Description
about mutual funds
N. L . DALMIA INSTITUTE OF MANAGEMENT STUDIES AND RESEARCH,MUMBAI
MUTUAL FUNDS INDUSTRY A WINNER
SUBMITTED BY: VISHAL BESWAL MMS (FINANCE
PROJECT GUIDE: PROF. ANIL GOR:
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ACKNOWLEDGEMENT
With a deep sense of gratitude I would like to thank each and every person who has contributed towards the successful completion of the project work. I owe a special thank to my project guide Prof. Anil Gor for providing me with the valuable insights in to the projects. It was an immensely rewarding experience working with him.
VISHAL BESWAL
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CERTIFICATE
This is to certify that Mr. Sandeep Moholkar student of Masters in Management Studies (Finance) batch of N. L. Dalmia Institute of Management Studies and
Research has satisfactorily completed the final project on “Market Risk Management” under our supervision and guidance as partial fulfillment of requirement of Masters in Management Studies course, Mumbai University, for the academic year 2005-07.
Signature: Project Guide Prof. Anil Gor
Signature: Director Prof. P. L. Arya.
Place: Mumbai Date:
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1. Executive Summary
The Mutual Fund industry in India, came to Planet Earth, with the setting up of the Unit Trust of India (UTI) in 1964 by the Government of India. Like all other Mutual Funds globally, the goals set for me were similar: money from retail collective investments was pooled together with the intention of investing it in a range of securities and debt instruments. The profits and income were to be shared proportionately by the investors who had invested with the Funds. UTI, a non-profit organisation, grew to be a dominant player in the Indian financial services industry with assets of over Rs. 72,000 crore as of March 31, 1998. This respectfully- treated organisation, created a nervous panic among its followers, as it hit the headlines of all economic dailies in October '98 for all the wrong reasons.
My foreign wealthy counterpart in the US, born in 1920 and is today worth more than US $ 4 trillion, and is fawned upon by householders in America. Back in India, as I was still teething, in 1987, commercial banks and insurance companies were permitted to launch schemes. The schemes were sacrosanct cows, next only to gold and bank deposits. I collectively garnered over Rs. 6,000 crore and was received well, as many of the schemes went ahead offering assured returns with lucrative tax saving baits thrown in. After all, am I to blame for this gilded image? The boom period in 1991-92 saw the mutual funds mobilise a record Rs.14, 000 crore. Moving in tandem with the setback in the stock market in 1992, the gross mobilisation of the Mutual Funds fell to Rs.9, 500 crore. The period also witnessed the entry of foreign institutional investors into the arena of portfolio investments. As is the inherent nature of the mutual funds industry, my performance is directly related to the capital market, and to overall economic progress. The Indian economy showed mixed results during the past ten years. It recorded the highest ever-real growth rate of
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over 10% in 1988-89. However, the situation rapidly changed during and culminated in the lowest real GDP growth and was beset with a foreign exchange crisis in 1991. The liberalisation process then began largely as a result of economic compulsions. The country has averaged a steady growth of around 6% p.a. in real GDP in the past five years. The overall household savings in the economy increased. However, the favoured holding remained the unimaginative shiny yellow metal called gold. During the period 1992-95, the financial market was again upbeat, which lead to a tremendous growth in the primary market. Annual mobilisation from equity issues crossed Rs.36,000 crore in 1994-95, as against Rs.18,100 crore raised in 1992-93. As expectations from equities soared, Mutual Funds mobilisation remained high during the period 1993-95. Many private sector mutual funds entered the industry. The number of equity-based mutual funds grew, these were aggressively sold, without much attention being paid to educate the retail investors about the volatility of this category. The period also witnessed high premiums being paid, not only for primary issues, but also on Mutual Fund investments. As retail investors were driven by greed, media-hype and the bull-run, the risk associated with most investment was probably the last thing on their minds. The great financial crash of October 1994, saw a major bear spell enveloping the capital market. It continues till date. Many mutual funds failed to meet their projections in terms of returns. Retail investors watched, as their investments in the secondary market and in several of the Mutual funds depreciated, and even the capital invested in speculative stocks was lost. The capital market was also infected with scams involving crores encompassing large brokers & banks, all of which rattled the confidence of the investors. This continued prevalence of bearish conditions hit the mutual funds. During 1996-97, Mutual Funds resource mobilisations (at around Rs.5,232 crore) was at a six year low. However, in 1998, the resource mobilisation witnessed a renewed growth. As of March 31, 1998 there were over 30 Mutual Fund organisations in India managing over Rs. 1,00,000 crores through over 250 schemes. Currently, there are over 34 Mutual Fund organisations in India managing over Rs. 1,02,000 crores.
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MUTUAL FUNDS One industry, which has undergone the most dramatic transformation in the post liberalisation era of the nineties, is the financial services sector and in particular, the mutual funds industry. There has been a paradigm change in the quality and quantity of product and service offerings. The history of Indian mutual fund industry can be broadly divided into two phases: ? The period before liberalisation when only public sector players existed with one dominate player Unit Trust of India. ? The post-liberalization era where the industry was opened up to private players.
Definition: A Mutual Fund is an institution/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 realised 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 advantages of investing in a Mutual Fund are: • • • • • • • Professional Management Diversification Convenient Administration Return Potential Low Costs Liquidity Transparency
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• • • •
Flexibility Choice of schemes Tax benefits Well regulated
Types of mutual fund schemes: Wide variety of Mutual Fund Schemes exists to cater to the needs such as financial position, risk tolerance and return expectations etc. The table below gives an overview into the existing types of schemes in the Industry.
MUTUAL FUND SCHEMES
BY STRUCTURE
ON INVESTMENT OBJECTIVE OTHER SCHEMES -Growth schemes - Income schemes - BALANCED SCHEMES - Money market schemes -Tax-saving schemes - Special schemes: # Index schemes # Sector specific # Exchange traded fund
- Open-ended schemes - Closed-ended schemes - Interval schemes
Working of Mutual Fund: The investors pool their money and give it to the fund managers and they are responsible for the better fund management whereby they invest in the securities and help the investors to get better returns. These returns are passed back to the investors. To achieve better return and have good choice the investors have to beforehand follow a few basic rules of investing: 1. Diversify your investments; 2. Understand the relationship between risk and reward; 7
3. Maintain realistic expectations about investment performance; 4. Keep short-term market movements in perspective; 5. Consider the impact that fees and taxes will have on your investment return; and 6. Remember that an investment's past performance is not necessarily indicative of its future results.
INVESTO RS Passed back to with pool their Money
FUND
RETURNS
MANAGERS
Generate
SECURITIES
Invest in
OPERATION OF MUTUAL FUND There are many entities involved in the organisation of mutual fund and the diagram below illustrates the organisational set up of a mutual fund:
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UNIT
Sponsor
Trustee Mutual fund Custodian SEBI
AMC Transfer agents
ORGANISATION OF A MUTUAL FUND A mutual fund is a common pool of money into which investors place their contributions that are to be invested in accordance with a stated objective. The ownership of the fund is thus joint or “mutual”; the fund belongs to all investors. A single investor’s ownership of the fund is in the same proportion as the amount of contribution made by him or her bears to the total amount of the fund. A mutual fund uses the money collected from investors to buy those assets which are specifically permitted by its investment objective. Thus, an equity fund would buy mainly equity assets- ordinary shares, pref.shares, warrents etc. A bond fund would mainly buy debt instrument such as debentures, bonds or govt.securities. HISTORY Birth place of M.Fs is USA. Here the fund industry has already overtaken the banking industry, more funds being under mutual fund management than deposited with bank.
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In India, MF industry started with inception of UTI in 1964. the industry over the year has grown to cross Rs.1,00,000Crs of assets under management with about 400 different types of schemes covering all asset classes-equity,debentures,govt.securities& money market instruments. In 1987 bank’s sponsored MFs entered the market bringing competition. SBI established first non UTI MF- SBI MF in NOV.1987, followed by CAN Bank in DEC.1987. In1989, financial institution sponsored MF entered the mkt. LIC was the first FI to enter the market. Then GIC entered the market. From 1994, pvt. Sector players also entered the MF market. PLAYERS IN MF INDUSTRY IN INDIA • • • • • • • • • • • • • • • • • • ABN Amro MF Alliance Capital MF Benchmark MF Birla MF BOB MF Canbank MF Chola MF Deutsche MF DSP Merrill Lynch Fund Managers Escorts MF Fidelity MF GIC MF HDFC MF HSBC MF ING Vysya MF JM MF Kotak Mahindra MF LIC MF 10
• • • • • • •
Principal MF Reliance Capital MF Sahara MF SBI MF Taurus MF Tempelton MF UTI-II (UTI AMC(P)Ltd.)
WHY MUTUAL FUNDS? Mutual Funds are becoming a very popular form of investment characterised by many advantages that they share with other forms of investment characterised by many advantages that they share with other forms of investments and what they possess uniquely themselves. The primary objectives of an investment proposal would fit into one or combination of the two broad categories, i.e., Income and Capital gains. How mutual fund is expected to be over and above an individual in achieving the two said objectives is what attracts investors to opt for mutual funds. Mutual fund route offers several important advantages. ADVANTAGES OF MF In India, if mutual funds are emerging as the favourite investment vehicle, it is because of the many advantages they have over other forms & avenue of investing, particularly for the investor who has limited resources available in term of capital & ability to carry out detailed research & market monitoring. Other advantages of MF are as follows: • • • PORTFOLIO DIVERSIFICATION PROFESSIONAL MANAGEMENT REDUCTON/ DIVERSIFICATION OF RISK
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• • • • • • •
REEDUCTION OF TRANSCATION COSTS LIQUIDITY CONVENIENCE & FLEXIBILITY RETURN POTENTIAL CHOICES OF SCHEME TAX BENEFIT TRANSPRANCY
DISADVANTAGES OF MF • • NO CONTROL OVER COST MANAGING A PORTFOLIO OF FUNDs
Availability of a large number of funds can actually mean too much choice for the investor. He may again need advice to achieve his objective, quite similar to the situation when he has to select individual shares or bonds to invest in.
3. CLASSIFICATION OF MUTUAL FUND SCHEMES Any mutual fund has an objective of earning income for the investors’ and/ or getting increased value of their investments. To achieve these objectives mutual funds adopt different strategies and accordingly offer different schemes of investments. On these basis the simplest way to categorize schemes would be to group these into two broad classifications: Operational Classification and Portfolio Classification. Operational classification highlights the two main types of schemes, i.e., open-ended and close-ended which are offered by the mutual funds. Portfolio classification projects the combination of investment instruments and investment avenues available to mutual funds to manage their funds. Any portfolio scheme can be either open ended or close ended.
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A.
Operational Classification
(a) Open Ended Schemes: As the name implies the size of the scheme (Fund) is open – i.e., not specified or pre-determined. Entry to the fund is always open to the investor who can subscribe at any time. Such fund stands ready to buy or sell its securities at any time. It implies that the capitalization of the fund is constantly changing as investors sell or buy their shares. Further, the shares or units are normally not traded on the stock exchange but are repurchased by the fund at announced rates. Open-ended schemes have comparatively better liquidity despite the fact that these are not listed. The reason is that investor can any time approach mutual fund for sale of such units. No intermediaries are required. Moreover, the realizable amount is certain since repurchase is at a price based on declared net asset value (NAV). No minute-to-minute fluctuations in rates haunt the investors. The portfolio mix of such schemes has to be investments, which are actively traded in the market. Otherwise, it will not be possible to calculate NAV. This is the reason that generally open-ended schemes are equity based. Moreover, desiring frequently traded securities, open-ended schemes hardly have in their portfolio shares of comparatively new and smaller companies since these are not generally traded. In such funds, option to reinvest its dividend is also available. Since there is always a possibility of withdrawals, the management of such funds becomes more tedious as managers have to work from crisis to crisis. Crisis may be on two fronts, one is, that unexpected withdrawals require funds to maintain a high level of cash available every time implying thereby idle cash. Fund managers have to face questions like ‘ what to sell’. He could very well have to sell his most liquid assets. Second, by virtue of this situation such funds may fail to grab favourable opportunities. Further, to match quick cash payments, funds cannot have matching realisation from their portfolio due to intricacies of the stock market. Thus, success of the open-ended schemes to a great extent depends on the efficiency of the capital market. (b) Close Ended Schemes: Such schemes have a definite period after which their shares/ units are redeemed. Unlike open-ended funds, these funds have fixed capitalisation, i.e., their corpus normally does not change throughout its life period. Close ended fund units trade among the investors in the secondary market since these are to be quoted on the stock exchanges. Their price is determined on the basis of demand and supply in the 13
market. Their liquidity depends on the efficiency and understanding of the engaged broker. Their price is free to deviate from NAV, i.e., there is every possibility that the market price may be above or below its NAV. If one takes into account the issue expenses, conceptually close ended fund units cannot be traded at a premium or over NAV because the price of a package of investments, i.e., cannot exceed the sum of the prices of the investments constituting the package. Whatever premium exists that may exist only on account of speculative activities. In India as per SEBI (MF) Regulations every mutual fund is free to launch any or both types of schemes. B. Portfolio Classification of Funds:
Following are the portfolio classification of funds, which may be offered. This classification may be on the basis of (a) Return, (b) Investment Pattern, (c) Specialised sector of investment, (d) Leverage and (e) Others.
