Bajaj Capital Ltd.

What are Mutual Funds?

A Mutual Fund is a trust that pools together the savings of a number of investors who share a common financial goal. The fund manager invests this pool of money in securities -- ranging from shares and debentures to money market instruments or in a mixture of equity and debt, depending upon the objectives of the scheme.

Why choose Mutual Funds?

Investing in Mutual Funds offers several benefits:

• Professional expertise: Fund managers are professionals who track the market on an on-going basis. With their mix of professional qualification and market knowledge, they are better placed than the average investor to understand the markets
• Diversification: Since a Mutual Fund scheme invests in number of stocks and/or debentures, the associated risks are greatly reduced.
• Relatively less expensive: When compared to direct investments in the capital market, Mutual Funds cost less. This is due to savings in brokerage costs, demat costs, depository costs etc.
• Liquidity: Investments in Mutual Funds are completely liquid and can be redeemed at their Net Assets Value-related price on any working day.
• Transparency: You will always have access to up-to-date information on the value of your investment in addition to the complete portfolio of investments, the proportion allocated to different assets and the fund manager's investment strategy.
• Flexibility: Through features such as Systematic Investment Plans, Systematic Withdrawal Plans and Dividend Investment Plans, you can systematically invest or withdraw funds according to your needs and convenience.
• SEBI regulated market: All Mutual Funds are registered with SEBI and function within the provisions and regulations that protect the interests of investors. AMFI is the supervisory body of the Mutual Funds industry.

Types of Funds

• Diversified Equity Mutual Fund Scheme
  A mutual fund scheme that achieves the benefits of diversification by investing in the stocks of companies across a large number of sectors. As a result, it minimizes the risk of exposure to a single company or sector.
• Sectoral Equity Mutual Fund Scheme
  A mutual fund scheme which focuses on investments in the equity of companies across a limited number of sectors -- usually one to three.
• Index Funds
  These funds invest in the stocks of companies, which comprise major indices such as the BSE Sensex or the S&P CNX Nifty in the same weightage as the respective indice.
• Equity Linked Tax Saving Schemes (ELSS)
  Mutual Fund schemes investing predominantly in equity, and offering tax deduction to investors under section 80 C of the Income Tax Act. Currently rebate u/s 80C can be availed up to a maximum investment of Rs 1,00,000. A lock-in of 3 years is mandatory.
• Monthly Income Plan Scheme
  A mutual fund scheme which aims at providing regular income (not necessarily monthly, don't get misled by the name) to the unit holder, usually by way of dividend, with investments predominantly in debt securities (upto 95%) of corporates and the government, to ensure regularity of returns, and having a smaller component of equity investments (5% to 15%)to ensure higher return.
• Income schemes
  Debt oriented schemes investing in fixed income securities such as bonds, corporate debentures, Government securities and money market instruments.
• Floating-Rate Debt Fund
  A fund comprising of bonds for which the interest rate is adjusted periodically according to a predetermined formula, usually linked to an index.
• Gilt Funds -These funds invest exclusively in government securities.
• Balanced Funds
  The aim of balanced funds is to provide both growth and regular income as such schemes invest both in equities and fixed income securities in the proportion indicated in their offer documents. They generally invest 40-60% in equity and debt instruments.
• Fund of Funds
  A Fund of Funds (FoF) is a mutual fund scheme that invests in other mutual fund schemes. Just as fund invests in stocks or bonds on your behalf, a FoF invests in other mutual fund schemes.

