BLB Institute of financial Markets

“CONSTRUCTION OF MUTUAL FUND PORTFOLIOS”

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ACKNOWLEDGEMENT

We, the members of the Group, hereby declare that we all have taken active

part in the project on given topic “Construction of Mutual Fund Portfolio”.

We all have given equal participation in making this project in the best

possible way.

Contents…

Introduction.

Definition.

Mutual Fund: Concept.

Mutual Fund Cycle.

History.

Organisation of Mutual Fund.

Mutual Fund & Stock.

Types of Mutual Fund.

Net Asset Value.

Advantages of Mutual Fund.

Disadvantages of Mutual Fund.

Frequently Used Terms.

Load & Types of Load.

Mutual Fund Portfolio Construction.

Risk in Mutual Fund.

Structure of Mutual Fund in India.

Growth of Mutual Fund in India.

Future of Mutual Fund in India.

Reasons For slow Growth.

Mutual Fund in India.

Conclusion.

MUTUAL FUNDS

INTRODUCTION:

Nowadays, bank rates have fallen down and are generally below the inflation rate.

Therefore, keeping large amounts of money in bank is not a wise option, as in real terms

the value of money decreases over a period of time. One of the options is to invest the

money in stock market. But a common investor is not informed and competent enough to

understand the intricacies of stock market. This is where mutual funds come to the rescue.

Mutual Fund is an instrument of investing money.

A mutual fund is a group of investors operating through a fund manager to purchase a

diverse portfolio of stocks or bonds. Mutual funds are highly cost efficient and very easy to

invest in. By pooling money together in a mutual fund, investors can purchase stocks or

bonds with much lower trading costs than if they tried to do it on their own. Also, one

doesn't have to figure out which stocks or bonds to buy. But the biggest advantage of

mutual funds is diversification.

Diversification means spreading out money across many different types of investments.

When one investment is down another might be up. Diversification of investment holdings

reduces the risk tremendously.

Different investment avenues are available to investors. Mutual funds also offer good

investment opportunities to the investors. Like all investments, they also carry certain risks.

The investors should compare the risks and expected yields after adjustment of tax on

various instruments while taking investment decisions. The investors may seek advice

from experts and consultants including agents and distributors of mutual funds schemes

while making investment decisions.

THE DEFINITION:

A mutual fund is nothing more than a collection of stocks and/or bonds. You can think of a

mutual fund as a company that brings together a group of people and invests their money

in stocks, bonds, and other securities. Each investor owns shares, which represent a portion

of the holdings of the fund.

You can make money from a mutual fund in three ways:

1) Income is earned from dividends on stocks and interest on bonds. A fund pays out

nearly all of the income it receives over the year to fund owners in the form of a

distribution.

2) If the fund sells securities that have increased in price, the fund has a capital gain. Most

funds also pass on these gains to investors in a distribution.

3) If fund holdings increase in price but are not sold by the fund manager, the fund's shares

increase in price. You can then sell your mutual fund shares for a profit.

Funds will also usually give you a choice either to receive a check for distributions or to

reinvest the earnings and get more shares.

MUTUAL FUNDS: CONCEPT:

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 is 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.

MUTUAL FUND CYCLE:

The flow chart below describes broadly the working of a mutual fund:

Mutual fund is a mechanism for pooling the resources by issuing units to the investors

and investing funds in securities in accordance with objectives as disclosed in offer

document.

Investments in securities are spread across a wide cross-section of industries and sectors

and thus the risk is reduced. Investors of mutual funds are known as ‘unit holders’.

The profits or losses are shared by the investors in proportion to their investments. The

mutual funds normally come out with a number of schemes with different investment

objectives which are launched from time to time. A mutual fund is required to be

registered with Securities and Exchange Board of India (SEBI) which regulates

securities markets before it can collect funds from the public.

HISTORY OF MUTUAL FUNDS:

The mutual fund industry in India started in 1963 with the formation of Unit Trust of

India, at the initiative of the Government of India and Reserve Bank the. The history of

mutual funds in India can be broadly divided into four distinct phases:-

First Phase – 1964-87:- Unit Trust of India (UTI) was established on 1963 by an Act

of Parliament. It was set up by the Reserve Bank of India and functioned under the

Regulatory and administrative control of the Reserve Bank of India. In 1978 UTI was

de-linked from the RBI and the Industrial Development Bank of India (IDBI) took over

the regulatory and administrative control in place of RBI. The first scheme launched by

UTI was Unit Scheme 1964. At the end of 1988 UTI had Rs.6, 700 crores of assets

under management.  