(a) Return based classification: To meet the diversified needs of the investors, the mutual fund schemes are made to enjoy a good return. Returns expected are in form of regular dividends or capital appreciation or a combination of these two. i. Income Funds: For investors who are more curious for returns, Income funds are floated. Their objective is to maximise current income. Such funds distribute periodically the income earned by them. These funds can further be splitted up into categories: those that stress constant income at relatively low risk and those that attempt to achieve maximum income possible, even with the use of leverage. Obviously, the higher the expected returns, the higher the potential risk of the investment. ii. Growth Funds: Such funds aim to achieve increase in the value of the underlying investments through capital appreciation. Such funds invest in growth-oriented securities, which can appreciate through the expansion production facilities in long run. An investor who selects such funds should be able to assume a higher than normal degree of risk. iii. Conservative Funds: The fund with a philosophy of “ all things to all” issue offer document announcing objectives as: (i) To provide a reasonable rate of return, (ii) To 14
protect the value of investment and, (iii) To achieve capital appreciation consistent with the fulfillment of the first two objectives. Such funds, which offer a blend of immediate average return and reasonable capital appreciation, are known as “ middle of the road” funds. Such funds divide their portfolio in common stocks and bonds in a way to achieve the desired objectives. Such funds have been most popular and appeal to the investors who want both growth and income.
(b) Investment Based Classification: Mutual funds may also be classified on the basis of securities in which they invest. Basically, it is renaming the subcategories of return based classification. i. Equity Fund: Such funds, as the name implies, invest most of their investible shares in equity shares of companies and undertake the risk associated with the investment in equity shares. Such funds are clearly expected to outdo other funds in rising market, because these have almost all their capital in equity. Equity funds again can be of different categories varying from those that invest exclusively in high quality ‘blue chip’ companies to those that invest solely in the new, unestablished companies. The strength of these funds is the expected capital appreciation. Naturally, they have a higher degree of risk. ii. Bond Funds: such funds have their portfolio consisted of bonds, debentures, etc. this type of fund is expected to be very secure with a steady income and little or no chance of capital appreciation. Obviously risk is low in such funds. In this category we may come across the funds called ‘Liquid Funds’ which specialise in investing short-term money market instruments. The emphasis is on liquidity and is associated with lower risks and low returns. iii. Balanced Fund: The funds, which have in their portfolio a reasonable mix of equity and bonds, are known as balanced funds. Such funds will put more emphasis on equity share investments when the outlook is bright and will tend to switch to debentures when the future is expected to be poor for shares.
(c) Sector Based Funds: 15
There are number of funds that invest in a specified sector of economy. While such funds do have the disadvantage of low diversification by putting all their all eggs in one basket, the policy of specialising has the advantage of developing in the fund managers an intensive knowledge of the specific sector in which they are investing. Sector based funds are aggressive growth funds which make investments on the basis of assessed bright future for a particular sector. These funds are characterised by high viability, hence more risky. MUTUAL FUND CLASSIFICATIONS: • • • Open-end & Closed-end Funds Load & No-load Funds Tax-exempt &Non-tax-exempt Funds
OPEN-END & CLOSED-END FUNDS: An open-end fund is one that has units available for sale & repurchase at all time. An investor can buy or redeem units from the funds itself at a price, based on the NAV per unit. The no. of units outstanding goes up or down every time the funds issues new units or repurchase existing units. In other words, ‘the unit capital’ of an open-end fund is not fixed but variable. The fund size & its total investment amount goes up if more new subscription come in the form new investor than redemption by existing investors; the fund shrinks when redemption of units exceed fresh subscription It is important to note that an open-end fund is not obliged to keep selling/issuing new units at all time & many successful funds stop issuing new units after they reach a certain size & think they can’t manage a larger fund without adversely affecting profitability.
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On the other hand, an open-end fund rarely denies to its investors the facility to redeem existing units, subject to certain obvious condition. Unlike an open-end fund, the ‘unit capital’ of a closed-end fund is fixed, as it makes a one-time sale of a fixed number of units. Unlike open-end funds, closed-end funds don’t allow investors to buy or redeem units directly from funds. However, to provide the much-needed liquidity to investors, many closed-end funds get themselves listed on a stock exchange. Here it is important to note that no. of outstanding units of a closed-end fund doesn’t vary on account of trading in the funds unit at the stock-exchange. LOAD & NO-LOAD FUNDS Marketing of a new fund involve initial expenses. Charges made by the fund manager to recover these selling/marketing/distribution expenses are called load. SEBI has defined a ‘load’ as the one-time fee payable by the investor to allow the fund to meet initial issue expenses. Including brokers/agents/distributors commission, advertisement & marketing expenses. There is different type of loads: a) FRONT-END or ENTRY LOAD: The load charge to the investor at the time of his entry into scheme is called a Front-end or entry load. b) DEFERRED LOAD: The load amount charged to the scheme over a period of time is called a Deferred load. c) BACK- END or EXIST LOAD: The load that investor pays at the time of his exist is called a Back-End or Exist
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Load. Funds that charges front-end, back-end or deferred loads are called LOAD FUNDS. Funds that make no such charges or loads are called NO-LOAD FUNDS. SEBI regulations allow AMC to recover loads from investor up to a certain limit. This limit currently stands at 6%. This means that initial issue expenses shouldn’t 6% of the initial corpus mobilized during the initial offer period. TAX-EXEMPT & NON-TAX-EXEMPT FUNDS When a fund invests in tax-exempt securities, it is called TAX-EXEMPT FUNDS. When a fund invests in a taxable securities, it is called NON- TAX-EXEMPT FUNDS. In India, after the 1999 Union Govt. Budget all the dividend income received from any of the mutual funds is tax-free in the hands of investors. However funds other than equity funds have to pay distribution tax before distributing income to investors. MUTUAL FUND TYPES: (A) MONEY MARKET FUNDS: Money Market Funds invest in securities of a short-term nature, which generally means securities of less than 1 year maturity. These type of funds generally invest in treasury bills issued by govt., certificate of deposit issued by banks, commercial paper issued by co. & inter-bank call money market. Examples- PruICICI Liquid Fund, Reliance Short Term Fund, Reliance Liquid Fund, Kotak Liquid Fund, Magnum Insta Cash Fund, Principal Cash Management Fund, UTI Money Market Fund. (B) GILT FUNDS:
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Gilts Funds invest in govt. securities. Here, since the issuer is govt./s of India/states, these funds have little risk of default & better protection of principal. Examples- Pru ICICI Gilt-Treasury Fund, Pru ICICI Gilt-Investment Fund, Reliance Gilt Securities Fund, Kotak Gilt Fund, Magnum Gilt Fund, Birla Gilt Plus Fund, UTI G-Securities Fund. (C) DEBT FUNDS: Debts Funds invest in debt instrument issued not only by govt., but also by pvt. Cos, banks & financial institution etc.. By investing in debts, these funds target low risk & stable income for investors. However as compared to money market funds, they do have a higher price fluctuation risk, since they invest in longer-term securities. Debts funds are largely considered as Income funds as they don’t target capital appreciation look for high current income & therefore distribute a substantial part of their surplus to investor. Examples-Pru ICICI Income Plan, Reliance Medium Term Fund, Magnum Income Fund, Principal Income Fund. Debts Funds are of different type: (1)DIVERSIFIED DEBT FUNDS: A debt fund that invests in all available type of debt securities, issued by entities across all industries & sectors is a properly diversified debt fund. A diversified debt fund has the benefit of risk reduction through diversification & sharing of any default-related losses by a large number of investors. (2) FOCUSSED DEBT FUNDS: These types of funds have a narrower focus, with less diversification in its investment. These types of funds invest only in corporate deb. & bonds or only in taxfree infrastructure or municipal bonds.
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(3)HIGH YIELD DEBT FUNDS: These type of funds seek to obtain higher interest return by investing in debt instrument that are considered “below investment grade”. Clearly, these funds are exposed to higher risk. Examples: Birla Dividend Yield Plus, Tata Dividend Yield Fund. (D) ASSURED RETURN FUNDS : These types of funds are prelevent in India. These type of funds offered “assured rtn.”scheme to investors. Returns are indicated in advance for all the future of these closed-end schemes. If there is any shortfall, it is borne by sponsors. Examples: Monthly Income Plan of UTI. Pru ICICI MIP, Reliance MIP, Magnum MIP, Birla MIP. (E) FIXED TERM PLAN SERIES: A mutual fund scheme normally is either open-end or closed-end. Fixed term Plan series offer a combination of both these features to investors as a series of plans are offered & units are issued at frequent intervals for short plan duration. (F) EQUITY FUNDS : These type of funds mainly invest in equity market. Equity funds are of different types. These are following: (a)AGGRESSIVE GROWTH FUNDS: This type of funds target max. capital appreciation ,invest in less researched stock that are considered to have future growth potential & may adopt speculative investment strategies to attain their objective of high return for the investors. Examples: Birla Midcap Fund, Franklin India Prima Fund, HDFC Capital Builder Fund, Kotak Opportunities Fund. years
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(b) GROWTH FUNDS: These types of funds invest in companies whose earning are expected to rise at an above avg. rate. These companies may be operating in sectors like tech. considered to have a growth potential, but not entirely unproven & speculative .The primary objective of growth fund is capital appreciation over three to five years span. Examples: Pru ICICI Power Fund, Kotak 30 Fund, Magnum Equity Fund, Tata Growth Fund, Principal Growth Fund. (c) SPECIALTY FUNDS: These funds have a narrow portfolio orientation & invest in companies that meet predefined criteria. These are also of different types:-. (c1) SECTOR FUNDS: These funds portfolios consist of investment in only one industry or sector of the market such as IT or Pharma or FMCG. Since sector funds don’t diversify into multiple sectors; they carry a higher level of sector & company specific risk than diversified equity funds. Examples: Pru ICICI FMCG Fund, Pru ICICI Technology Fund, Kotak Technology Fund, Tata Infrastructure Fund. (c2)OFFSHORE FUNDS: These funds invest in equities in one or more foreign countries there by achieving diversification across the country’s border. However they also have additional risks such as the foreign exchange rate risk & their performance depend on the economic condition of the country they invest in.
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(c3)SMALL-CAP EQUITY FUNDS: These funds invest in shares of companies with relatively lower market capitalization than that of big, blue chip companies. They may thus be more volatile than other funds, as smaller companies share are not very liquid in market. (c4)OPTION INCOME FUNDS: These funds write options on a significant of their portfolio. These funds invest in large dividend paying companies & then sell options against their position.
(d) DIVERSIFIED EQUITY FUNDS: A fund that seeks to invest only in equity, but is not focused on any one or few sectors or shares may be a termed a diversified equity fund. (e) EQUITY INDEX FUNDS: These funds track the performance of a specific stock market index. The objective of these funds is to match the performance of stock market by tracking an index that represents the overall market. Examples: Pru ICICI SPIcE Fund, Magnum Index Fund, Birla Index Fund, Tata Index Fund. (f) VALUE FUNDS: These funds try to seek out fundamentally sound companies whose shares are currently under-price in the market. These funds will add only those shares to their portfolio that are selling at low price-earning ratios, low market to book value ratios & are undervalued by other yardsticks. Examples: Prudential ICICI Discovery Fund, Tempelton India Growth Fund.
