concerned stock
exchanges through the listing agreement between the fund and the stock exchange.
MF’s being public trust are governed by the Indian Trust Act, 1882, are accountable to the office of
the Public Trustee, which in turn reports to the Charity Commissioner, that enforces provisions of the
Indian Trusts Act.
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AMFI
Association of mutual funds in India incorporated in august 1995 is the umbrella body of all the
mutual funds registered with SEBI. It is non-profit organizations committed to develop the Indian
mutual fund industry on professional, healthy and ethical lines and to enhance and maintain
standards in all areas with a view to protecting and promoting the interests of mutual funds and their
unit holders.
AMFI is an industry association, not an SRO, so it can just issue guidelines to members. It cannot
enforce regulations.
Objectives
• To promote the interests of mutual funds and unit holders.
• To set ethical, commercial and professional standards in the industry.
• To increase public awareness of the mutual fund industry.
AMFI is a governed by a board of directors elected from mutual fund and is headed by a full time
chairman. The association of Mutual Funds in India (AMFI) is dedicated to developing the Indian
Mutual Fund industry on professional, healthy and ethical lines and to enhance and maintain
standard in all areas with a view to protecting and promoting the interests of mutual fund and their
unit holders by AMFI.
AGNI-AMFI Guidelines &Norms for Intermediaries
Intermediaries / Distributors play a vital role in promoting sales of mutual fund scheme. AMFI has
therefore taken the initiative of developing a cadre of trained professional intermediaries.
Intermediaries consisting of individual agents, brokers, distribution houses and banks engaged in
selling of mutual fund products. As of now do not have any guidelines or regulatory framework
relating to the business of selling mutual funds. It is important and necessary that these
intermediaries follow professional and healthy practices. AMFI has therefore prepared guidelines for
intermediaries called AMFI guidelines and norms for intermediaries (AGNI).
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Ministry of finance
Ministry of finance is the supervisor of both RBI and SEBI. Aggrieved parties can make appeals to
the MOF on the SEBI ruling relating to the mutual funds.
Self regulating organization
A self regulatory organization is a 2nd
tier regulatory organization created by market participants to
regulate the working of an industry or profession. If the SRO is registered with the regulatory
authority, it obtains certain powers from the regulatory authority. The regulatory authority could be
applied in addition to some form of government regulation, or it could fill the vacuum of an absence
of government oversight and regulation. For example the stock changes are regulated by SEBI. But
they are registered SRO’s. It means SEBI is a frontline regulator and SRO is a sub regulator that
reduces the burden of SEBI.
An SRO is a non-governmental organization that has a power to create and enforce industry
regulations and standards. The priority is to protect investors through the establishment of rules that
promote ethics and equality.
Stock exchanges are registered SRO’s. AMFI is also trying to get registration form SEBI to become
an SRO and SEBI is also working on it.
RISKS ASSOCIATED WITH MUTUAL FUNDS
Mutual funds and securities investment are subject to various risks and there is no assurance that a
scheme objective will be achieved. These risks should be properly understood by investors so that
they can understand how much risky their investment avenue is. Equity and fixed income bearing
securities have different risks associated with them. Various risks associated with mutual funds can
be described as below.
Risk associated to fixed income bearing securities are:
Interest rate risk - As with all the securities, changes in interest rates may affect the schemes Net
Asset Value (NAV) as the prices of the securities generally increase as interest rates decline and
generally decrease as interest rates rise. Prices of long-term securities generally fluctuate more in
response to interest rates changes than short term securities do. Indian Debt markets can be volatile
leading to the possibility of price movements up or down in the fixed income securities and thereby
to the possible movements in the NAV.
Liquidity or marketable risk - This refers to the ease with which a security can be sold at near to its
valuation yield to maturity. The primary measure of liquidity risk is the spread between the bid price
and the offer price quoted by the dealer. Liquidity risk is inherent to the Indian Debt market.
34