Second Phase – 1987-1993:- (Entry of Public Sector Funds) 1987 marked the entry of

non- UTI, public sector mutual funds set up by public sector banks and Life Insurance

Corporation of India (LIC) and General Insurance Corporation of India (GIC). SBI

Mutual Fund was the first non- UTI Mutual Fund established in June 1987 followed by

Canbank Mutual Fund (Dec 87), Punjab National Bank Mutual Fund (Aug 89), Indian

Bank Mutual Fund (Nov 89), Bank of India (Jun 90), Bank of Baroda Mutual Fund (Oct

92). LIC established its mutual fund in June 1989 while GIC had set up its mutual fund

in December 1990. At the end of 1993, the mutual fund industry had assets under

management of Rs.47, 004 crores.

 

Third Phase – 1993-2003:- (Entry of Private Sector Funds)   With the entry of private

sector funds in 1993, a new era started in the Indian mutual fund industry, giving the

Indian investors a wider choice of fund families. Also, 1993 was the year in which the

first Mutual Fund Regulations came into being, under which all mutual funds, except

UTI were to be registered and governed. The erstwhile Kothari Pioneer (now merged

with Franklin Templeton) was the first private sector mutual fund registered in July

1993.   The 1993 SEBI (Mutual Fund) Regulations were substituted by a more

comprehensive and revised Mutual Fund Regulations in 1996. The industry now

functions under the SEBI (Mutual Fund) Regulations 1996.   The number of mutual

fund houses went on increasing, with many foreign mutual funds setting up funds in

India and also the industry has witnessed several mergers and acquisitions. As at the

end of January 2003, there were 33 mutual funds with total assets of Rs. 1, 21,805

crores. The Unit Trust of India with Rs.44, 541 crores of assets under management was

way ahead of other mutual funds.

Fourth Phase – since February 2003:-   In February 2003, following the repeal of the

Unit Trust of India Act 1963 UTI was bifurcated into two separate entities. One is the

Specified Undertaking of the Unit Trust of India with assets under management of

Rs.29, 835 crores as at the end of January 2003, representing broadly, the assets of US

64 scheme, assured return and certain other schemes. The Specified Undertaking of

Unit Trust of India, functioning under an administrator and under the rules framed by

Government of India and does not come under the purview of the Mutual Fund

Regulations.   The second is the UTI Mutual Fund Ltd, sponsored by SBI, PNB, BOB

and LIC. It is registered with SEBI and functions under the Mutual Fund Regulations.

With the bifurcation of the erstwhile UTI which had in March 2000 more than Rs.76,

000 crores of assets under management and with the setting up of a UTI Mutual Fund,

conforming to the SEBI Mutual Fund Regulations, and with recent mergers taking place

among different private sector funds, the mutual fund industry has entered its current

phase of consolidation and growth. As at the end of September, 2004, there were 29

funds, which manage assets of Rs.153108 crores under 421 schemes.   The graph

indicates the growth of assets over the years.

 

ORGANISATION OF MUTUAL 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.

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).

Mutual Fund Custodian:

A trust company, bank or similar financial institution responsible for holding and

safeguarding the securities owned within a mutual fund. A mutual fund's custodian may

also act as the mutual fund's transfer agent, maintaining records of shareholder

transactions and balances. Also refers to as a "mutual fund corporation".

Since a mutual fund is essentially a large pool of funds from many different investors, it

requires a third-party custodian to hold and safeguard the securities that are mutually

owned by all the fund's investors. This structure mitigates the risk of dishonest activity

by separating the fund managers from the physical securities and investor records.

Sponsor:

Sponsor is the person who acting alone or in combination with another body corporate

establishes a mutual fund. Sponsor must contribute atleast 40% of the net worth of the

Investment Managed and meet the eligibility criteria prescribed under the Securities and

Exchange Board of India (Mutual Funds) Regulations, 1996.The Sponsor is not

responsible or liable for any loss or shortfall resulting from the operation of the

Schemes beyond the initial contribution made by it towards setting up of the Mutual

Fund.

Trust:

The Mutual Fund is constituted as a trust in accordance with the provisions of the

Indian Trusts Act, 1882 by the Sponsor. The trust deed is registered under the Indian

Registration Act, 1908.

Trustee:

Trustee is usually a company (corporate body) or a Board of Trustees (body of

individuals). The main responsibility of the Trustee is to safeguard the interest of the

unit holders and ensure that the AMC functions in the interest of investors and in

accordance with the Securities and Exchange Board of India (Mutual Funds)

Regulations, 1996, the provisions of the Trust Deed and the Offer Documents of the

respective Schemes.

Asset Management Company (AMC):

The AMC is appointed by the Trustee as the Investment Manager of the Mutual Fund.

The AMC is required to be approved by the Securities and Exchange Board of India

(SEBI) to act as an asset management company of the Mutual Fund. The AMC must

have a net worth of at least 10 crore at all times.

Registrar and Transfer Agent :

The AMC if so authorized by the Trust Deed appoints the Registrar and Transfer Agent

to the Mutual Fund. The Registrar processes the application form, redemption requests

and dispatches account statements to the unit holders. The Registrar and Transfer agent

also handles communications with investors and updates investor records.

HOW DO MUTUAL FUNDS AND STOCKS DIFFER?