Snapshot of Mutual Fund Schemes

Mutual Fund Type	Objective	Risk	Investment Portfolio	Who should invest	Investment horizon
Money Market	Liquidity + Moderate Income + Reservation of Capital	Negligible	Treasury Bills, Certificate of Deposits, Commercial Papers, Call Money	Those who park their funds in current accounts or short-term bank deposits	2 days - 3 weeks
Short-term Funds (Floating - short-term)	Liquidity + Moderate Income	Little Interest Rate	Call Money, Commercial Papers, Treasury Bills, CDs, Short-term Government securities.	Those with surplus short-term funds	3 weeks - 3 months
Bond Funds (Floating - Long-term)	Regular Income	Credit Risk & Interest Rate Risk	Predominantly Debentures, Government securities, Corporate Bonds	Salaried & conservative investors	More than 9 - 12 months
Gilt Funds	Security & Income	Interest Rate Risk	Government securities	Salaried & conservative investors	12 months & more
Equity Funds	Long-term Capital Appreciation	High Risk	Stocks	Aggressive investors with long term out look.	3 years plus
Index Funds	To generate returns that are commensurate with returns of respective indices	NAV varies with index performance	Portfolio indices like BSE, NIFTY etc	Aggressive investors.	3 years plus

How to choose the right Mutual Fund scheme

Once you are comfortable with the basics, the next step is to understand your investment choices, and draw up your investment plan relevant to your requirements. Choosing your investment mix depends on factors such as your risk appetite, time horizon of your investment, your investment objectives, age, etc.

What should be kept in mind before investing in Mutual Funds ?
Mutual Fund investment decisions require consistent effort on the part of the investor. Before investing in Mutual Funds, the following steps must be given due weightage to decide on the right type of scheme:
1. Identifying the Investment Objective

1. 2. Selecting the right Scheme Category
2. 3. Selecting the right Mutual Fund
3. 4. Evaluating the Portfolio

A) Identifying the Investment Objective
Your financial goals will vary, based on your age, lifestyle, financial independence, family commitments, level of income and expenses, among many other factors. Therefore, the first step is to assess you needs. Begin by asking yourself these simple questions:

Why do I want to invest?
The probable answers could be:

1. "I need a regular income"
2. "I need to buy a house/finance a wedding"
3. "I need to educate my children," or
4. A combination of all the above

How much risk am I willing to take?
The risk-taking capacity of individuals vary depending on various factors. Based on their risk bearing capacity, investors can be classified as:

1. Very conservative
2. Conservative
3. Moderate
4. Aggressive
5. Very Aggressive

To ascertain your risk appetite, try out our Risk Thermometer.
What are my cash flow requirements?
For example, you may require:

1. A regular Cash Flow
2. A lumpsum after a fixed period of time for some specific need in the future
3. Or, you may have no need for cash, but you may want to create fixed assets for the future

B) Selecting the scheme category
The next step is to select a scheme category that matches your investment objectives:

1. For Capital Appreciation go for equity sectoral funds, equity diversified funds or balanced funds.
2. For Regular Income and Stability you should opt for income funds/MIPs
3. For Short-Term Parking of Funds go for liquid funds, floating rate funds, short-term funds.
4. For Growth and Tax Savings go for Equity-Linked Savings Schemes.

Investment Objective	Investment horizon	Ideal Instruments
Short-term Investment	1- 6 months	Liquid/Short-term plans
Capital Appreciation	Over 3 years	Diversified Equity/ Balanced Funds
Regular Income	Flexible	Monthly Income Plans / Income Funds
Tax Saving	3 yrs lock-in	Equity-Linked Saving Schemes (ELSS)

C) Selecting the right Mutual fund Once you have a clear strategy in mind, you now have to choose which Mutual fund and scheme you want to invest in. The offer document of the scheme tells you its objectives and provides supplementary details like the track record of other schemes managed by the same Fund Manager. Some important factors to evaluate before choosing a particular Mutual Fund are:
The track record of performance over that last few years in relation to the appropriate yardstick and similar funds in the same category.
How well the Mutual Fund is organized to provide efficient, prompt and personalized service. The degree of transparency as reflected in frequency and quality of their communications.

D) Evaluation of portfolio
Evaluation of equity fund involve analysis of risk and return, volatility, expense ratio, fund manager's style of investment, portfolio diversification, fund manager's experience. Good equity fund should provide consistent returns over a period of time. Also expense ratio should be within the prescribed limits. These days fund house charge around 2.50% as management fees.
Evaluation of bond funds involve it's assets allocation analysis, return's consistency, it's rating profile, maturity profile, and it's performance over a period of time. The bond fund with ideal mix of corporate debt and gilt fund should be selected.