Credit risk - Credit risk or default risk refers to the risk that an issuer of fixed income security may
default (i.e., will be unable to make timely principal and interest payments on the security). Because
of this risk corporate debentures are sold at a yield above those offered on Government securities,
which are sovereign obligations and free of credit risk. Normally the value of fixed income security
will fluctuate depending upon the perceived level of credit risks well as the actual event of default.
The greater the credit risk the greater the yield require for someone to be compensated for increased
risk.
Risk associated to equities
Market risk – The NAV of the scheme investing in equity will fluctuate as the daily prices of the
individual securities in which they invest fluctuate and the units when redeemed may be worth more
or less than the original cost.
Timing the market – It is difficult to identify which is the right time to invest and which is the right
time to take out the money. There may be situations where stocks may not be rightly timed according
to the market leading to loss in the value of scheme.
Liquidity - Investment made in unlisted equities or equity related securities might only be realizable
upon the listing of the securities. Settlement problems could cause the scheme to miss certain
investment opportunities.
CALCULATION OF NAV
Risk Hierarchy of Different Mutual Funds
Thus, different mutual fund schemes are exposed to different levels of risk and investors should
know the level of risks associated with these schemes before investing. The graphical representation
here under provides a clearer picture of the relationship between mutual funds and levels of
35

risk associated with these funds:
RISK V/S. RETURN
Evaluation Parameters
Following are the evaluation parameters on the basis of which the analysis and comparison of
various schemes is done.
Net Asset Value (NAV)
The value of a collective investment fund based on the market price of securities held in its portfolio.
NAV per share is calculated by dividing net assets of the scheme /number of Units outstanding.
Assets under Management
36

It is used to gauge how much money a fund is managing. Mutual Funds use this as a measure of
success and comparison against their competitors; in lieu of revenue or total revenue they use total
'assets under management'.
The difference between two AUM balances consists of market performance gains/(losses), foreign
exchanges movements, net new assets (NNA) inflow/(outflow) and structural effects of the company.
Investors are mainly interested in the NNA, which indicate how much money from clients had been
newly invested. Furthermore, it's common to calculate the key figure 'NNA growth', which shows the
NNA in relation of the previous AUM balance (annualized).
Expense Ratio
Expense ratio states how much you pay a fund in percentage term every year to manage your money.
For example, if you invest Rs 10,000 in a fund with an expense ratio of 1.5 per cent, then you are
paying the fund Rs 150 to manage your money. In other words, if a fund earns 10 per cent and has a
1.5 per cent expense ratio, it would mean an 8.5 per cent return for an investor. Funds' NAVs are
reported net of fees and expenses; therefore, it is necessary to know how much the fund is deducting.
Since this is charged regularly (every year), a high expense ratio over the long-term may eat into
your returns massively through power of compounding. Different funds have different expense
ratios. But the Securities & Exchange Board of India has stipulated a limit that a fund can charge.
Equity funds can charge a maximum of 2.5 per cent, whereas a debt fund can charge 2.25 per cent of
the average weekly net assets.
The largest component of the expense ratio is management and advisory fees. From management fee
an AMC generates profits. Then there are marketing and distribution expenses. All those involved in
the operations of a fund like the custodian and auditors also get a share of the pie. Interestingly,
brokerage paid by a fund on the purchase and sale of securities is not reflected in the expense ratio.
Funds state their buying and selling price after taking the transaction cost into account. Recently,
funds have launched institutional plans for big-ticket investors, where the expense ratio is relatively
lower than normal funds. This is because the cost of servicing is low due to larger investment
amount, which means lower expenses. A lower expense ratio does not necessarily mean that it is a
better-managed fund. A good fund is one that delivers a good return with minimal expenses.
Portfolio Turnover
Each buys and sell transaction in the stock markets involves a brokerage cost. This brokerage cost
has to be borne by the mutual fund, which in turn passes it on to its investors. So investors have to
pay for the trading carried out by the fund on their behalf. Obviously, higher the volume of trading,
greater will be the associated costs. And greater trading costs can definitely reduces returns. So how
does one know how much the fund manager is trading? The answer to this question is provided by
the turnover ratio. The turnover ratio represents the percentage of a fund's holdings that change every
year. To put it simply, a turnover rate of 100 per cent implies that the fund manager has replaced his
entire portfolio during the period given. Higher the turnover ratio, greater is the volume of trading
carried out by the fund.
37