Whether you’re a first-time stock investor or a seasoned veteran, you should understand

what differentiates single stock investments from mutual fund investing.

First, Some Working Definitions...

Picture a collection of stocks, bonds, or other securities that are purchased by a group

of investors and then managed by an investment company. That’s a mutual fund.

When you buy a share in a fund, you’re really buying a piece of a large, diverse

portfolio.

Conversely, stocks are shares of a single company.

Stocks vs. Funds:

The Management

When it comes to managing an investment, some investors prefer leaving those details

and skills to someone else.

They like having an expert oversee the day-to-day decisions that a changing stock

investment involves and see that as a distinct advantage. A good manager, they might

argue, has access to information that would cost them an exorbitant amount, even if

they had the time and inclination to do the work themselves.

On the other hand, some investors would never surrender control of their investments.

Part of the thrill of investing is knowing that when they succeed it was due to their own

decisions, these investors might say.

Individual comfort level plays a big part in your investment choice.

Diversifying Matters

When one security in a fund drops, an insightful fund manager may have included

stocks that could cushion or offset that loss. Diversification is a big selling factor for

mutual funds.

But that’s not to say that an investor couldn’t diversify via his own stock selections.

Liquidity, Liquidity

Fund investors can cash in on any business day. When you sell a stock, you must wait

three business days before the trade settles and your money is released.

The Issue of Red Tape

Mutual fund investors often cite transaction ease as an inviting factor. And it is hard to

beat the convenience of having records and transactions handled for you, while

periodically receiving a detailed statement of your holdings.

Transacting business with stocks can be a more complicated experience. Placing buy

orders, selling shares, or dictating any number of orders can be time-consuming. To

some, however, that’s just part of the experience.

In summary, fund investors are often attracted by the overall convenience. By way of

contrast, stock investors may tend to be more comfortable with their own investing

skills.

Remember the value of both mutual funds and stocks will fluctuate with the changes in

market conditions, and when sold the investor may receive back more or less than their

original investment amount.

Mutual funds are sold only by prospectus. Please consider the investment

objectives, risks, charges, and expenses carefully before investing. The prospectus,

which contains this and other information about the investment company, can be

obtained from your financial professional. Be sure to read the prospectus carefully

before deciding whether to invest.

TYPES OF MUTUAL FUND SCHEMES:

There are a wide variety of Mutual Fund Schemes that cater to your needs, whatever to

your age, financial position, risk tolerance and return expectations. Whether as the

foundation of your investment programme or as a supplement, Mutual Fund schemes

can help you meet your financial goals.

(A)By Structure

Open-Ended Schemes

These do not have a fixed maturity. You deal directly with the Mutual Fund for your

investments and redemptions. The key feature is liquidity. You can conveniently buy

and sell your units at net asset value ("NAV") related prices.

Close-Ended Schemes

Schemes that have a stipulated maturity period (ranging from 2 to 15 years) are called

close-ended schemes. You can invest directly in the scheme at the time of the initial

issue and thereafter you can buy or sell the units of the scheme on the stock exchanges

where they are listed. The market price at the stock exchange could vary from the

scheme's NAV on account of demand and supply situation, unit holder’s expectations

and other market factors. One of the characteristics of the close-ended scheme is that

they are generally traded at a discount to NAV; but closer to maturity, the discount

narrows.

Some close-ended schemes give you an additional option of selling your units directly

to the Mutual Fund through periodic repurchase at NAV related prices. SEBI

regulations ensure that at least one of the two exit routes are provided to the investor.

Interval Schemes

These combine the features of open-ended and close-ended schemes. They may be

traded on the stock exchange or may be open for sale or redemption during pre-

determined intervals at NAV related prices.

(B)By Investment Objective

Tax Saving Schemes

These schemes offer tax rebates to the investors under tax laws as prescribed from time

to time. This is made possible because the Government offers tax incentives for

investment in specific avenues. For example, Equity Linked Saving Schemes (ELSS)

and Pension Schemes.

Recent amendments to the Income Tax Act provide further opportunities to investors to

save capital gains by investing in Mutual Funds. The detail of such tax savings are

provided in the relevant offer documents.

Ideal for: Investors seeking tax rebates.

Special Schemes

This category includes index schemed that attempt to replicate the performance of a

particular index such as the BSE Sensex or the NSE 50, or the industry specific

schemes(which invest in specific industries) or sectoral schemes(which invest

exclusively in segments such as 'A' Group shares or initial public offerings).

Index fund schemes are ideal for investors who are satisfied with a return approximately

equal to that of an index.

Sectoral fund schemes are ideal for investors who have already decided to invest in a

particular sector or segment.

Keep in mind that anyone scheme may not meet all your requirements for all time. You

need to place your money judiciously in different schemes to be able to get the

combination of growth, income and stability that is right for you.

Remember, as always, higher the return you seek, higher the risk you should be

prepared to take.