How to calculate the growth of your Mutual Fund investments ?

Let's assume that Mr. Gupta has purchased Mutual Fund units worth Rs. 10,000 at an NAV of Rs. 10 per unit on February 1. The Entry Load on the Mutual Fund was 2%. On September 15, he sold all the units at an NAV of Rs 20. The exit load was 0.5%.

His growth/ returns is calculated as under:

• 1. Calculation of Applicable NAV and No. of units purchased:
  
  1. Amount of Investment = Rs. 10,000
  2. Market NAV = Rs. 10
  3. Entry Load = 2% = Rs. 0.20
  4. Applicable NAV (Purchase Price) = (b) + (c) = Rs. 10.20
  5. Actual Units Purchased = (a) / (d) = 980.392 units

• 2. Calculation of NAV at the time of Sale
  
  1. NAV at the time of Sale = Rs 20
  2. Exit Load = 0.5% or Rs.0.10
  3. Applicable NAV = (a) – (b) = Rs. 19.90
• 3. Returns/Growth on Mutual Funds
  
  1. Applicable NAV at the time of Redemption = Rs. 19.90
  2. Applicable NAV at the time of Purchase = Rs. 10.20
  3. Growth/ Returns on Investment = {(a) – (b)/(b) * 100} = 95.30%

Points to Remember

• Do not speculate: Always evaluate risk-taking capacity.
• Do not chase returns: Because what goes up must come down.
• Do not put all eggs in one basket: Diversification reduces the risk.
• Do not stop working on Mutual Funds: Continuous evaluation of funds is a must.
• Do not time the market: Every time is good for investments.
• Mutual Funds are subject to market risks and there is no assurance that the fund objective will be achieved.
• NAVs fluctuate depending on forces affecting the Capital market.
• Past performance may or may not be sustained in the future.

1. Assets Management Company: A highly regulated organization that pools money from many people into portfolio structured to achieve certain objectives. Typically an AMC manages several funds–open ended/ close ended across several categories- growth, income, balanced. Balanced Fund: A hybrid portfolio of stocks and bonds.
2. Close Ended Fund: They neither issue nor redeem fresh units to investors. Some closed ended funds can be bought or sold over the stock exchange if the fund is listed. Else, investor have to wait till redemption date to exit. Most listed close ended funds trade at discount to the NAV.
3. Open Ended Fund: A diversified and professionally managed scheme, it issues fresh units to incoming investors at NAV plus any applicable sales charge, and it redeems shares at NAV from sellers, less any redemption fees.
4. Entry/ Exit Load: A charge paid when an investor buys/sells a fund. There could be a load at the time of entry or exit, but rarely at both times.
5. Expense Ratio : The annual expenses of the funds, including the management fee, administrative cost, divided by the fund under management.
6. Growth/Equity Fund: A fund holding stocks with good or improving profit prospects. The primary emphasis is on appreciation.
7. Liquidity: The ease with which an investment can be bought or sold. A person should be able to buy or sell a liquid asset quickly with virtually no adverse price impact.
8. Net Assets Value : A price or value of one unit of a fund. It is calculated by summing the current market values of all securities held by the fund, adding the cash and any accrued income, then subtracting liabilities and dividing the result by the number of units outstanding.
9. Interest Rate Risk: The risk borne by fixed-interest securities, and by borrowers with floating rate loans, when interest rates fluctuate. When interest rates rise, the market value of fixed-interest securities declines and vice versa.
10. Credit Risk: Credit risk involves the loss arising due to a customer’s or counterparty’s inability or unwillingness to meet commitments in relation to lending, trading, hedging, settlement and other financial transactions.
11. Capital Market Risk : Capital Market Risk is the risk arising due to changes in the Stock Market conditions.