Is a high turnover bad? Well, that depends on what it achieves. If high turnover can generate high
returns, then there should be no problems. The problem arises when a fund is trading heavily and not
generating commensurate returns. The turnover ratio is more important for equity funds where the
trading cost of equities is substantial. So, each time a fund manager buys and sells, he has to keep in
mind that the cost of buying and selling will eat into the fund's returns.
Standard Deviation
Standard deviation is a measure of total risks of a fund. In other words it measures the volatility of
returns of a fund. It indicates the tendency of the fund’s NAV to rise and fall in a short period. It
measures the extent to which the NAV fluctuates as compared to the average returns during a period.
A fund that has a consistent four –year return of 3% for example would have a mean or average, of
3%. The standard deviation for this fund would then be zero because the fund's return in any given
year does not differ from its four year mean of 3%. On the other hand, a fund that in each of the last
four years returned -5%, 17%, 2%, and 30% will have a mean return of 11%. The fund will also
exhibit a high standard deviation because each year the return of the fund differs from the mean
return. The fund is therefore more risky because it fluctuates widely between negative and positive
returns within a shorter period. A higher standard deviation means that the returns of the fund have
been more volatile than a fund having low standard deviation. In other words high standard deviation
means high risk.
Sharpe Ratio
The Sharpe ratio represents tradeoff between risk and returns. At the same time it also factors in the
desire to generate returns, which are higher than those from risk free returns. Mathematically the
Sharpe ratio is the returns generated over the risk free rate, per unit of risk. Risk in this case is taken
to be the fund's standard deviation. As standard deviation represents the total risk experienced by a
fund, the Sharpe ratio reflects the returns generated by undertaking all possible risks. It is thus one
single number, which represents the tradeoff between risks and returns. A higher Sharpe ratio is
therefore better as it represents a higher return generated per unit of risk.
Sharpe ratio provides an unbiased look into fund's performance. This is because they are based solely
on quantitative measures. However, these do not account for any risks inherent in a fund’s portfolio.
For example, if a fund is loaded with technology stocks and the sector is performing well, then all
quantitative measures will give such a fund high marks. But the possibility of the sector crashing and
with it the fund sinking is not calculated. In view of these possibilities quantitative tools should be
used along with information on the nature of the funds strategies, its fund management style and risk
inherent in the portfolio. Quantitative tools can be used for screening but they should not be the only
indicator of a fund's performance.
The Sharpe ratio is one of the most useful tools for determining a fund's performance. This measure
is used the world over and there is no reason why you as an in investor should not use it.
38

Beta
Beta is a statistical measure that shows how sensitive a fund is to market moves. If the Sensex moves
by 25 per cent, a fund's beta number will tell you whether the fund's returns will be more than this or
less. The beta value for an index itself is taken as one. Equity funds can have beta values, which can
be above one, less than one or equal to one. By multiplying the beta value of a fund with the
expected percentage movement of an index, the expected movement in the fund can be determined.
Thus if a fund has a beta of 1.2 and the market is expected to move up by ten per cent, the fund
should move by 12 per cent (obtained as 1.2 multiplied by 10). Similarly, if the market loses ten per
cent, the fund should lose 12 per cent.
Each dot represents a fund's returns plotted against the market returns in the same period. The line is
the beta of these returns. While the beta is same in both, it is far more representative of the returns in
the left graph then right one. This shows that a fund with a beta of more than one will rise more than
the market and also fall more than market. Clearly, if you would like to beat the market on the
upside, it is best to invest in a high-beta fund. But you must keep in mind that such a fund will also
fall more than the market on the way down.
Similarly, a low-beta fund will rise less than the market on the way up and lose less on the way
down. When safety of investment is important, a fund with a beta of less than one is a better option.
Such a fund may not gain much more than the market on the upside; it will protect returns better
when market falls.
Essentially, beta expresses the fundamental trade-off between minimizing risk and maximizing
return. A fund with a beta of 1 will historically move in the same direction of the market. A beta
above 1 is more volatile than the overall market, while a beta below 1 is less volatile. So while you
can expect a high return from a fund that has a beta of 2, you will have to expect it to drop much
more when the market falls. The effectiveness of the beta depends on the index used to calculate it. It
can happen that the index bears no correlation with the movements in the fund.
R-squared
But the problem with beta is that it depends on the index used to calculate it. It can happen that the
index bears no correlation with the movements in the fund. Thus, if beta is calculated for large cap
fund against a mid-cap index, the resulting value will have no meaning. This is because the fund will
39