"NET ASSET VALUE (NAV): DEFINITION"

Definition: The Net Asset Value, or NAV, is simply a measure of the current rupee

value of one share of a mutual fund. It's the fund's assets minus its liabilities divided

by the number of outstanding shares.

NAV’s are calculated at the end of each trading day. If the NAV increases, then it

means the value of your holdings increase (if you are a shareholder).

Net asset value (NAV):

In simple words, NAV of a mutual fund is nothing but its PRICE PER UINT. The NAV

of mutual fund is to be calculated on a daily basis that is based on its performance with

relation to other mutual funds. Technically speaking NAV of a fund is the cumulative

market value of the assets fund net of its liabilities. In other words, if the fund is

dissolved or liquidated, by selling off all the assets in the fund, this is the amount that

the shareholders would collectively own. This gives rise to the concept of net asset

value per unit, which is the value, represented by the ownership of one unit in the fund.

However, most people refer loosely to the NAV per unit as NAV, ignoring the “per

unit”. NAV is computed on a daily basis for Open-ended funds and on a weekly basis

for Close-ended listed funds whereas for close-ended unlisted funds NAV is computed

once a month or once in 3 month as permitted by SEBI.

Thus, if one sees a fund NAV as Rs. 10, then one can expect to buy the fund for Rs. 10

or sell it for Rs.10 (although some loaded funds don’t follow this logic). Since mutual

funds hold a number of securities, the net asset value must be calculated at the end of

the day on daily basis (as opposed to stocks that change prices by the second).

CALCULATING NET ASSET VALUE (NAV):

Calculating mutual fund net asset values is easy. Simply take the current market value

of the fund's net assets (securities held by the fund minus any liabilities) and divide by

the number of shares outstanding. So if a fund had net assets of Rs. 50 crore and there

are 10 lakh shares of the fund, then the price per share (or NAV) is Rs. 50.00.

The Following Formula Is Utilized For Calculating NAV Per Unit:

NAV = Total Assets – Total Liabilities

Total no. Of outstanding shares

HOW TO USE THE NET ASSET VALUES:

NAV’s are helpful in keeping an eye on your mutual fund's price movement, but

NAV’s are not the best way to keep track of performance. The reason for this is mutual

fund distribution. Mutual funds are forced by law to distribute at least 90% of its'

realized capital gains and dividend income each year. When a fund pays out this

distribution, the NAV drops by the amount paid. This is important because an investor

may become frightened when they see their fund's NAV drop by Rs 3 even though they

haven't lost any money (the Rs. 3 was paid out to the shareholder).

The most important thing to keep in mind is that NAV’s change daily and are not a

good indicator on how your portfolio is doing because things like distributions mess

with the NAV (it also makes mutual funds hard to track).

ADVANTAGES OF MUTUAL FUND:

If mutual fund is emerging as the favorite investment vehicle, it is because of the many

advantages it has over other forms and avenues of investing, particularly for the

investor who has limited resources available in terms of capital and ability to carry out

detailed research and market monitoring. The following are the major advantages

offered by mutual funds to all investors:

1. Professional Management: Even if the investor has a big amount of capital available

to him, he benefits from the professional management skills brought in by the fund in

the management of the investor’s portfolio. The investment skills, along with the

needed research into available investment options, ensure a much better return than

what an investor can manage on his own. Few investors have the skills and resources of

their own to succeed in today’s fast-moving, global and sophisticated markets.

2. Reduction/Diversification of Risk: An investor in a mutual fund acquires a diversified

portfolio, no matter how small his investment. Diversification reduces the risk of loss,

as compared to investing directly in one or two shares or debentures or other

instruments. When an investor invests directly, all the risk of potential loss is his own.

While investing in the pool of funds with other investors, any loss in one or two

securities is also shared by other investors. This risk reduction is one of the most

important benefits of a collective investment vehicle like mutual fund.

3. Reduction in Transaction Costs: What is true of risk is also true of the transaction

costs. A direct investor bears all the costs of investing such as brokerage or custody of

securities. When going through a fund, he has the benefit of economies of scale; the

funds pay lesser costs because of larger volumes, a benefit passed on to its investors.

4. Liquidity: Often investors hold shares or bonds they cannot directly, easily and quickly

sell. Investment in mutual fund, on the other hand, is more liquid. An investor can

liquidate the investment by selling the units to the fund if it is an open-ended fund, or

by selling the units in the stock market if the fund is a closed-ended fund, since closed-

end funds have to be listed on a stock exchange, in any case, the investor in a closed-

ended fund receives the sale proceeds at the end of a period specified by the mutual

fund or the stock exchange.

5. Flexibility: Mutual fund management companies offer many investor services that a

direct market investor cannot get. Within the same fund family, investors can easily

transfer/switch their holdings from one scheme to another. They can also invest or

withdraw their money as regular investors in most open-ended schemes.

6. Convenience: Mutual fund investment process has been made further more convenient

with the facility offered by funds for investors to buy or sell their units through the

internet or email or using other communication means.