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(g) EQUITY INCOME FUNDS: These funds are designed to give the investors a high level of current income along with some steady capital appreciation, investing mainly in shares of companies with high dividends yields. These funds are therefore less volatile &less risky than nearly all other `equity funds. (h) BALANCED FUNDS: A balanced fund is one that has a portfolio comprising debt instrument, convertible securities, pref. shares, equity shares. Their assets are generally held in more or less equal proportions between debt/money market securities & equities. Examples: Pru ICICI Balance Plan, Kotak Balanced Fund, Birla Balance Fund, Tata Balanced Fund, Principal Fund.
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STRUCTURE OF MUTUAL FUNDS IN INDIA In India, open &closed-end funds operate the same regulatory structure – as units. Therefore, a mutual fund may have several different schemes (open &closed-end) under it. The structure which is required to be followed by mutual funds in India is laid down under SEBI (Mutual Fund) Regulations, 1996
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FUND SPONSER TRUSTS
TRUSTEES
A.M.C
Custodian & Depositors
BANKERS
TRANSFER AGENTS
DISTRIBUTERS
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(A) FUND SPONSER: The sponsor of a fund is akin to the promoter of a company as he gets the fund registered with SEBI. The sponsor appoints a Board of Trustees. As per SEBI regulation for a person to qualify as a sponsor; he must contribute of at least 40% of the net worth of AMC & posses a sound financial track record over 5 years prior to registration. (B) TRUSTS: A mutual fund in India is constituted in the form of a Public Trust created under the Indian Trusts Act 1882. Trust or the fund has no independent legal capacity itself, rather it is the trustees who have the legal capacity & therefore all acts in relation to the trust are taken on its behalf by the trustees. (C) TRUSTEES: Most of the funds in India are managed by the Board of Trustees. These trustees are governed by the provisions of the Companies Act, 1956. These trustees don’t directly manage the portfolio of securities. For this specialist function, they appointment an AMC. The trustees being the primary guardian of the unit-holders funds & assets, so trustees have to be a person of a high repute & integrity. They must ensure that the investor’s interest is safeguarded & that the AMCs operations are along professional line.
RIGHTS OF TRUSTEES: (1) They appoint the AMC with the prior approval of SEBI. (2) They approve each of the schemes floated by the AMC. (3) They have the right to request any necessary information from the AMC concerning the operations of various schemes managed by the AMC as often
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as required to ensure that the AMC is in compliance with the Trust Deed &the regulation. (4) They have right to take remedial action if they believe that the conduct of the funds business is not accordance with SEBI regulation. (5) They have the right to ensure that, based on their quarterly review of the AMC’s net worth; any shortfall in the net worth is made up by the AMC. OBLIGATION OF TRUSTEES: (1) They must enter into an investment management agreement with the AMC. (2) They must ensure that the funds transaction is in accordance with the trust deed. (3) They are responsible for ensuring that the AMC has proper system & procedure in place & has appointed key personal including Fund manager & Compliance officer. (4) They must ensure that the AMC is managing scheme independent of other activities & that the interest of unit-holders is not compromised with those of other schemes/activities.
(D) ASSET MANAGEMENT COMPANY(AMC): The role of an AMC is to act as the Investment Manager of the Trust. The AMC, in the name of the trust, float & then manage the different investment scheme as per SEBI regulations & as per the investment management agreement it signs with the trustees. The AMC of a mutual fund must have a net-worth of at least Rs. 10 crs. at all times. Directors of the AMC, both independent & non-independent, should have adequate professional experience in financial service & should be individual of high moral standing. The AMC cannot act as a trustee of any other mutual fund. OBLIGATION OF THE AMC &ITS DIRECTORS:
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AMC & its directors must ensure that: (1) Investment of funds is in accordance with SEBI regulation & the trust deed. (2) They take responsibility for the acts of its employees & other whose services it has procured. (3) They are answerable to the trustees & must submit quarterly reports to them on AMC activities & compliance with SEBI regulation. (4) They don’t undertake any other activity conflicting with managing the fund. (5) They will float scheme only after obtaining the prior approval of the trustees &SEBI. (6) If AMC uses the services of a sponsor, associate or employees, it must make appropriate disclosure to unit-holders, including the amount of brokerage or commission paid. (7) They will make the required disclosures to the investors in areas such as calculation of NAV & repurchase price. (8) Each day’s NAV is updated on AMFI’s website by 8 p.m of the relevant day.
(E)CUSTODIAN & DEPOSITERS: Mutual funds are in the business of buying & selling of securities in large volumes. Handling these securities in terms of physical delivery & eventual safekeeping is therefore a specialized activity. The custodian is appointed by the board of trustees for safekeeping of physical securities or participating in any clearing system through approved depository companies on the behalf of the mutual fund in case of dematerialized securities. The custodian should be an entity independent of the sponsors is required to be registered with SEBI. A mutual funds dematerlised securities holding is held by a depository through a depository participants. Mutual funds physical securities are held by a custodian.
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(F)BANKERS: A fund’s activities involve dealing with money on a continuous basis primarily with respect to buying & selling units, paying for investment made, receiving the proceeds on sale of investments & discharging its obligations towards operating expenses. A funds bankers therefore play a crucial role with respect to its financial dealing by holding its bank accounts & providing it with remittance service. (G) TRANSFR AGENT: They are responsible for issuing & redeeming units of the mutual fund & provide other related services such as preparation of transfer documents & updating investor records.
(H) DISTRIBUTERS: Since, mutual fund operates as collective investment vehicles, on the Principle of accumulating funds from a large numbers of investors & then investing on a big scale. For these activities, distributors are appointed. Anyone from individual agent to large bank can become distributor.
REGULATORS IN INDIA : (1) SEBI (2) RBI (3) MINSTRY OF FINANCE (4) COMPANY LAW BOARD (5) STOCK EXCHANGE (6) OFFICE OF THE PUBLIC TRUSTEE
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(1) SEBI: SEBI is the apex regulator of all entities that raise funds in the capital market or invest in capital market securities. Mutual funds have emerged as an important institutional investor in capital market securities. Hence, they come under the purview of SEBI. SEBI require all mutual funds to be registered with them. It issues guidelines for all mutual fund operations including where they can invest, what investment limits & restriction must be complied with, how they should make disclosure of information to the investor protection. (2) RBI : MONEY MARKET REGULATOR (A) AS SUPERVISOR OF BANK-OWNED MUTUAL FUND: Operation
of bank-owned mutual funds is governed by guidelines issued by the RBI. But is important to note that Bank-owned MF is under the joint supervision of both RBI & SEBI. It is generally understood that all market related & investor related activities of the funds are to be supervised by SEBI, while any issue concerning the ownership of the AMCs by bank fall under the regulatory ambit of RBI. (B) AS SUPERVISOR OF MONEY MARKET MUTUAL FUND: RBI is
the only govt. agency that is charged with the sole responsibility to control the money supply in the country. Therefore, it has the sole supervisory responsibility over all the entities that operate in the money market, be it bank or companies that issue securities such as certificate of deposit or commercial paper or bank & mutual funds who are allowed to borrow from or lend in the call money market. (3) MINISTRY OF FINANCE : The ministry of finance, which is charged with implementing the govt. policies, ultimately supervises both the RBI & the SEBI.
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Besides being the ultimate policy making & supervising entity, the MoF has also been playing the role of an Appellate Authority for any major disputes over the SEBI guidelines. (4) COMPANY LAW BOARD : Mutual Fund, AMC & Corporate trustees are companies registered under companies Act, 1956 & therefore answerable to regulatory authorities empowered by the Companies Act. (5) STOCK EXCHANGE : Stock Exchange is self-regulatory organization supervised by SEBI. Many closed-end schemes of mutual funds are listed on one or more stock-exchanges. Such schemes are subject to regulation by the concerned stock-exchange through a listing agreement between the fund & stock-exchange. (6) OFFICE OF THE PUBLIC TRUSTEE : Mutual fund, being public trust is governed by Indian Trust Act, 1882. The Board of Trustees or the trustee company is accountable to thee office of public trustee, which in turn reports to the charity commissioner.
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WHO CAN INVEST IN MUTUAL FUNDS IN INDIA : Mutual Funds in India are open to investment by (a) Residents Including (1)Resident Indian Individuals (2) Indian Companies (3) Indian Trusts/ Charitable Institutions (4) Bank (5) Non-Banking Finance Companies (6) Insurance companies (7) Provident Funds (b) Non-Residents Including (8) NRIs (9) Overseas Corporate Bodies (c) Foreign Entities,viz (10) FIIs registered with SEBI Foreign citizen/entities are however not allowed to invest in mutual funds in India.
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Mutual Fund Distribution: “The penetration of mutual funds in rural areas is relatively lower with 13.7 per cent of urban households owning mutual funds as against only 3.8 percent of rural households," says Union finance secretary D.C. Gupta, “The government is creating a conducive atmosphere to facilitate an aggressive penetration of the mutual fund industry into the rural areas to tap its vast savings potential.” In all this the existing distribution process plays a key role. The latest SEBI data indicates that two-thirds of gross mutual fund sales in the country were in Mumbai; that 8 cities (Mumbai, Kolkata, Delhi, Chennai, Bangalore, Pune, Ahmedabad and Hyderabad) accounted for 94 per cent of total sales; and that the top 50 cities and towns accounted for 99.4 per cent of total sales. Consequently, the investor base for mutual funds is highly skewed towards a modest number of cities, in comparison to the investor base for equities which is more diversified across the country.
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Problems of Existing Distribution Process Flow
The existing infrastructure which facilitates mutual fund transactions is owned and operated in part by individual mutual funds and in part by the registrars operating in the industry. An individual registrar’s infrastructure is common to all its clients.
Existing Transaction Process Flow of Mutual Fund
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Transformation phase (1993-2003 Entry of Private Sector Funds): 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 erstwhile Kothari Pioneer (now merged with Franklin Templeton) was the first private sector mutual fund registered in July 1993. 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. The total asset under management of mutual fund industry has increased by 11% from Rs 231358 crore to Rs 257528 crore as of April end. The rise in assets could be attributed to accretions in liquid fund assets. April also saw a change in pecking order, with Prudential ICICI Mutual Fund regaining its top slot among private sector funds in terms of AUM. Reliance Mutual Fund slipped to third position with total asset under management at Rs 26420 crore. UTI retained its top position with total assets under management at 30108 crore. Top 3 mutual funds at the end of april-06: 1. UTI AMC. PVT. LTD. 2. PRUDENTIAL ICICI MF PVT. LTD. 3. RELIANCE MUTUAL FUND. Rs. 30108 crore Rs. 27504 crore Rs. 26420 crore
Last 40 years data shows that the Mutual fund in India has experienced only a year downturn. There was a sudden downfall during the year of transformation called phase three of mutual fund era in India where it dropped down from Rs.121805 crore to Rs. 87190 crore in one month period. The period is divided into four phases: • • • PHASE I PHASE II PHASE III - Mar-1965 to Mar-1987 - Mar- 1987 to Mar-1993 - Mar-1993 to Mar-2003
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•
PHASE IV
- Mar- 2003 till date
:GROWTH IN ASSETS UNDER MANAGEMENT
As at the end of September, 2006, there were 32 funds, which manage assets of over Rs.250000 crores under 421 schemes.
The specification of 29 mutual funds in India:
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Sr. No. Name of the Asset Management Company ( AUM ) (Rs. in Crore) A .BANK SPONSORED (i) Joint Ventures - Predominantly Indian 14506 Total A (i) 14506 (ii) OTHERS 221 3327 30109 Total A (ii) 33657 Total A (i + ii) 48163 B .INSTITUTIONS 1. Jeevan Bima Sahayog Asset Management Co. Ltd. 6134 Total B 6134 1. BOB Asset Management Co. Ltd. 2. Canbank Investment Management Services Ltd. 3. UTI Asset Management Company Pvt. Ltd. 1. SBI Funds Management Pvt. Ltd.
C.PRIVATE SECTOR (i) INDIAN 782 2146 168 2784 10985 30 26420 254 10652
1. Benchmark Asset Management Co. Pvt. Ltd. 2. Cholamandalam Asset Management Co. Ltd. 3. Escorts Asset Management Ltd. 4. J.M.Financial Asset Management Pvt. Ltd. 5. Kotak Mahindra Asset Management Co. Ltd. 6. Quantum Asset Management Co. Pvt. Ltd. 7. Reliance Capital Asset Management Ltd. 8. Sahara Asset Management Co. Pvt. Ltd. 9. Tata Asset Management Ltd.