not move in tandem with the index. Due to this reason, it is essential to take a look at a statistical
value called R-squared along with beta. The R-squared value shows how reliable the beta number is.
R-squared values range between 0 and 100, where 0 represents the least correlation and 100
represents full correlation. If a fund's beta has an R-squared value that is close to 100, the beta of the
fund should be trusted. On the other hand, an R-squared value that is close to 0 indicates that the beta
is not particularly useful because the fund is being compared against an inappropriate benchmark.
Thus, an index fund investing in the Sensex should have an R-squared value of one when compared
to the Sensex. For equity diversified funds, an R-squared value greater than 0.8 is generally accepted
to mean that the underlying beta value is reliable and can be used for the fund.
P/E Ratio
A valuation ratio of a company's current share price compared to its per-share earnings. It is
calculated as:
Also sometimes known as "price multiple" or "earnings multiple". Companies with higher growth
rates command higher P/E ratios. Confidence that a company will improve its profitability or remain
profitable generally results in a higher P/E ratio. If profits are threatened or weak, the P/E ratio is
likely to drop.
P/B Ratio
A ratio used to compare a stock's market value to its book value. It is calculated by dividing the
current closing price of the stock by the latest quarter's book value per share. It is also called as
"Price to Equity Ratio". It is calculated as:
A lower P/B ratio could mean that the stock is undervalued. However, it could also mean that
something is fundamentally wrong with the company. As with most ratios, this varies by industry.
This ratio also gives some idea of whether you're paying too much for what would be left if the
company went bankrupt immediately.
Concept of SYSTEMATIC INVESTMENT PLAN
An SIP is a method of investing a fixed sum, on a regular basis, in a mutual fund scheme. It is similar
to regular saving schemes like a recurring deposit. An SIP allows one to buy units on a given date
each month, so that one can implement a saving plan for themselves. A SIP can be started with as
small as Rs 500 per month in ELSS schemes to Rs 1,000 per month in diversified equity schemes.
Buy low sell high, just four words sum up a winning strategy for the stock markets. But timing the
market is not easy for everyone. In timing the markets one can miss the larger rally and may stay out
40

while the markets were doing well. Therefore, rather than timing the market, investing month after
month will ensure that one is invested at the high and the low, and make the best out of an
opportunity that could be tough to predict in advance.
How to invest in SIPs?
 The SIP option is available with all types of funds like equity, income or gilt.
 An investor can avail the SIP option by giving post-dated cheques of Rs 500 or Rs 1,000
according to the funds’ policy.
 If an investor wants to put more than Rs 500 or Rs 1,000 in any given month he will have to
fill in a new a form for SIP intimating the fund that he is changing his SIP structure. Also he
will be allowed to change the SIP structure only in the multiples of the SIP amount.
 If an investor is investing in two different schemes of the same fund he can fill in a common
SIP form for all the schemes. However if the first holders in those schemes are different than
they will have to fill different SIP forms, as the first holder has to sign on the form.
 The investor can get out of the fund i.e. redeem his units any time irrespective of whether he
has completed his minimum investment in that scheme. In such a case his post-dated cheques
will be returned back to him.
Investment in fund 'X' of Mr. Rahul
Period Investment(Rs) NAV(Rs per unit) Units allocated
20th May'09 500.0 10.0 50.0
20th June,09 500.0 13.0 38.5
20th July'09 500.0 10.5 47.6
20th Aug'09 500.0 9.5 52.6
20th Sep'09 500.0 8.0 62.5
Total a=2,500 b=251.2
Actual average NAV (Rs.) = Rs 10.2 per unit
NAV for Rahul= Rs 9.95 per unit (a/b)
The above table shows clearly how rupee cost averaging works and how it was beneficial to ‘Rahul’.
The actual average NAV of a fund is Rs 10.2/- per unit, but the average NAV for ‘Rahul’ is Rs 9.95/-
per unit, which is lower than the current NAV.
An investor who is not having a lump-sum amount to invest and also does not want to take much risk
on his investment should always select a ‘Systematic Investment Plan’ option. This will enable him
to invest regularly i.e. improve investing discipline. Also, the investor stands to benefit from rupee
cost averaging.
41