7. Regulated Operations: Mutual fund industry is well regulated; all funds are registered

with SEBI, which lays down rules to protect the investors. Thus, investors also benefit

from the safety of a regulated investment environment.

8. Higher Returns: As these funds are well managed and well diversified, they tend to

perform better than market over longer period of time; there is potential for the unit

holders to get better returns compared to fixed income avenues over longer period of

time.

9. Tax Benefits: Mutual funds enjoy tax benefits on the incomes received by them as well

as on capital gains. The unit holders also enjoy certain tax benefit on the income earned,

the capital gains made, and on amount invested in certain types of funds.

10.Transparency: The investors get updated market information from the funds. The fund

managers also share the information about the schemes in the transparent manner, with

all material facts required by regulators to be disclosed to the investors. The NAV’s of

open-ended funds are disclosed on a monthly basis ensuring transparency to the

investors.

DISADVANTAGES OF INVESTING IN MUTUAL FUND:

While the benefits of investing through mutual funds far outweigh the disadvantages, an

investor and his advisor will do well to be aware of a few shortcomings of using the

mutual fund as an investment vehicle.

1. No Control Over Costs: An investor in a mutual fund has any control over the overall

cost of investing. He pays investment management fees as long as he remains with

fund, albeit in return for the professional management and research. Fees are usually

payable as a percentage of the value of his investments, whether the fund value is rising

or declining. A mutual fund investor also pays fund distribution cost, which he would

not incur in direct investing. However, this shortcoming only means that there is a cost

to obtain the benefits of mutual fund services, and this cost is often less than the cost of

direct investing by the investors. Besides, the regulators have prescribed a ceiling on the

maximum expenses that the fund managers can charge to the schemes, thus limiting the

investors’ expense of investing through mutual funds.

2. No Tailor-made Portfolios: Investors who invest on their own can build their own

portfolios of shares, bonds and other securities. Investing through funds means that he

delegates this decision to the fund managers. High-net-worth individuals or large

corporate investors may find this to be a constraint in achieving their objectives.

However, most mutual funds help investor overcome this constraint by offering families

of schemes – a large number of different schemes – within the same fund. In each

schemes there are various plans and options. An investor can choose from different

investment schemes/plans/options and construct an investment portfolio that meets his

investment objectives.

3. Managing a Portfolio of Funds: Availability of a large number of options from mutual

funds can actually mean too much choice for the investor. He may again need advice on

how to select a fund to achieve his objectives, quite similar to the situation when he has

to select individual shares or bonds to invest in. Fortunately, India now has a large

number of AMFI registered and tested fund distributors and financial planners who are

capable of guiding the investors.

THE IMPORTANCE OF DIVERSIFICATION:

We cannot overemphasize the importance of having a well balanced and diversified

mutual fund portfolio. But what does this exactly mean? A total investment of between

$5000 and $6000 could make your portfolio fairly diversified. Even the mutual funds

themselves can be diversified in a variety of investments. The mutual funds that are

better diversified tend to do better than the non-diversified funds. The same is true with

your overall portfolio. In short, diversification provides insurance.

FREQUENTLY USED TERMS:

AMC

A Company formed under the Companies Act and registered with SEBI to manage

investors’ funds collected through different schemes. The trustee delegates the task of

floating schemes and managing the collected money to a company of professionals,

usually experts who are known for smart stock picks. This is an Asset Management

Company (AMC). AMC charges a fee for the services it renders to the MF trust. Thus,

the AMC acts as the investment manager of the trust under the broad supervision and

direction of the trustees.

Unit

A unit in a mutual fund scheme means one share in the assets of a particular scheme. So,

a person holding units in a scheme is referred to, as a unit holder.

Net Asset Value (NAV)

The performance of a particular scheme of a Mutual Fund is denoted by Net Asset

Value (NAV). Mutual Funds invest the money collected from the investors in securities

markets. In simple words, NAV is the market value of the securities held by the

scheme. Since market value of the securities changes everyday, NAV of a scheme also

varies on a day-to-day basis. The NAV per unit is the market value of the securities of a

scheme divided by the total number of units of the scheme on any particular date. For

e.g., if the market value of securities of a mutual fund scheme is Rs. 300 lakhs and the

mutual fund has issued 10 lakhs units of Rs. 10 each to the investors, then the NAV per

unit of the fund is Rs. 30. NAV is required to be disclosed by the mutual funds on a

regular basis-daily or weekly-depending on the type of scheme.

 

Sale Price

It is the price you pay when you invest in a scheme. It is also called as Offer Price. It

may include a Sales or Entry Load.

Repurchase Price

It is the price at which an investor sells back the units to the Mutual Fund. This price is

NAV related and may include the exit load. When an investor chooses to withdraw

money from his investment in an open-ended fund at any point of time, the units are

sold at NAV (after deduction of the Exit Load, if any) to the fund. When a close-ended

fund completes tenure, it is redeemed at the prevailing NAV and investors are paid the

proceeds thereof. It is also called as Bid Price.