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10. Taurus Asset Management Co. Ltd.
261 Total C (i) 54482
(ii)
JOINT VENTURES - PREDOMINANTLY INDIAN 17390 13201 22539 27504 631 Total C (ii) 84265
1. Birla Sun Life Asset Management Co. Ltd. 2. DSP Merrill Lynch Fund Managers Ltd. 3. HDFC Asset Management Co. Ltd. 4. Prudential ICICI Asset Management Co. Ltd. 5. Sundaram BNP Paribas Asset Management Company Ltd.
(iii)
JOINT VENTURES - PREDOMINANTLY FOREIGN 886 4208 3692 19639 10078 2684 3000 8946 9322 Total C (iii) 64455 Total C (i + ii +iii) 203202 Total (A + B + C) 257499
1. ABN AMRO Asset Management (India) Ltd. 2. Deutsche Asset Management (India) Pvt. Ltd. 3. Fidelity Fund Management Private Ltd. 4. Franklin Templeton Asset Management (India) Pvt. Ltd. 5. HSBC Asset Management (India) Private Ltd. 6. ING Investment Management (India) Pvt. Ltd. 7. Morgan Stanley Investment Management Pvt. Ltd. 8. Principal PNB Asset Management Co. Pvt. Ltd. 9. Standard Chartered Asset Mgmt Co. Pvt. Ltd.
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INVESTORS RIGHT: Right of proportionate ‘Beneficial ownership’: Unit-holders have the right to beneficial ownership of the scheme’s assets. They also have the right to any dividend or income declared under the scheme. Right to timely service: Unit-holders are entitled to receive dividends warrants within 30 days of dividends declared. They have the right to receive interest at 15%p.a in the event of failure on the part of mutual fund to dispatch the redemption or repurchase proceeds within 10 working days. Where any investor has failed to claim redemption proceeds or dividends due to him, he has right to do so within a period of 3 years of the due date at the prevailing NAV. After 3 years, he will be paid at the NAV applicable at the end of 3 years. For initial offers in case of open-end scheme investors have a right to expect the allotment of units & dispatch of account statement to be completed within 30 days from the closure of the issue. Right to information: They have the right to obtain from the trustees any information that may have an adverse bearing on their investment. They have the right to inspect major document of the fund. Such document includes material contracts, memorandum & articles of association of the AMC, recent audited financial statements. They have the right to receive a copy of the annual financial statement. They have the right to receive a complete statement of scheme portfolio before the expiry of 1 month from the close of each half year, unless such statement of portfolio is published in one English daily circulating in the whole India & in a newspaper published in the language of the region where the head-office of the mutual fund is situated. Right to wind up a scheme: Investors can demand the trustees to wind up a scheme prior to its fixed duration & repay the investors, if 75% of the investors pass the resolution to this effect.
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Legal limitations of investor’s rights: Unit-holders cannot sue the trust because they are not distinct from the trust. However, an investor can initiate legal proceedings against trustees, if they feel aggrieved by any action of them. The fundamental concept of a mutual fund is that investors invest at their own risk & can’t force the AMC to assure a specified level of return. Only if the offer document has specifically provided such guarantee by a named sponsor, the investor will have the right to sue the sponsor to make good any shortfall in promised return. Investor’s obligation: It is the investor’s duty to carefully study the offer-document before investing in units of a scheme. He must appreciate the fundamental attributes of the scheme, the risk factors, the rights & the funds & the sponsor’s track record. He must monitor his investment in a scheme by carefully studying the schemes financial statements, its portfolio composition & research reports published by mutual fund tracking agencies. Investors Complaints Redressal Mechanism: SEBI does entertain receipt of complaints against mutual funds & intervene with fund management to help the investor to resolve his complaints. SEBI also helps the investors in a new scheme by requiring the sponsors of a new scheme to appoint a compliance officer. It is important to note that fund investors are neither shareholders in the AMC nor the depositors. Hence, their investments can not be protected by any of these company act regulations.
OFFER DOCUMENT When an AMC or Fund sponsor wishes to launch a new scheme of a mutual fund, they are required to formulate the details of the scheme & register it with SEBI before announcing the scheme & inviting the investors to subscribe the fund. Thus the document containing the details of a new scheme that the AMC or sponsor prepares for & circulate to the prospective investors is called the prospectus or the offer document.
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The offer document of a closed-end fund is issued only once at the time of issue, as units are normally not re-purchasable from investor. The open-end mutual funds could issue & repurchase units as ongoing basis. This means that the offer document of the open-end fund is valid for all the time, until amended, though it will be first issued at the time of the launch of the scheme. In addition, an abridged version of the offer-document is usually distributed with the application form. This is called the Key Information Memorandum. SEBI regulations lay down the format for a standard offer document & key information memorandum. Mutual Funds in India are required to follow this format. Contents of the offer document: (1) Summary Information ( cover page ): The front page of the offer document provides information about the scheme ‘at a glance’. These are as follows: (a) Name of the mutual fund. (b) Name of the scheme (c) Type of the scheme (growth, income, balance) (d) Name of AMC (e) Classes of units offered for sale (f) Price of units (g) Name of guarantor in case of assured return scheme (h) Opening , closing & earliest closing date for the offer (i) A statement to the effect that the document contains information that a prospective investor should know before investing & it should be retained for future reference (j) The offer document must make the investor aware of the Risk Factors faced by the fund & thereby the investors. Risk Factors may be standard or scheme specific. Standard Risk factors are market driven & common to the entire scheme. Scheme Specific Risk depends on scheme to scheme.
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(2)
Financial Information : The offer document must contain information on expenses estimated to be incurred by the scheme. Following items must be including: (a) Sales load, contingent deferred sales charges, redemption load & switchover/exchange fee, all as % of NAV. (b) Details of initial issue expenses for the scheme & for other scheme launched during the last one fiscal years by the AMC. (c) Estimated annual recurring expenses as % of average weekly net assets. (d) For all schemes launched by the fund during the last 3 fiscal years :NAV at the beginning /end of the year, net income per unit, dividends, transfer to reserve, annualized return & ratio of recurring expenses to net assets. (e) Information on borrowing by the fund at the end of the last fiscal year.
(3)
Constitution of the Mutual Fund: The following information should be included in this section: (a) Brief description of the objectives of the fund (b) Functions & responsibilities of its constituents: sponsor, AMC, trustees& custodian. (c) Activities of the sponsor & its financial performance for the last 3 years. (d) Name & addresses of the board of the trustees/directors of the trust. (e) Summary of the trust deed provisions. NET ASSET VALUE (NAV) : NAV= Net Assets Of The Scheme/ No. Of Units Outstanding The day on which NAV is calculated by a fund is known as the Valuation Date. NAV for a day must also be posted on AMFI’s website by 8.00p.m on that day. This applies to both the open-end & closed-end funds. One exception is those closed-end schemes which are not mandatory required to be listed in any stock exchange.
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A fund’s NAV is affected by four set of factors: (a) purchase & sale of investment securities. (b) valuation of all investment securities. (c) other assets & liabilities. (d) units sold or redeemed. FEES & EXPENSES: An AMC may incur many expenses specifically for given scheme & other common expenses. In any case, all expenses should be clearly identified & allocated to the individual scheme. Investment management & advisory fee that are fully disclosed in the offer document subject to the following limits: (a) 1.25% of the first Rs.100Crs. of weekly average net assets outstanding in accounting year. (b) 1% of weekly average net assets in excess of next Rs.100Crs. For no load scheme, the AMC may charge an additional management fee up to 1% of weekly average net assets outstanding in accounting year. In addition to fees mentioned above, the AMC may charge the scheme the following expenses: (a) Initial expenses of launching scheme (not to exceed 6% of initial resources raised under the scheme). (b) Recurring expenses including : (!) Marketing & selling expenses including agent’s commission (2) Brokerage & transaction costs (3) Registrar service for transfer of units sold or redeemed (4) Audit fees (5) Fee & expenses of trustees (6) Cost related to investor communication.
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SEBI has also imposed a limit on these expenses. The limits have been related to the level of the weekly net assets. Thus the AMC can charge a scheme (a) 2.5% of the average net assets of the scheme as recurring expenses, if the net assets don’t exceed Rs.100crs. (b) 2.25% on the next 300crs. (c) 1.75% over Rs.700crs. In case, the scheme intends to invest in the bonds, the maximum % limits are less by 0.25%. Further, if the AMC had absorbed the initial issue expenses, it can charge an additional 1% of net assets as investment management fees. These expenses are charged to the investor’s ongoing basis. FOLLOWING EXPENSES CAN’T BE CHARGED TO THE SCHEME: (1) Penalties & fines for infraction of laws. (2) Interest on delayed payment to the unit holders. (3) Legal, marketing, publication & other general expenses not attributable to any scheme. (4) Expenses on investment management /general management. DISCLOSURE & REPORTING REQUIREMENTS: (!) Audited annual statement of account for all scheme. (2) Within 6 months of closure of the relevant accounting year the fund shall: (a) Publish through an advertisement scheme-wise annual report. (b) Mail the summary to all unit holders. (c) Forward to SEBI, a copy of the annual report & other information including details of investment & deposits held by the fund. (d)Each item of expenses accounting for more than 10% of total expenses should be disclosed in account. (e)The mutual fund shall make script wise disclosures of NPAs on half-yearly basis along with the half yearly portfolio disclosure. (f)Large unit holdings (over 25% of net assets of a scheme) shall be disclosed in
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Annual & half-yearly results by giving the number of such investors & their total holding in % terms. INVESTMENT POLICY: Investment policy of each scheme is dictated by its investment objective as stated in the offer document. Usually minimum & maximum of the fund to each class- Equity, Debt & Cash is specified. INVESTMENT RESTRICTION BY SEBI : (1)Investment in the equity shares or equity related instrument of a single company are restricted to 10% of the NAV of a scheme. (2) For debt scheme, SEBI restricts the investment in “rated investment grade” debt instrument issued by a single issuer to 15% of the NAV & this limit may be extended to20% of the NAV of the scheme with the prior approval of the board of AMC. (3) For unrated debt instruments, the total investment in such instrument shouldn’t allowed exceeding 10% of the NAV of the scheme. (4) Total investment in debt instrument of all the issuers in a scheme are not permitted to exceed 25% of the scheme. (5) These restriction do not apply to money market & govt. securities, as they carry inherently less risk. (6) SEBI restricts the investment in unlisted shares to maximum of 10% of the NAV for closed-end scheme. (7) In case of open-ended scheme the limit is more stringent at 5% of the NAV. SEBI permits mutual funds to invest abroad in ADRs/GDRs, within an overall limit of US $500 millions for all funds put together. (8) A mutual fund under its entire scheme taken together is not allowed to own more than 10% of any company’s paid-up capital carrying voting rights. (9) A scheme may invest in another scheme under same AMC or any other mutual fund without charging any fees, provided that the aggregate inter-scheme investment made by all scheme under the same management doesn’t exceed 5% of the net asset value of mutual fund.
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(10) Debt instrument in which a scheme invests must be rated as investment grade by at least one recognized credit agency. (11) Mutual funds are required to buy & sell securities only “for delivery”. Short selling (selling without delivery) or carry forward transactions (without taking or giving delivery) are not permitted. (12) In case of long-term investments, securities should be purchased or transferred in the name of mutual fund for the relevant scheme. (13) Mutual funds are not allowed to advance any loans, but may lend securities in accordance with SEBI’s stock lending scheme. MEASURING & EVALUATING MUTUAL FUND PERFORMANCE MEASURING FUND PERFORMANCE: (!) CHANGE IN NAV: If an investor want to compare the return on investment between two dates, he can simply use the per unit NAV at the beginning & the end periods & calculate the change in the value of the NAV between the two dates in absolute & % terms. Formulae- Absolute change in NAV/NAV at the beginning*100. Limitations: But this measure does not always give the correct picture, in cases where the fund has distributed to investors a significant amount of dividend in the interim period. Therefore, it is suitable for evaluating growth funds & accumulation plans of debt & equity funds, but should be avoided for income funds & funds with withdrawal plan. (2) TOTAL RETURN: This measure corrects the shortcomings of the NAV change measure, by taking account of the dividends distributed by the fund between two NAV dates & adding them to the NAV change to arrive at the total return. Formulae-(Distribution + change in NAV)*100/ NAV at the beginning. Total Return is a measure suitable for all type of funds. Performance of different type of funds can be compared on the basis of total return.