Key benefits of SIP
Light on the wallet - If you cannot put aside large sums of money as investment on a monthly basis,
the SIP route will trigger your mutual fund investment with an amount as low as Rs 500.
Makes market timing irrelevant - Most investors are not experts on stocks and are even more out-of-
sorts with stock market oscillations. With an SIP investment, disciplined investing over the long term
sees to it that an investor is not guided by the market-timing strategy.
Helps you build for the future - Most of us have needs that involve significant amounts of money,
like child´ s education, daughter’s marriage, buying a house or a car. By saving a small amount every
month through SIPs for some purpose, you actually subscribe to a far more scientific process of
building wealth.
Compounds returns - The early bird gets the worm is not just a part of the jungle folklore. Even the
‘early’ investor gets a lion’s share of the investment booty vis-à-vis the investor who comes in later.
This is mainly due to a thumb rule of finance called compounding′. By starting early, you give more
time for your investment to perform for you, leaving you with a sizably larger corpus compared to
the late investor.
Rupee cost averaging: the investors going for Systematic Investment Plans (SIP) and Systematic
Transfer Plans (STP) may enjoy the benefits of RCA (Rupee Cost Averaging). Rupee cost averaging
allows an investor to bring down the average cost of buying a scheme by making a fixed investment
periodically, like Rs 5,000 a month and nowadays even as low as Rs. 500 or Rs. 100. In this case, the
investor is always at a profit, even if the market falls. In case if the NAV of fund falls, the investors
can get more number of units and vice-versa. This results in the average cost per unit for the investor
being lower than the average price per unit over time.
The investor needs to decide on the investment amount and the frequency. More frequent the
investment interval, greater the chances of benefiting from lower prices. Investors can also benefit by
increasing the SIP amount during market downturns, which will result in reducing the average cost
and enhancing returns. Whereas STP allows investors who have lump sums to park the funds in a
low-risk fund like liquid funds and make periodic transfers to another fund to take advantage of
rupee cost averaging.
Rebalancing: Rebalancing involves booking profit in the fund class that has gone up and investing
in the asset class that is down. Trigger and switching are tools that can be used to rebalance a
portfolio. Trigger facilities allow automatic redemption or switch if a specified event occurs. The
trigger could be the value of the investment, the net asset value of the scheme, level of capital
appreciation, level of the market indices or even a date. The funds redeemed can be switched to other
specified schemes within the same fund house. Some fund houses allow such switches without
charging an entry load.
42

To use the trigger and switch facility, the investor needs to specify the event, the amount or the
number of units to be redeemed and the scheme into which the switch has to be made. This ensures
that the investor books some profits and maintains the asset allocation in the portfolio.
Diversification: Diversification involves investing the amount into different options. In case of
mutual funds, the investor may enjoy it afterwards also through dividend transfer option. Under this,
the dividend is reinvested not into the same scheme but into another scheme of the investor's choice.
For example, the dividends from debt funds may be transferred to equity schemes. This gives the
investor a small exposure to a new asset class without risk to the principal amount. Such transfers
may be done with or without entry loads, depending on the MF's policy.
Tax efficiency: tax factor acts as the “x-factor” for mutual funds. Tax efficiency affects the final
decision of any investor before investing. The investors gain through either dividends or capital
appreciation but if they haven’t considered the tax factor then they may end loosing.
Debt funds have to pay a dividend distribution tax of 12.50 per cent (plus surcharge and education
cess) on dividends paid out. Investors who need a regular stream of income have to choose between
the dividend option and a systematic withdrawal plan that allows them to redeem units periodically.
SWP implies capital gains for the investor.
If it is short-term, then the SWP is suitable only for investors in the 10-per-cent-tax bracket.
Investors in higher tax brackets will end up paying a higher rate as short-term capital gains and
should choose the dividend option.
If the capital gain is long-term (where the investment has been held for more than one year), the
growth option is more tax efficient for all investors. This is because investors can redeem units using
the SWP where they will have to pay 10 per cent as long-term capital gains tax against the 12.50 per
cent DDT paid by the MF on dividends.
All the tools discussed over here are used by all the advisors and have helped investors in reducing
risk, simplicity and affordability. Even then an investor needs to examine costs, tax implications and
minimum applicable investment amounts before committing to a service.
OPTIONS AVAILABLE TO INVESTORS
Each plan of every mutual fund has three options – Growth, Dividend and dividend reinvestment.
Separate NAV are calculated for each scheme.
Dividend Option
Under the dividend plan dividend are usually declared on quarterly or annual basis. Mutual fund
reserves the right to change the frequency of dividend declared.
Dividend reinvestment option
Instead of remittances of units through payouts, Units holder may choose to invest the entire
dividend in additional units of the scheme at NAV related prices of the next working day after the
record date. No sales or entry load is levied on dividend reinvest.
Growth Option
43