Redemption Price

It is the price at which open-ended schemes repurchase their units and close- ended

schemes redeem their units on maturity. Such prices are NAV related.

Statement of Account

A Statement of Account is a document that serves as a record of transactions between

the fund and the investor. It contains details of the investor with the various transactions

executed during he period, i.e., sales, repurchase, switch-over in, switch-over out. The

Statement of Account is issued every time any transaction takes place.

LOAD AND TYPES OF LOAD:

Load is a charge collected by a mutual fund on units.

It is of three types.

Entry Load: When a charge is collected at the time of entering into a scheme it is

called as entry load or front end load or sales load. The entry load percentage is added

to the NA at the time of allotment of units.

Exit Load: An Exit load or Back-end load or repurchase load is a charge that is

collected at the time of redeeming or for transfer between schemes. (Switch). The exit

load percentage is deducted from the NAV at the time of redemption or transfer

between schemes.

Contingent Deferred Sales Load (CDSL): The load amounts charged to units when

recovered at various period of time is called as ‘deferred load’. This load reduces the

redemption proceeds paid out to the outgoing investors. Depending on how many years

the investor stays with the fund, some funds may charge different mounts of loads to the

investor- the longer the investor stays with the fund, lesser is the amount of exit load

charged to him. This is called Contingent the Deferred Sales Charge (CDSC) and

Contingent Deferred Sales Load (CDSL).

Some schemes do not charge any load (i.e. Sell/repurchase at NAV) and are called No

Load Schemes.

LOAD

ENTRY LOAD EXIT LOADCONTINGENT

DEFERRED SALES LOAD (CDSL)

MUTUAL FUND PORTFOLIO CONSTRUCTION

Step One - Identify your investment needs.

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 your needs. Begin by asking yourself these

questions:

1. What are my investment objectives and needs?

Probable Answers: I need regular income or need to buy a home or finance a wedding

or educate my children or a combination of all these needs.

2. How much risk I am willing to take?

Probable Answers: I can only take a minimum amount of risk or I am willing to accept

the fact that my investment value may fluctuate or that there may be a short-term loss in

order to achieve a long-term potential gain.

3. What are my cash flow requirements?

Probable Answers: I need a regular cash flow or I need a lump sum amount to meet a

specific need after a certain period or I don't require a current cash flow but I want to

build my assets for the future.

By going through such an exercise, you will know what you want out of your investment

and can set the foundation for a sound Mutual Fund investment strategy.

Step Two - Choose the right Mutual Fund.

Once you have a clear strategy in mind, you 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 factors to evaluate before choosing a particular Mutual

Fund are:

1) The track record of performance over the last few years in relation to the appropriate

yardstick and similar funds in the same category.

2) How well the Mutual Fund is organized to provide efficient, prompt and personalized

service.

3) Degree of transparency as reflected in frequency and quality of their communications.

Step Three - Select the ideal mix of Schemes.

Investing in just one Mutual Fund scheme may not meet all your investment needs. You

may consider investing in a combination of schemes to achieve your specific goals.

The following tables could prove useful in selecting a combination of schemes that

satisfy your needs.

AGGRESSIVE PLAN

Money Market Schemes 5 %

Income Schemes 10-15%

Balanced Schemes 10-20 %

Growth Schemes 60-70 %

MODERATE PLAN

Money Market Schemes 10 %

Income Schemes 20 %

Balanced Schemes 40-50 %

Growth Schemes 30-40 %

CONSERVATIVE PLAN

Money Market Schemes 10 %

Income Schemes 50-60 %

Balanced Schemes 20-30 %

Growth Schemes 10 %

Step Four - Invest regularly

For most of us, the approach that works best is to invest a fixed amount at specific

intervals, say every month. By investing a fixed sum every month, you buy fewer units

when the price is higher and more units when the price is low, thus bringing down your

average cost per unit. This is called rupee cost averaging and is a disciplined investment

strategy followed by investors all over the world. With many open-ended schemes

offering systematic investment plans, this regular investing habit is made easy for you.

Step Five - Keep your taxes in mind

If you are in a high tax bracket and have utilised fully the exemptions under section 80L

of the Income Tax Act, investing in growth funds that do not pay dividends might be

more tax efficient and improve your post-tax return.

If you are in a low tax bracket and have not utilised fully the exemptions available

under Section 80L of the Income Tax Act, selecting funds paying regular income could

be more tax efficient. Further, there are other benefits available for investment in

Mutual Funds under the provisions of the prevailing tax laws.

You may therefore, consult your tax advisor or Chartered Accountant for specific

advice.

Step Six - Start early

It is desirable to start investing early and stick to a regular investment plan. If you start

now, you will make more than if you wait and invest later. The power of compounding

lets you earn income on income and your money multiplies at the compounded rate of

return.