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Limitations: But this measure ignores the fact that distributed dividends also get reinvested if received during the year. (3) RETURN ON INVESTMENT or TOTAL RTN. WITH DIVIDENDS REINVESTED AT NAV: The shortcomings of the simple total return is overcome by computing the total return with reinvestment of dividends in the fund itself at the NAV on the date of distribution. Formulae- ( (Units Held + div/ ex-dNAV) *end NAV)- Begin NAV/ Begin NAV*100. (4) EXPENSES RATIO: Expenses ratio is an indicator of the fund’s efficiency & cost-effectiveness. It must be evaluated in the light of the fund size, avg. account size & portfolio composition- equity or fixed income. E.g. funds with small corpus size will have a higher expenses ratio affecting rather than large corpus fund. If a fund’s income levels or return are small then expenses ratio becomes important & difference of even 0.5% between two funds can affect investor’s return. (5) PORTFOLIO TURNOVER RATIO: It measures the amount of buying & selling of securities done by a fund. It defined as the lesser of assets purchased or sold divided by the fund’s net assets. This ratio measures how many times the fund manager turn over his portfolio by buying or selling of securities in the market. A 100% turnover implies that the manager replaced his entire portfolio by buying or selling of securities in the market. This % turnover is a good indicator of the extent to which the fund is active in terms of its dealing on the market. However, high turnover ratio also indicates high transaction costs charged to the fund. This ratio would be most relevant to analyze in case of equity & balance funds, particularly those that derive a large part of their income from active trading.
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(6) TRANSACTION COSTS: It include all expenses related to trading such as the brokerage, commissions paid, stamp duty on transfers, registrar’s fees & custodian fees. Transaction costs, therefore have a significant bearing on fund performance & its total return. Funds with small size or small return have to be judged more on their expenses ratio & transaction cost. (7) FUND SIZE: Fund size also affects performance. Small funds are easier to maneuver & can achieve their objectives in a focused manner with limited holding. Large funds benefit from economies of scale with lower expenses & superior fund management skills. There can be no definition of what is a small fund or big fund, as small & big are relative term. (8) CASH HOLDINGS: Mutual fund allocates their assets among equity shares, debt securities & cash/ bank deposits. The % of a fund’s portfolio held in cash equivalents can be important element in its successful performance. A large cash holding allows the fund to strengthen its position in preferred securities without liquidating its other portfolio. Cash also allow the fund a cushion against decline in the market prices of shares or bonds. But the fund also guard against large, consistent net redemption because these not only indicate dissatisfaction on the part of investors, but also force the fund to maintain large cash resources lowering the return on the portfolio. (9) BORROWING BY MUTUAL FUNDS: In India, mutual funds are not allowed to borrow to increase their corpus. SEBI Regulations allow mutual funds to borrow only for the purpose of meeting temporary liquidity needs for a period not exceeding 6 months & to the extent of 20% of its net assets. Hence, it would be uncommon to see fund schemes with borrowings on their balance sheets & if borrowings are seen, caution may need to be exercised in evaluating the fund performance.
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EVALUATING FUND PERFORMANCE: There are 3 types of benchmark that can be used to evaluate a fund’s performance. These are: (1) Relative To Market As A Whole (2) Relative To Other Mutual Funds (3) Relative To Other Comparable Financial Products. Benchmarking Relative To The Market: (a) EQUITY FUNDS- Base Index- If investors were to choose an Equity Index Fund; he can expect to get the same return on the equity index used by the fund as its benchmark, called the Base Index. This is the passive investment style. The fund would invest in the index stocks & expects its NAV changes to mirror the change in the index itself. The fund & therefore the investor would not expect to beat the benchmark, but merely earn the same return as the index. In case of ‘Index Funds’, the benchmark is clear & prespecified by the fund manager in the advance. ‘Active’ Equity Funds: If an investor holds such an actively managed equity fund, the fund manager would not specify in advance the benchmark to evaluate his expected performance as in case of an Index Fund. The appropriate index to be used to evaluate a broad based equity fund is decided on the basis of the size & the composition of the fund’s portfolio. If the fund in question has a large portfolio, a broader market index like BSE100 or200 or NSE100 may have to be used as the benchmark rather than S&P CNX NIFTY. An actively managed fund expects to be able to beat index. In India, benchmarking for the retail investors is done using a menu of indices in combination. Agencies such as Credence prefer the BSE200 because of its broad-based nature. For sector funds, the S&P CNX Sectoral Indices have been preferred. (b) DEBT FUNDS- In practice, no appropriate debt index is available in India to be used for benchmark debt funds. ISEC’s I-BEX index is often used by some analysts. In any case, any benchmark for debt-fund must have the same portfolio composition & the same maturity profilio as the fund itself, to be comparable.
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(c) MONEY MARKET FUNDS- Performance of money market funds is usually benchmarked against the government securities of approved maturities. In India, JP Morgan has developed a T (Treasury) Bill Index. (2) Benchmarking Relative To Other Similar Mutual Funds : It is extremely important to ensure that comparisons are meaningful. Only funds with similar characteristics can be compared. The following are some of the important criteria for comparison of fund performance: (a) The investment objectives & risk profiles of two funds being compared must be same. (b) Portfolio composition of two funds should be similar. (c) In case of Debt funds the ‘credit quality’ & ‘maturity profile’ should be similar. (d) Size of two funds should be similar because one big & one small may not give comparable performance. (e) Expenses ratio could also be an important factor in comparing two fund’s performance, which will be impacted with high & low expenses rate. (3) Evaluating The Fund Manager/AMC : The investor must evaluate the fund manager’s track record, how his schemes have performed over the years. It is important to note that investment decision based on good past performance is not guarantee for future performance. It is better to trust a fund with a good track record & backed by good management instead of investing in a new fund in the same category. In the final analysis, AMC & their managers out to be judged on consistency in the returns obtained & performance record against competing managers running similar fund.
Now basic structure of Mutual Fund is understood, now look at the performance of different AMC in the category of equity fund, balance fund and income fund. This includes their performance during last 1 month, 6 months, 1 year & since inception. Their investment portfolios, loads etc.
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Current Performance in the Mutual fund industry as on 29 th march 07 Toppers & Laggards
Open Ended Toppers as on Mar 29, 2007
Scheme Name
Prudential ICICI Service Indus Tata Index Fund - Sensex Plan SBI Magnum Tax Gain Scheme 93 SBI Magnum Sector Umbrella - I PRINCIPAL Child Benefit - Care Sundaram BNP Paribas FRF - LTI BOB Gilt Fund - PF Plan - Grow DWS Money Plus Fund - Growth
Top 5 -Equity Funds
Category Diversified Equity Index Tax Plan Sector Balanced Debt Gilt Liquid / MMMF
- Period (Last 12 Months)
1 yr. Rtrn.(%)
27.49 16.95 16.4 43.56 19.1 24.93 8.34 7.61
Rank Scheme Name 1 2 3 4 5
Date
NAV (Rs.)
% Return as on NAV date 43.5586 40.7757 40.7757 34.3217 34.3217
SBI Magnum Sector Umbrella - Mar 29, 27.19 InfoTech Fund 2007 DSP Merrill Lynch Mar 29, Technology.com Fund 25.044 2007 Dividend DSP Merrill Lynch Mar 25.044 Technology.com Fund - Growth 29,2007 Prudential ICICI Technology Mar 29, 14.95 Fund - Dividend 2007 Prudential ICICI Technology Mar 29, 14.95 Fund - Growth 2007
Review of mutual fund industry in India and top performers:-
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Bulls recouped the last quarter’s loss placing equities back in action. The markets rebounded smartly from their lows in May-June06 steering past important milestones. Sensex logged 17.39% gains to climb to 12454 while Nifty ended at 3588 registering 14.70% gains.
The markets began the quarter on a cautious note but witnessed robust and widespread rally in subsequent months in the absence of any near term concerns. The rally was primarily driven by pause in Fed rate hike. The other factors that boosted the sentiments were impressive first quarter results from corporates, assertion by RBI of a robust economic growth at 7.5-8% and lower crude prices. The improved confidence of global investors led to substantial inflows in equities taking markets to higher levels. Though markets were highly volatile in the month of July and slipped below 10000 levels but staged a smart recovery thereafter ending the month on positive note. Strong buying was evinced in the month of August and Sensex ended well above the 11500 mark. Increasing participation of midcap and smallcap stocks provided the markets much needed impetus. The markets are now eyeing new highs with Sensex just 200 points away from its life time high of 12671.
The gains were broad based with all the indices registering positive growth. BSE Midcap and Smallcap indices surged 17.51% and 15.02% respectively. In pervious quarter BSE Mid-cap and BSE Small-Cap index had declined 18.08% and 18.73% while Sensex shed 5.95%. The Sectoral indices too showed good performance. Banking stocks gained momentum on the expectations of better bottomline and benign interest rate scenario. Buying interest resumed in IT stocks on account of robust quarterly numbers and strong earnings prospects. BSE Bankex was the top gainer up 38.86% followed by BSE Teck at 20.25%. However FMCG and Metal stocks were laggards up 5.94% and 0.63% respectively.
FIIs remained on buying spree in equities during all the three months and bought stocks worth staggering Rs 11212 crore compared to the net sales of Rs 6354 in June quarter.
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Purchases by domestic mutual funds were muted, at approx Rs 1684 crore compared to the net investments of Rs 8605 crore in last quarter.
The assets under the management of mutual fund industry witnessed growth of about Rs 25669 crore over Rs 265536 crore worth of assets managed till June end. The upbeat mood in bond markets and revival in equity markets led to a surge in total AUM. UTI Mutual Fund managed to regain its top slot in asset tally this quarter and recorded the highest increase in the corpus in absolute terms by Rs 4639 crore, an increase of 15% in percentage terms from Rs 30115 crore to Rs 34755 crore. Run up in the equity markets and healthy inflows in debt segment through existing schemes and new fund offerings scaled the corpus of UTI Mutual Fund.
Benchmark Mutual Fund’s AUM reported highest increase of 271% in percentage terms during the quarter. While the assets of DBS Chola Mutual Fund witnessed the highest fall of 12.29% from Rs.2475 crore to Rs.2170 crore. The corpus of HSBC Mutual Fund saw an erosion of Rs 927 crore. The share of equity schemes in the total asset portfolio of mutual funds increased to 35% in September 2006 from 33% in June 2006. The AUM of growth schemes climbed to Rs 101184 crore as of September end from Rs 87196 crore in June. The highest growth took place in income schemes, AUM jumped by 33% to Rs 72104 crore from Rs 54113 crore as of June end as softening yields increased the attractiveness of Income Funds. Compared to this; the assets under management of liquid fund declined by 7.4% to Rs 100622 crore from Rs 108776 crore on account of liquidity concern due to advance tax outflows at the end of quarter. Liquid Funds now constitute 35% of the total industry assets. Gilt funds AUM reported negative growth of 16% while the corpus of ELSS funds and Balanced Funds grew by 22% and 14% respectively. As per AMFI figures 72 new schemes were launched during the quarter with 4 schemes in equity category and rest in debt category (predominantly FMPs). Mutual Funds mobilized around Rs 22000 crore through new fund offers. Of that Rs 1375 crore was raised from growth funds, Rs 241 crore from liquid funds and Rs 1475 crore through
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open end income funds. Rest of the funds were mobilized from FMPs. J M Arbitrage Advantage Fund and Tata Equity Managed Fund that closed for subscription in June 2006 raised Rs 651 crore and Rs 394 crore respectively. ING Vysya CUB and Tata Capital Builder Fund mobilized around Rs 70 crore and Rs 260 crore respectively. In debt category Fidelity Short Term Income Fund mopped Rs 183 crore. Most of the new equity offerings were close ended in nature as close-ended schemes is allowed to charge initial issue expenses from investors and encourage long term investing. Other new launches focused on the strategy of arbitrage arising out of the mis-pricing in cash and derivatives segment.