Under this plan returns accrue to the investor in the form of capital appreciation as reflected in the
NAV. The scheme will not declare the dividend under the Growth plan and investors who opt for this
plan will not receive any income from the scheme. Instead of income earned on their units will
remain invested within the scheme and will be reflected in the NAV
ANATOMY OF TAX
The tax treatment in the mutual fund is categorized on the basis of:
1. Equity and Debt funds
2. Long term and Short term
3. Dividend and Capital Income
Classification of Mutual funds for taxation:
TAX PROVISION FOR EQUITY ORIENTED FUNDS
44
MUTUAL FUND
INDIAN
EQUITY >65%
OTHERS
EQUITY > 65%
DIVIDENDS CAPITAL
GAINS
INVESTO
R
DDT LONG
TERM
SHORT
TERM
TAX FREE NIL 10%
TAX FREE

Equity, Debt and the tax impact
Equity oriented funds are those funds where more than 65 per cent of the corpus is invested in stocks
of Indian companies. Debt funds are those which invest more than 65 per cent in the debt market.
Now let’s say we hold the units of equity scheme for more than a year, in that case you are eligible
for long term capital gains, which is zero. In other words, you pay no tax. But if you sell the units
within a year, you have to pay short- term capital gains.
In the case of debt funds, if you sell the units after a year, you will have to pay a long- term capital
gains tax, either with or without indexation, whichever is lower. Indexation is used to calculate tax
when inflation is taken into account. This is good because it reduces the amount of capital gain and
subsequently, the amount you end up paying as tax. If you sell the units within a year, the short term
capital gain will be clubbed with the income of the individual investor, to be taxed as per the
prevailing slab system.
Securities Transaction Tax of 0.25% will be deducted by the Mutual Fund on redemption or switch
from any equity oriented fund.
45
CAPITAL GAINSDIVIDENDS
DDT
INVEST
OR
SHORT
TERM
LONG
TERM
TAX FREE
INDIVIDUAL
AND HUF
14.025%
Others
22.44%
AS PER TAX
SLAB
TWO
OPTIONS
EQUITY>65%
10%
20%
after
indexati
on

C. Major Companies:
The major players of the Indian Mutual Fund Industry are:
The concept of mutual funds in India dates back to the year 1963. The era between 1963 and 1987
marked the existence of only one mutual fund company in India with Rs. 67bn assets under
management (AUM), by the end of its monopoly era, the Unit Trust of India (UTI). By the end of the
80s decade, few other mutual fund companies in India took their position in mutual fund market.
The new entries of mutual fund companies in India were SBI Mutual Fund, Canbank Mutual Fund,
Punjab National Bank Mutual Fund, Indian Bank Mutual Fund, Bank of India Mutual Fund.
The succeeding decade showed a new horizon in Indian mutual fund industry. By the end of 1993,
the total AUM of the industry was Rs. 470.04 bn. The private sector funds started penetrating the
fund families. In the same year the first Mutual Fund Regulations came into existence with re-
registering all mutual funds except UTI. The regulations were further given a revised shape in 1996.
Kothari Pioneer was the first private sector mutual fund company in India which has now merged
with Franklin Templeton. Just after ten years with private sector players penetration, the total assets
rose up to Rs. 1218.05 bn. Today there are 33 mutual fund companies in India.
Reliance Mutual Fund
The sponsor of Reliance Mutual Fund is Reliance Capital Limited and Reliance Capital Trustee Co.
Limited is the Trustee. It was registered on June 30, 1995 as Reliance Capital Mutual Fund which
was changed on 11th
March, 2004. Today reliance is the market leader in the mutual fund industry.
The approach of the AMC is very aggressive. The AUM of Reliance MF is approximately Rs. 71094
Crores
46

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