MUTUAL FUNDS

A mutual fund is a professionally-managed trust that pools the savings of many investors and invests them in securities like stocks, bonds, short-term money market instruments and commodities such as precious metals. Investors in a mutual fund have a common financial goal and their money is invested in different asset classes in accordance with the fund’s investment objective. Investments in mutual funds entail comparatively small amounts, giving retail investors the advantage of having finance professionals control their money even if it is a few thousand rupees.

Mutual funds are pooled investment vehicles actively managed either by professional fund managers or passively tracked by an index or industry. The funds are generally well diversified to offset potential losses. They offer an attractive way for savings to be managed in a passive manner without paying high fees or requiring constant attention from individual investors. Mutual funds present an option for investors who lack the time or knowledge to make traditional and complex investment decisions. By putting your money in a mutual fund, you permit the portfolio manager to make those essential decisions for you.

Advantages and disadvantages

• Mutual funds have advantages over investing directly in individual securities
• Increased diversification: A fund normally holds many securities; diversification decreases risk.
• Daily liquidity: Shareholders of open-end funds and unit investment trusts may sell their holdings back to the fund at the close of every trading day at a price equal to the closing net asset value of the fund's holdings.
• Professional investment management: Open-and closed-end funds hire portfolio managers to supervise the fund's investments.
• Ability to participate in investments that may be available only to larger investors. For example, individual investors often find it difficult to invest directly in foreign markets.
• Service and convenience: Funds often provide services such as check writing.
• Government oversight: Mutual funds are regulated by the SEC
• Ease of comparison: All mutual funds are required to report the same information to investors, which makes them easy to compare.

Mutual funds have disadvantages as well, which include

• Fees
• Less control over timing of recognition of gains
• Less predictable income

How does a mutual fund operate?

A mutual fund company collects money from several investors, and invests it in various options like stocks, bonds, etc. This fund is managed by professionals who understand the market well, and try to accomplish growth by making strategic investments. Investors get units of the mutual fund according to the amount they have invested. The Asset Management Company is responsible for managing the investments for the various schemes operated by the mutual fund. It also undertakes activities such like advisory services, financial consulting, customer services, accounting, marketing and sales functions for the schemes of the mutual fund.

Net Asset Value (NAV) is the total asset value (net of expenses) per unit of the fund and is calculated by the AMC at the end of every business day. In order to calculate the NAV of a mutual fund, you need to take the current market value of the fund's assets minus the liabilities, if any and divide it by the number of shares outstanding. NAV is calculated as follows:

                        Market value of securities + Accrued Income + Receivable + Other Assets –  Accrued Expenses    – Payables – Other Liabilities

NAV =            

 No of Units Outstanding of the scheme or Option

For example, if the market value of securities of a Mutual Fund scheme is   500 lakh and the Mutual Fund has issued 10 lakh units of   10 each to investors, then the NAV per unit of the fund is   50.

Open-ended Fund

An open-ended fund is a fund that is available for subscription and can be redeemed on a continuous basis. It is available for subscription throughout the year and investors can buy and sell units at NAV related prices. These funds do not have a fixed maturity date. The key feature of an open-ended fund is liquidity.

Close-ended Fund

A close-ended fund is a fund that has a defined maturity period, e.g. 3-6 years. These funds are open for subscription for a specified period at the time of initial launch. These funds are listed on a recognized stock exchange.