Step Seven - The final step

All you need to do now is to get a touch with a Mutual Fund or your agent/broker and

start investing. Reap the rewards in the years to come. Mutual Funds are suitable for

every kind of investor - whether starting a career or retiring, conservative or risk-taking,

growth oriented or income seeking.

Mutual Fund Risk:

Risk

Every type of investment, including mutual funds, involves risk.  Risk refers to the

possibility that you will lose money (both principal and any earnings) or fail to make

money on an investment.  A fund's investment objective and its holdings are influential

factors in determining how risky a fund is.  Reading the prospectus will help you to

understand the risk associated with that particular fund. 

Generally speaking, risk and potential return are related. This is the risk/return trade-

off.  Higher risks are usually taken with the expectation of higher returns at the cost of

increased volatility.  While a fund with higher risk has the potential for higher return, it

also has the greater potential for losses or negative returns.  The school of thought when

investing in mutual funds suggests that the longer your investment time horizon is the

less affected you should be by short-term volatility.   Therefore, the shorter your

investment time horizon, the more concerned you should be with short-term volatility

and higher risk.

Following is a glossary of some risks to consider when investing in mutual funds.

Call Risk: - The possibility that falling interest rates will cause a bond issuer to redeem

—or call—its high-yielding bond before the bond's maturity date.

Country Risk: - The possibility that political events (a war, national elections),

financial problems (rising inflation, government default), or natural disasters (an

earthquake, a poor harvest) will weaken a country's economy and cause investments in

that country to decline.

Credit Risk: - The possibility that a bond issuer will fail to repay interest and principal

in a timely manner. Also called default risk.

Currency Risk: - The possibility that returns could be reduced for Americans investing

in foreign securities because of a rise in the value of the U.S. dollar against foreign

currencies. Also called exchange-rate risk.

Income Risk: - The possibility that a fixed-income fund's dividends will decline as a

result of falling overall interest rates.

Industry Risk: - The possibility that a group of stocks in a single industry will decline

in price due to developments in that industry.

Inflation Risk: - The possibility that increases in the cost of living will reduce or

eliminate a fund's real inflation-adjusted returns.

Interest Rate Risk: - The possibility that a bond fund will decline in value because of

an increase in interest rates.

Manager Risk: - The possibility that an actively managed mutual fund's investment

adviser will fail to execute the fund's investment strategy effectively resulting in the

failure of stated objectives.

Market Risk: - The possibility that stock fund or bond fund prices overall will decline

over short or even extended periods. Stock and bond markets tend to move in cycles,

with periods when prices rise and other periods when prices fall.

Principal Risk: - The possibility that an investment will go down in value, or "lose

money," from the original or invested amount.

How do mutual funds earn money?

A mutual fund is a means of investing that enables individuals to share the risks of

investing with other investors. All contributors to the fund experience an equal share of

gains and losses for each dollar invested. A mutual fund owns the securities of several

corporations. A mutual fund pools money from hundreds and thousands of investors to

construct a portfolio of stocks, bonds, real estate, or other securities, according to the

kind of investments the mutual fund trades. Investors purchase shares in the mutual

fund as if it was an individual security. Fund managers hired by the mutual fund

company are paid to invest the money that the investors have placed in the fund.

Heeding the adage "Don't put all your eggs in one basket", the holders of mutual fund

shares are able to gain the advantage of diversification which might be beyond their

financial means individually.

STRUCTURE OF MUTUAL FUNDS IN INDIA

Like other countries, India has a legal framework within which mutual funds

must be constituted. Unlike in the UK, where two distinct structures-‘trust’ and

‘corporate’- are allowed with separate regulations, depending on their nature- open end

or closed end, in India, open end and closed end funds are constituted along one unique

structure- as unit trusts. A mutual fund in India is allowed to issue open-end and closed-

end schemes under a common legal structure. Therefore, a mutual fund may have

several different schemes (open and closed-end) under it i.e; under one unit trust, at any

point of time. However, like the USA; all the funds and their open end and closed end

schemes are governed by the same regulations and the regulatory body, the SEBI.The

structure that is required to be followed by mutual fund in India is laid down under

SEBI(mutual fund) Regulations,1996.

Some facts of the growth of mutual funds in India

100% growth in the last 6 years.

Numbers of foreign AMC’s are in the queue to enter the Indian markets like Fidelity

Investments, US based, with over US$1trillion assets under management worldwide.

Our saving rate is over 23%, highest in the world. Only channelizing these savings in

mutual funds sector is required.

We have approximately 29 mutual funds which are much less than US having more

than 800. There is a big scope for expansion.

'B' and 'C' class cities are growing rapidly. Today most of the mutual funds are

concentrating on the 'A' class cities. Soon they will find scope in the growing cities.

Mutual fund can penetrate rural areas like the Indian insurance industry with simple and

limited products.

SEBI allowing the MF's to launch commodity mutual funds.

Emphasis on better corporate governance.

Trying to curb the late trading practices.