Mutual Funds performed in tandem with the broader market and returned 15.53% during the quarter under review. Out of the 153 diversified equity schemes only two schemes ended the quarter in red. Banking Funds led the rally with gains of 36%. IT Funds followed it with the returns of 16.5%. However MNC Funds and Pharma Funds trailed with the returns of 14.4% and 15.3% respectively.
Debt Markets During the quarter under review, the bond markets turned bullish following pause in interest rates by US Federal in August after 17 rate hikes. The yields declined on back of lower oil prices and softer US treasury yields. The yield on the benchmark 7.59 per cent GOI 2016 fell sharply to 7.64% from 8.12% in pervious quarter. Yields continued to soften across tenors as the bond markets benefited from hopes that positive global cues may prompt a slower pace of rate increases in the domestic context. RBI hiked the Reverse Repo and Repo rates on July 25 by 25 bps to 6.00% & 7.00% respectively in its Credit Policy. The market participants largely anticipated the hike and there was not much impact of the hike in Repo and Reverse Repo by 25 bps as the market had already factored in the rate hike. In its Annual Report, the RBI reiterated the growth target of 7.58% for the year 2006-07. However, it cautioned that high credit growth and an incomplete pass-through of oil prices might impact price stability and inflationary expectations.
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Diversified Equity Funds Diversified equity funds rallied on back of soaring equity markets. Sensex and Nifty surged 17.39% and 14.71% during the quarter while diversified equity funds gained 15.53%.Out of the 114 schemes eligible for ranking for the quarter ended September 2006 eleven schemes were ranked ICRA MFR-1 for one year period. Funds that appeared in the top quartile of mutual fund rankings were dominated by established schemes. A mix of large-cap and midcap stocks, focused investment in sectors that captured growth themes in the economy and well diversified portfolio enabled the funds to top the charts.
Diversified Equity Funds-Defensive For the one-year ranking horizon quarter on quarter basis, Sundaram BNP Paribas Select Midcap Fund continued its winning streak followed by HDFC top 200 Fund. Sundaram BNP Paribas Select Midcap Fund scored on the risk-adjusted return and company concentration parameters. HDFC Top 200 and Prudential ICICI Growth Fund moved up the charts from ICRA MFR 2 in June quarter .DWS Alpha Equity Fund and DSP ML Top 100 Equity Fund were other schemes to notch higher rankings at MFR1.
For the three-year ranking horizon, Birla Sunlife Equity retained its top position. The scheme did well on risk adjusted return parameter. DSP ML Opportunities moved one place up to MFR 1 replacing previous quarter winner HSBC Equity Fund. The scheme took a beating on company concentration parameter. DSP ML Equity Fund and Reliance Growth Fund witnessed a shuffle among themselves continuing with ICRA MFR 2 rank.
Diversified Equity Funds-Aggressive
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In this category, Can Balanced II preserved its top position. It has been categorized under diversified equity category due to its higher allocation to equities than average. Tata Infrastructure Fund was the next top performer in the category. The scheme is less than two year old and focuses on infrastructure and allied sectors. An aggressively managed scheme with exposure across the market captilisation scored higher on return, company concentration and corpus size parameter. Tata Select Equity Fund moved up from ICRA MFR 2 to find place in MFR 1 rank while DSP ML TIGER Fund sustained its MFR 1 rank. For the three-year horizon, SBI Magnum Global Fund 94 hold on to its MFR 1 rank. The scheme scored on superior returns. Another scheme from SBI stable, SBI Magnum Sector Umbrella Contra Fund find place at second spot and retained its ICRA MFR 1 rank. The scheme is devised on the contrarian approach and focuses on out of flavour stocks. Sundaram BNP Paribas Select Midcap rode to MFR 1 position.
Debt Funds Long Term Debt Funds generated impressive returns as yields inched lower. Income Funds have increased their portfolio maturities over the last quarter taking clues from declining yields. The short-term debt funds also followed the same approach and the average portfolio maturity of the funds in this category increased from 239 days as at end June to 333 days as at end-September end. The average absolute return of short term funds stood at 1.7% during the quarter under review.
Debt-Long Term Funds Principal Income Fund is ranked ICRA MFR 1 in Debt–Long Term category for the oneyear period ended September 30; 2006.The scheme climbed the ranking charts from MFR 2 to MFR 1.It did well on returns and sector concentration parameter over next topper Kotak Bond Regular Fund. The scheme slipped to ICRA MFR 2 as its performance took a hit on sector concentration criteria. For three-year period ended September 30, 2006 the unbeatable Tata Income Fund retained ICRA MFR 1 for the third consecutive quarter. The scheme scored significantly on returns and average maturity parameter over next topper UTI Bond Fund. Tata
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Dynamic Bond Fund for the first time find place in MFR 1 rank. It did well on average maturity and returns parameter.
Debt-Short Term Funds Kotak Flexi Debt Fund has been the top performer in the Debt–Short Term category. The scheme is ranked ICRA MFR 1 for the fourth consecutive quarter. HDFC Cash Management Savings plus Plan retained its ICRA MFR1.Reliance Short Term Fund at third place was replaced by Kotak Bond Short Term Plan due to higher average maturity and concentrated sector exposure. Reliance Short Term fund sustained its good performance and was top performer for fourth time in row for three-year period ended September 30, 2006.Prudential ICICI STP retained its ICRA MFR 1 rank while UTI Liquid Fund Short Term Plan scaled to MFR 1 position during the quarter under review.
Floating Rate Funds LIC MF Floating Rate Fund Short Term Plan on account of its superior performance and maturity profile retained its ICRA MFR1 rank for the one year period ending September 30, 2006. DBS Chola Short Term – FRF was the new entrant in the category. The scheme performed well upon several factors under consideration. UTI Floating Rate Fund-ST preserved its MFR 1 rank but slipped one place. There were not enough schemes available in this category for three year period.
Marginal Equity Schemes The improving sentiment in debt markets and surge in equity markets benefited the marginal equity schemes or MIPs. Most of the marginal equity schemes have increased their portfolio average maturity to take the advantage of declining yields. The average equity exposure is maintained at 15-16% with most of the schemes diversifying the portfolio across a large number of companies to minimise risk.
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For the one-year horizon, the category of Marginal Equity schemes saw no major change for ICRA MFR 1 rank. HDFC MIP Fund and Prudential ICICI Income Multiplier Fund retained their top positions. However DSP ML Savings Plus-Aggressive Fund moved up the ranking ladder from ICRA MFR 2 to ICRA MFR 1 out beating Cancigo- a scheme from CanBank Mutual Fund. The scheme scored on returns and average maturity parameter. For the three-year horizon UTI Variable Investment scheme made a new entry at top spot. Cancigo Growth Plan previous quarter top performer slipped to second place in this quarter. The scheme budged on returns and corpus size parameter but manages ICRA MFR 1 rank. DSP ML Savings Plus Moderate and FT India MIP Plan A retained their MFR 2 position.
Liquid Funds Call rates ended the quarter at 7.5-7.7%. The hike in the call rates later came from the half-year closure of account and concern over short-term liquidity on account of advance tax outflows. Liquid funds posted decent returns at 1.51% for the three months ended September 30, 2006. The average portfolio maturity of the schemes in the Liquid category was around 117 days as of September end. For the one-year horizon, LIC MF Liquid Fund and Canliquid Fund secured ICRA MFR 1 rank for the fifth quarter in succession. However LICMF Liquid Fund significantly outscored over its peer Canliquid Fund on returns parameter. Reliance Liquidity Fund managed to retain its MFR 1 position in this quarter too. For the three-year horizon, the ICRA MFR 1 ranked schemes of the previous quarter, LIC MF Liquid Fund and Canliquid Fund retained their top rankings for the quarter ended September 2006.
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Gilt Funds The performance of Gilt schemes improved significantly as bond markets gained momentum. The average absolute return of the schemes in the Gilt–Long Term category for the three months ended September 30, 2006 stood at 2.39%, whereas that of ShortTerm Gilt funds was at 1.54%.
Gilt-Long Term Funds For the one-year horizon, UTI Gilt Advantage Fund–LTP Plan continued with its ICRA MFR 1 rank. Birla GPRP on account of its good performance moved from ICRA MFR 3 to MFR 2 scoring on returns and corpus size parameter. For the three-year horizon, Templeton India GSF Fund retained its ICRA MFR 1 rank. The scheme was the best performer on the return parameter.
Gilt-Short Term Funds For the one-year period, UTI G-Sec Fund-STP once again emerged as the winner. The scheme fared well on risk adjusted return and was ranked MFR 1. Prudential ICICI GFTP climbed the ranking ladder from MFR 2 to MFR 1.For the three-year horizon, Birla GPLP Fund continued with its top position on back of superior returns, corpus size parameter and ranked ICRA MFR 1.
Equity Sector-Technology Funds The returns of technology fund were comparable to their respective indices. Technology stocks notched impressive returns led by strong quarterly numbers and visibility on higher earning prospects.
Franklin Infotech Fund owing to its best performance on all the parameters under consideration secured ICRA MFR 1 rank for the one-year horizon. The ICRA MFR 1 ranked fund of the previous quarter, Birla Sunlife New Millennium Fund, slipped to ICRA MFR 3 rank. The scheme took a significant hit on risk adjusted return criteria.
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However for the three-year period ended September 2006 SBI Magnum Sector topped the charts with ICRA MFR1 rank. DSP ML Technology.com Fund, second best performer of previous quarter retained its MFR 2 position in this quarter too.
Equity Linked Savings Schemes (ELSS) HDFC Tax Saver Fund has been a consistent performer and dominated the rankings from quite some time in the ELSS category. This quarter too it secured ICRA MFR 1 rank. Birla Equity Fund turned out to be the next best performer finding place in ICRA MFR 1 category. It moved one place up to ICRA MFR 1 from MFR 2 in previous quarter replacing Principal Tax Savings Fund. The scheme did well on risk adjusted return criteria. For the longer period of three years SBI Magnum Tax gain scheme was in top gear owing to its superior performance on the return score, corpus and portfolio turnover parameters. HDFC Tax Saver Fund and Prudential ICICI Tax Plan retained their ICRA MFR 1 and ICRA MFR 2 position respectively.
Balanced Funds The rally in equity markets and momentum swing in debt markets boosted the returns of equity oriented hybrid funds. The category reported the average return of 11% in absolute terms during the September quarter. During the quarter under review 21 schemes qualified under Balanced Fund category for one year ranking. HDFC Prudence Fund maintained its lead over its peers and was ranked ICRA MFR 1.The scheme outscored on risk adjusted return and corpus size parameter. DSP ML Balanced Fund owing to superior performance and concentration parameter inched up to MFR 1 rank while Prudential ICICI Balanced Fund slipped to MFR 2.LIC Balanced Plan C moved up from MFR 3 to MFR 2.
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SBI Magnum Balanced Fund yet again notched the top position for three year period. The fund performed well on the return score. HDFC Prudence Fund retained its ICRA MFR 1 rank while Kotak Balanced Fund climbed to MFR 2.
Index Funds In Index fund category, UTI Nifty Fund retained its top position for the third quarter in a row in one year period. The scheme did well on both tracking error and corpus size criteria. For the three year period too UTI Nifty Fund topped the rankings. Birla Index Fund was the next best performer. A relatively low score on tracking error and corpus size parameter prevented it from attaining the ICRA MFR 1 rank.
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BIBLIOGRAPHY
1. NCFM Study Material (AMFI Mutual Fund Guide)
2. 3.
www.Mutualfundsindia.com (Icra online website) www.Religare.com
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doc_825206282.doc
about mutual funds
N. L . DALMIA INSTITUTE OF MANAGEMENT STUDIES AND RESEARCH,MUMBAI
MUTUAL FUNDS INDUSTRY A WINNER
SUBMITTED BY: VISHAL BESWAL MMS (FINANCE
PROJECT GUIDE: PROF. ANIL GOR:
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ACKNOWLEDGEMENT
With a deep sense of gratitude I would like to thank each and every person who has contributed towards the successful completion of the project work. I owe a special thank to my project guide Prof. Anil Gor for providing me with the valuable insights in to the projects. It was an immensely rewarding experience working with him.
VISHAL BESWAL
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CERTIFICATE
This is to certify that Mr. Sandeep Moholkar student of Masters in Management Studies (Finance) batch of N. L. Dalmia Institute of Management Studies and
Research has satisfactorily completed the final project on “Market Risk Management” under our supervision and guidance as partial fulfillment of requirement of Masters in Management Studies course, Mumbai University, for the academic year 2005-07.