Introduction of Financial Planners who can provide need based advice.

FUTURE OF MUTUAL FUNDS IN INDIA:

By December 2004, Indian mutual fund industry reached Rs.1, 50,537 crore. It is

estimated that by 2010 March-end, the total assets of all scheduled commercial banks

should be Rs. 40, 90,000 crore. The annual composite rate of growth is expected 13.4% during

the rest of the decade. In the last 5 years we have seen annual growth rate of 9%. According to the

current growth rate, by year 2010, mutual fund assets will be double.

Aggregate deposits of Scheduled Com Banks in India (Rs.Crore)

Month/Year Mar-98 Mar-00 Mar-01 Mar-02 Mar-03 Mar-04 Sep-04 4-

Deposits 605410 851593 989141 113118

8

128085

3

- 156725

1

1

Change in %

over last

yr

  15 14 13 12 - 18 3

Mutual Fund AUM’s Growth

Month/YearMar-

98

Mar-

00

Mar-

01

Mar-

02

Mar-

03

Mar-

04Sep-04 4-Dec

MF AUM's 68984 93717 83131 94017 75306 137626 151141 149300

Change in %

over last

yr

  26 13 12 25 45 9 1

Source - AMFI

REASONS FOR SLOW GROWTH OF MUTUAL FINDS IN INDIA:

1. Social Fabric: Indian society is represented by skewed income patterns. Rural India

is far from investible surplus. Whatever surplus a rural native may have, he is not

well informed about investible avenues and mutual funds. Most of the residents of

rural area are unaware of stock market and economics. Mutual funds’ awareness has

a long way to go.

2. Government Players: Private sector entities are aggressive in marketing and reach

more people with efforts. Indian mutual fund industry was with UTI and then with

public sector funds. It is a well known worldwide fact that government owned

entities lack in profit orientation because of excessive job security provided to the

employees and ‘ownership’s [i.e. government’s] profit motive absence’.

Management of these state owned funds mostly vested with these ex-bank managers

and government account officials. They came on transfers or on deputation from the

sponsor banks. They did not have adequate specialized skills to manage funds. Their

performance was dismal in most cases and the industry faced investor confidence

crises for some years. UTI’s US-64 burst also added to the fears.

3. Protected Stock Market Environment: Indian stock market was protected for

several years. Reach and visibility was much less to attract visitors. Physical shares,

manual trust based systems, absence of foreign capital flows, a scam per decade are

some more reasons for investors’ slow and cautious approach towards stock related

[including mutual funds] investments.

4. Regulatory Environment: It improved slowly over the years and is now attracting

more investors. Slow growth is comparative. Compared to developed countries. Per

se India has progressed well. More than organic growth in mutual funds industry is

witnessed. No specific blames to be attributed to either government players or

regulators. Infact every entity has added to the progress.

CONCLUSION:

Mutual funds have become a preferred investment vehicle in today’s times. This is

because they present an opportunity to the ordinary investor to invest indirectly in

the stock, bond and money markets. Investors on their own have little or inclination

to research individual stocks or sectors. Professional fund managers employed by

mutual funds do this job. Also a single person can’t diversify his portfolio and invest

in multiple high-priced stocks for the sole reason that he may not have the sufficient

resources. Here again, investing through MF route enables an investor to invest in

many good stocks and reap benefits even through a small investment. It is said that

almost everyone in America owns a mutual fund scheme. This proves the popularity

of mutual funds. Since mutual funds are capital market players they come under the

regulatory jurisdiction of SEBI. SEBI has laid down certain guidelines for mutual

funds that they are expected to follow. Thus, the set up of a legal structure, which

has enough teeth safeguard investors interest, ensures that the investors are not

cheated out of their hard-earned money. As we have learned before, the investment

goals vary from person to person. While somebody wants security, others might

give more weight age to returns alone. Somebody else might want to plan for his

child’s education while somebody might be saving for the proverbial rainy day or

even life after retirement. Indian MF industry offers a plethora of schemes and d

serves broadly all types of investors. Thus one can say that the appeal of mutual

funds cuts across investor classes. In other developed countries, Mutual funds

attract much more investments as compared to the banking sector but in India the

case is reverse. We lack awareness about the benefits that a re offered by these

schemes. It is time that investors irrespective of the risk capacities, make intelligent

decisions to generate better returns and mutual funds is definitely one of the ways to

go about it.

BIBLIOGRAPHY

1) HDFC mutual fund –Key Information Memorandum dated 25 Oct 2007

2) Principal mutual funds –KIM dated 21 Jan 2008

3) Reliance mutual funds –KIM dated 12 Jan 2008

4) AMFI-Mutual Fund (Basic) Module by NCFM

5) AMFI-Mutual Fund (Dealers) Module by NCFM

WEB SITES:

1) www.reliancemutual.com

2) www.assetmanagement.abnamro.co.in

3) www.hdfcfund.com

4) www.principalindia.com