Signature: Project Guide Prof. Anil Gor
Signature: Director Prof. P. L. Arya.
Place: Mumbai Date:
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1. Executive Summary
The Mutual Fund industry in India, came to Planet Earth, with the setting up of the Unit Trust of India (UTI) in 1964 by the Government of India. Like all other Mutual Funds globally, the goals set for me were similar: money from retail collective investments was pooled together with the intention of investing it in a range of securities and debt instruments. The profits and income were to be shared proportionately by the investors who had invested with the Funds. UTI, a non-profit organisation, grew to be a dominant player in the Indian financial services industry with assets of over Rs. 72,000 crore as of March 31, 1998. This respectfully- treated organisation, created a nervous panic among its followers, as it hit the headlines of all economic dailies in October '98 for all the wrong reasons.
My foreign wealthy counterpart in the US, born in 1920 and is today worth more than US $ 4 trillion, and is fawned upon by householders in America. Back in India, as I was still teething, in 1987, commercial banks and insurance companies were permitted to launch schemes. The schemes were sacrosanct cows, next only to gold and bank deposits. I collectively garnered over Rs. 6,000 crore and was received well, as many of the schemes went ahead offering assured returns with lucrative tax saving baits thrown in. After all, am I to blame for this gilded image? The boom period in 1991-92 saw the mutual funds mobilise a record Rs.14, 000 crore. Moving in tandem with the setback in the stock market in 1992, the gross mobilisation of the Mutual Funds fell to Rs.9, 500 crore. The period also witnessed the entry of foreign institutional investors into the arena of portfolio investments. As is the inherent nature of the mutual funds industry, my performance is directly related to the capital market, and to overall economic progress. The Indian economy showed mixed results during the past ten years. It recorded the highest ever-real growth rate of
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over 10% in 1988-89. However, the situation rapidly changed during and culminated in the lowest real GDP growth and was beset with a foreign exchange crisis in 1991. The liberalisation process then began largely as a result of economic compulsions. The country has averaged a steady growth of around 6% p.a. in real GDP in the past five years. The overall household savings in the economy increased. However, the favoured holding remained the unimaginative shiny yellow metal called gold. During the period 1992-95, the financial market was again upbeat, which lead to a tremendous growth in the primary market. Annual mobilisation from equity issues crossed Rs.36,000 crore in 1994-95, as against Rs.18,100 crore raised in 1992-93. As expectations from equities soared, Mutual Funds mobilisation remained high during the period 1993-95. Many private sector mutual funds entered the industry. The number of equity-based mutual funds grew, these were aggressively sold, without much attention being paid to educate the retail investors about the volatility of this category. The period also witnessed high premiums being paid, not only for primary issues, but also on Mutual Fund investments. As retail investors were driven by greed, media-hype and the bull-run, the risk associated with most investment was probably the last thing on their minds. The great financial crash of October 1994, saw a major bear spell enveloping the capital market. It continues till date. Many mutual funds failed to meet their projections in terms of returns. Retail investors watched, as their investments in the secondary market and in several of the Mutual funds depreciated, and even the capital invested in speculative stocks was lost. The capital market was also infected with scams involving crores encompassing large brokers & banks, all of which rattled the confidence of the investors. This continued prevalence of bearish conditions hit the mutual funds. During 1996-97, Mutual Funds resource mobilisations (at around Rs.5,232 crore) was at a six year low. However, in 1998, the resource mobilisation witnessed a renewed growth. As of March 31, 1998 there were over 30 Mutual Fund organisations in India managing over Rs. 1,00,000 crores through over 250 schemes. Currently, there are over 34 Mutual Fund organisations in India managing over Rs. 1,02,000 crores.
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MUTUAL FUNDS One industry, which has undergone the most dramatic transformation in the post liberalisation era of the nineties, is the financial services sector and in particular, the mutual funds industry. There has been a paradigm change in the quality and quantity of product and service offerings. The history of Indian mutual fund industry can be broadly divided into two phases: ? The period before liberalisation when only public sector players existed with one dominate player Unit Trust of India. ? The post-liberalization era where the industry was opened up to private players.
Definition: A Mutual Fund is an institution/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 realised 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 advantages of investing in a Mutual Fund are: • • • • • • • Professional Management Diversification Convenient Administration Return Potential Low Costs Liquidity Transparency
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• • • •
Flexibility Choice of schemes Tax benefits Well regulated
Types of mutual fund schemes: Wide variety of Mutual Fund Schemes exists to cater to the needs such as financial position, risk tolerance and return expectations etc. The table below gives an overview into the existing types of schemes in the Industry.
MUTUAL FUND SCHEMES
BY STRUCTURE
ON INVESTMENT OBJECTIVE OTHER SCHEMES -Growth schemes - Income schemes - BALANCED SCHEMES - Money market schemes -Tax-saving schemes - Special schemes: # Index schemes # Sector specific # Exchange traded fund
- Open-ended schemes - Closed-ended schemes - Interval schemes
Working of Mutual Fund: The investors pool their money and give it to the fund managers and they are responsible for the better fund management whereby they invest in the securities and help the investors to get better returns. These returns are passed back to the investors. To achieve better return and have good choice the investors have to beforehand follow a few basic rules of investing: 1. Diversify your investments; 2. Understand the relationship between risk and reward; 7
3. Maintain realistic expectations about investment performance; 4. Keep short-term market movements in perspective; 5. Consider the impact that fees and taxes will have on your investment return; and 6. Remember that an investment's past performance is not necessarily indicative of its future results.
INVESTO RS Passed back to with pool their Money
FUND
RETURNS
MANAGERS
Generate
SECURITIES
Invest in
OPERATION OF MUTUAL FUND There are many entities involved in the organisation of mutual fund and the diagram below illustrates the organisational set up of a mutual fund:
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UNIT
Sponsor
Trustee Mutual fund Custodian SEBI
AMC Transfer agents
ORGANISATION OF A MUTUAL FUND A mutual fund is a common pool of money into which investors place their contributions that are to be invested in accordance with a stated objective. The ownership of the fund is thus joint or “mutual”; the fund belongs to all investors. A single investor’s ownership of the fund is in the same proportion as the amount of contribution made by him or her bears to the total amount of the fund. A mutual fund uses the money collected from investors to buy those assets which are specifically permitted by its investment objective. Thus, an equity fund would buy mainly equity assets- ordinary shares, pref.shares, warrents etc. A bond fund would mainly buy debt instrument such as debentures, bonds or govt.securities. HISTORY Birth place of M.Fs is USA. Here the fund industry has already overtaken the banking industry, more funds being under mutual fund management than deposited with bank.
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In India, MF industry started with inception of UTI in 1964. the industry over the year has grown to cross Rs.1,00,000Crs of assets under management with about 400 different types of schemes covering all asset classes-equity,debentures,govt.securities& money market instruments. In 1987 bank’s sponsored MFs entered the market bringing competition. SBI established first non UTI MF- SBI MF in NOV.1987, followed by CAN Bank in DEC.1987. In1989, financial institution sponsored MF entered the mkt. LIC was the first FI to enter the market. Then GIC entered the market. From 1994, pvt. Sector players also entered the MF market. PLAYERS IN MF INDUSTRY IN INDIA • • • • • • • • • • • • • • • • • • ABN Amro MF Alliance Capital MF Benchmark MF Birla MF BOB MF Canbank MF Chola MF Deutsche MF DSP Merrill Lynch Fund Managers Escorts MF Fidelity MF GIC MF HDFC MF HSBC MF ING Vysya MF JM MF Kotak Mahindra MF LIC MF 10
• • • • • • •
Principal MF Reliance Capital MF Sahara MF SBI MF Taurus MF Tempelton MF UTI-II (UTI AMC(P)Ltd.)
WHY MUTUAL FUNDS? Mutual Funds are becoming a very popular form of investment characterised by many advantages that they share with other forms of investment characterised by many advantages that they share with other forms of investments and what they possess uniquely themselves. The primary objectives of an investment proposal would fit into one or combination of the two broad categories, i.e., Income and Capital gains. How mutual fund is expected to be over and above an individual in achieving the two said objectives is what attracts investors to opt for mutual funds. Mutual fund route offers several important advantages. ADVANTAGES OF MF In India, if mutual funds are emerging as the favourite investment vehicle, it is because of the many advantages they have over other forms & avenue of investing, particularly for the investor who has limited resources available in term of capital & ability to carry out detailed research & market monitoring. Other advantages of MF are as follows: • • • PORTFOLIO DIVERSIFICATION PROFESSIONAL MANAGEMENT REDUCTON/ DIVERSIFICATION OF RISK
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• • • • • • •
REEDUCTION OF TRANSCATION COSTS LIQUIDITY CONVENIENCE & FLEXIBILITY RETURN POTENTIAL CHOICES OF SCHEME TAX BENEFIT TRANSPRANCY
DISADVANTAGES OF MF • • NO CONTROL OVER COST MANAGING A PORTFOLIO OF FUNDs
Availability of a large number of funds can actually mean too much choice for the investor. He may again need advice to achieve his objective, quite similar to the situation when he has to select individual shares or bonds to invest in.
3. CLASSIFICATION OF MUTUAL FUND SCHEMES Any mutual fund has an objective of earning income for the investors’ and/ or getting increased value of their investments. To achieve these objectives mutual funds adopt different strategies and accordingly offer different schemes of investments. On these basis the simplest way to categorize schemes would be to group these into two broad classifications: Operational Classification and Portfolio Classification. Operational classification highlights the two main types of schemes, i.e., open-ended and close-ended which are offered by the mutual funds. Portfolio classification projects the combination of investment instruments and investment avenues available to mutual funds to manage their funds. Any portfolio scheme can be either open ended or close ended.
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A.
Operational Classification
(a) Open Ended Schemes: As the name implies the size of the scheme (Fund) is open – i.e., not specified or pre-determined. Entry to the fund is always open to the investor who can subscribe at any time. Such fund stands ready to buy or sell its securities at any time. It implies that the capitalization of the fund is constantly changing as investors sell or buy their shares. Further, the shares or units are normally not traded on the stock exchange but are repurchased by the fund at announced rates. Open-ended schemes have comparatively better liquidity despite the fact that these are not listed. The reason is that investor can any time approach mutual fund for sale of such units. No intermediaries are required. Moreover, the realizable amount is certain since repurchase is at a price based on declared net asset value (NAV). No minute-to-minute fluctuations in rates haunt the investors. The portfolio mix of such schemes has to be investments, which are actively traded in the market. Otherwise, it will not be possible to calculate NAV. This is the reason that generally open-ended schemes are equity based. Moreover, desiring frequently traded securities, open-ended schemes hardly have in their portfolio shares of comparatively new and smaller companies since these are not generally traded. In such funds, option to reinvest its dividend is also available. Since there is always a possibility of withdrawals, the management of such funds becomes more tedious as managers have to work from crisis to crisis. Crisis may be on two fronts, one is, that unexpected withdrawals require funds to maintain a high level of cash available every time implying thereby idle cash. Fund managers have to face questions like ‘ what to sell’. He could very well have to sell his most liquid assets. Second, by virtue of this situation such funds may fail to grab favourable opportunities. Further, to match quick cash payments, funds cannot have matching realisation from their portfolio due to intricacies of the stock market. Thus, success of the open-ended schemes to a great extent depends on the efficiency of the capital market. (b) Close Ended Schemes: Such schemes have a definite period after which their shares/ units are redeemed. Unlike open-ended funds, these funds have fixed capitalisation, i.e., their corpus normally does not change throughout its life period. Close ended fund units trade among the investors in the secondary market since these are to be quoted on the stock exchanges. Their price is determined on the basis of demand and supply in the 13
market. Their liquidity depends on the efficiency and understanding of the engaged broker. Their price is free to deviate from NAV, i.e., there is every possibility that the market price may be above or below its NAV. If one takes into account the issue expenses, conceptually close ended fund units cannot be traded at a premium or over NAV because the price of a package of investments, i.e., cannot exceed the sum of the prices of the investments constituting the package. Whatever premium exists that may exist only on account of speculative activities. In India as per SEBI (MF) Regulations every mutual fund is free to launch any or both types of schemes. B. Portfolio Classification of Funds:
Following are the portfolio classification of funds, which may be offered. This classification may be on the basis of (a) Return, (b) Investment Pattern, (c) Specialised sector of investment, (d) Leverage and (e) Others.
(a) Return based classification: To meet the diversified needs of the investors, the mutual fund schemes are made to enjoy a good return. Returns expected are in form of regular dividends or capital appreciation or a combination of these two. i. Income Funds: For investors who are more curious for returns, Income funds are floated. Their objective is to maximise current income. Such funds distribute periodically the income earned by them. These funds can further be splitted up into categories: those that stress constant income at relatively low risk and those that attempt to achieve maximum income possible, even with the use of leverage. Obviously, the higher the expected returns, the higher the potential risk of the investment. ii. Growth Funds: Such funds aim to achieve increase in the value of the underlying investments through capital appreciation. Such funds invest in growth-oriented securities, which can appreciate through the expansion production facilities in long run. An investor who selects such funds should be able to assume a higher than normal degree of risk. iii. Conservative Funds: The fund with a philosophy of “ all things to all” issue offer document announcing objectives as: (i) To provide a reasonable rate of return, (ii) To 14
protect the value of investment and, (iii) To achieve capital appreciation consistent with the fulfillment of the first two objectives. Such funds, which offer a blend of immediate average return and reasonable capital appreciation, are known as “ middle of the road” funds. Such funds divide their portfolio in common stocks and bonds in a way to achieve the desired objectives. Such funds have been most popular and appeal to the investors who want both growth and income.
(b) Investment Based Classification: Mutual funds may also be classified on the basis of securities in which they invest. Basically, it is renaming the subcategories of return based classification. i. Equity Fund: Such funds, as the name implies, invest most of their investible shares in equity shares of companies and undertake the risk associated with the investment in equity shares. Such funds are clearly expected to outdo other funds in rising market, because these have almost all their capital in equity. Equity funds again can be of different categories varying from those that invest exclusively in high quality ‘blue chip’ companies to those that invest solely in the new, unestablished companies. The strength of these funds is the expected capital appreciation. Naturally, they have a higher degree of risk. ii. Bond Funds: such funds have their portfolio consisted of bonds, debentures, etc. this type of fund is expected to be very secure with a steady income and little or no chance of capital appreciation. Obviously risk is low in such funds. In this category we may come across the funds called ‘Liquid Funds’ which specialise in investing short-term money market instruments. The emphasis is on liquidity and is associated with lower risks and low returns. iii. Balanced Fund: The funds, which have in their portfolio a reasonable mix of equity and bonds, are known as balanced funds. Such funds will put more emphasis on equity share investments when the outlook is bright and will tend to switch to debentures when the future is expected to be poor for shares.
(c) Sector Based Funds: 15
There are number of funds that invest in a specified sector of economy. While such funds do have the disadvantage of low diversification by putting all their all eggs in one basket, the policy of specialising has the advantage of developing in the fund managers an intensive knowledge of the specific sector in which they are investing. Sector based funds are aggressive growth funds which make investments on the basis of assessed bright future for a particular sector. These funds are characterised by high viability, hence more risky. MUTUAL FUND CLASSIFICATIONS: • • • Open-end & Closed-end Funds Load & No-load Funds Tax-exempt &Non-tax-exempt Funds
OPEN-END & CLOSED-END FUNDS: An open-end fund is one that has units available for sale & repurchase at all time. An investor can buy or redeem units from the funds itself at a price, based on the NAV per unit. The no. of units outstanding goes up or down every time the funds issues new units or repurchase existing units. In other words, ‘the unit capital’ of an open-end fund is not fixed but variable. The fund size & its total investment amount goes up if more new subscription come in the form new investor than redemption by existing investors; the fund shrinks when redemption of units exceed fresh subscription It is important to note that an open-end fund is not obliged to keep selling/issuing new units at all time & many successful funds stop issuing new units after they reach a certain size & think they can’t manage a larger fund without adversely affecting profitability.
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On the other hand, an open-end fund rarely denies to its investors the facility to redeem existing units, subject to certain obvious condition. Unlike an open-end fund, the ‘unit capital’ of a closed-end fund is fixed, as it makes a one-time sale of a fixed number of units. Unlike open-end funds, closed-end funds don’t allow investors to buy or redeem units directly from funds. However, to provide the much-needed liquidity to investors, many closed-end funds get themselves listed on a stock exchange. Here it is important to note that no. of outstanding units of a closed-end fund doesn’t vary on account of trading in the funds unit at the stock-exchange. LOAD & NO-LOAD FUNDS Marketing of a new fund involve initial expenses. Charges made by the fund manager to recover these selling/marketing/distribution expenses are called load. SEBI has defined a ‘load’ as the one-time fee payable by the investor to allow the fund to meet initial issue expenses. Including brokers/agents/distributors commission, advertisement & marketing expenses. There is different type of loads: a) FRONT-END or ENTRY LOAD: The load charge to the investor at the time of his entry into scheme is called a Front-end or entry load. b) DEFERRED LOAD: The load amount charged to the scheme over a period of time is called a Deferred load. c) BACK- END or EXIST LOAD: The load that investor pays at the time of his exist is called a Back-End or Exist
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Load. Funds that charges front-end, back-end or deferred loads are called LOAD FUNDS. Funds that make no such charges or loads are called NO-LOAD FUNDS. SEBI regulations allow AMC to recover loads from investor up to a certain limit. This limit currently stands at 6%. This means that initial issue expenses shouldn’t 6% of the initial corpus mobilized during the initial offer period. TAX-EXEMPT & NON-TAX-EXEMPT FUNDS When a fund invests in tax-exempt securities, it is called TAX-EXEMPT FUNDS. When a fund invests in a taxable securities, it is called NON- TAX-EXEMPT FUNDS. In India, after the 1999 Union Govt. Budget all the dividend income received from any of the mutual funds is tax-free in the hands of investors. However funds other than equity funds have to pay distribution tax before distributing income to investors. MUTUAL FUND TYPES: (A) MONEY MARKET FUNDS: Money Market Funds invest in securities of a short-term nature, which generally means securities of less than 1 year maturity. These type of funds generally invest in treasury bills issued by govt., certificate of deposit issued by banks, commercial paper issued by co. & inter-bank call money market. Examples- PruICICI Liquid Fund, Reliance Short Term Fund, Reliance Liquid Fund, Kotak Liquid Fund, Magnum Insta Cash Fund, Principal Cash Management Fund, UTI Money Market Fund. (B) GILT FUNDS:
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Gilts Funds invest in govt. securities. Here, since the issuer is govt./s of India/states, these funds have little risk of default & better protection of principal. Examples- Pru ICICI Gilt-Treasury Fund, Pru ICICI Gilt-Investment Fund, Reliance Gilt Securities Fund, Kotak Gilt Fund, Magnum Gilt Fund, Birla Gilt Plus Fund, UTI G-Securities Fund. (C) DEBT FUNDS: Debts Funds invest in debt instrument issued not only by govt., but also by pvt. Cos, banks & financial institution etc.. By investing in debts, these funds target low risk & stable income for investors. However as compared to money market funds, they do have a higher price fluctuation risk, since they invest in longer-term securities. Debts funds are largely considered as Income funds as they don’t target capital appreciation look for high current income & therefore distribute a substantial part of their surplus to investor. Examples-Pru ICICI Income Plan, Reliance Medium Term Fund, Magnum Income Fund, Principal Income Fund. Debts Funds are of different type: (1)DIVERSIFIED DEBT FUNDS: A debt fund that invests in all available type of debt securities, issued by entities across all industries & sectors is a properly diversified debt fund. A diversified debt fund has the benefit of risk reduction through diversification & sharing of any default-related losses by a large number of investors. (2) FOCUSSED DEBT FUNDS: These types of funds have a narrower focus, with less diversification in its investment. These types of funds invest only in corporate deb. & bonds or only in taxfree infrastructure or municipal bonds.
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(3)HIGH YIELD DEBT FUNDS: These type of funds seek to obtain higher interest return by investing in debt instrument that are considered “below investment grade”. Clearly, these funds are exposed to higher risk. Examples: Birla Dividend Yield Plus, Tata Dividend Yield Fund. (D) ASSURED RETURN FUNDS : These types of funds are prelevent in India. These type of funds offered “assured rtn.”scheme to investors. Returns are indicated in advance for all the future of these closed-end schemes. If there is any shortfall, it is borne by sponsors. Examples: Monthly Income Plan of UTI. Pru ICICI MIP, Reliance MIP, Magnum MIP, Birla MIP. (E) FIXED TERM PLAN SERIES: A mutual fund scheme normally is either open-end or closed-end. Fixed term Plan series offer a combination of both these features to investors as a series of plans are offered & units are issued at frequent intervals for short plan duration. (F) EQUITY FUNDS : These type of funds mainly invest in equity market. Equity funds are of different types. These are following: (a)AGGRESSIVE GROWTH FUNDS: This type of funds target max. capital appreciation ,invest in less researched stock that are considered to have future growth potential & may adopt speculative investment strategies to attain their objective of high return for the investors. Examples: Birla Midcap Fund, Franklin India Prima Fund, HDFC Capital Builder Fund, Kotak Opportunities Fund. years
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(b) GROWTH FUNDS: These types of funds invest in companies whose earning are expected to rise at an above avg. rate. These companies may be operating in sectors like tech. considered to have a growth potential, but not entirely unproven & speculative .The primary objective of growth fund is capital appreciation over three to five years span. Examples: Pru ICICI Power Fund, Kotak 30 Fund, Magnum Equity Fund, Tata Growth Fund, Principal Growth Fund. (c) SPECIALTY FUNDS: These funds have a narrow portfolio orientation & invest in companies that meet predefined criteria. These are also of different types:-. (c1) SECTOR FUNDS: These funds portfolios consist of investment in only one industry or sector of the market such as IT or Pharma or FMCG. Since sector funds don’t diversify into multiple sectors; they carry a higher level of sector & company specific risk than diversified equity funds. Examples: Pru ICICI FMCG Fund, Pru ICICI Technology Fund, Kotak Technology Fund, Tata Infrastructure Fund. (c2)OFFSHORE FUNDS: These funds invest in equities in one or more foreign countries there by achieving diversification across the country’s border. However they also have additional risks such as the foreign exchange rate risk & their performance depend on the economic condition of the country they invest in.
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(c3)SMALL-CAP EQUITY FUNDS: These funds invest in shares of companies with relatively lower market capitalization than that of big, blue chip companies. They may thus be more volatile than other funds, as smaller companies share are not very liquid in market. (c4)OPTION INCOME FUNDS: These funds write options on a significant of their portfolio. These funds invest in large dividend paying companies & then sell options against their position.
(d) DIVERSIFIED EQUITY FUNDS: A fund that seeks to invest only in equity, but is not focused on any one or few sectors or shares may be a termed a diversified equity fund. (e) EQUITY INDEX FUNDS: These funds track the performance of a specific stock market index. The objective of these funds is to match the performance of stock market by tracking an index that represents the overall market. Examples: Pru ICICI SPIcE Fund, Magnum Index Fund, Birla Index Fund, Tata Index Fund. (f) VALUE FUNDS: These funds try to seek out fundamentally sound companies whose shares are currently under-price in the market. These funds will add only those shares to their portfolio that are selling at low price-earning ratios, low market to book value ratios & are undervalued by other yardsticks. Examples: Prudential ICICI Discovery Fund, Tempelton India Growth Fund.
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(g) EQUITY INCOME FUNDS: These funds are designed to give the investors a high level of current income along with some steady capital appreciation, investing mainly in shares of companies with high dividends yields. These funds are therefore less volatile &less risky than nearly all other `equity funds. (h) BALANCED FUNDS: A balanced fund is one that has a portfolio comprising debt instrument, convertible securities, pref. shares, equity shares. Their assets are generally held in more or less equal proportions between debt/money market securities & equities. Examples: Pru ICICI Balance Plan, Kotak Balanced Fund, Birla Balance Fund, Tata Balanced Fund, Principal Fund.
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STRUCTURE OF MUTUAL FUNDS IN INDIA In India, open &closed-end funds operate the same regulatory structure – as units. Therefore, a mutual fund may have several different schemes (open &closed-end) under it. The structure which is required to be followed by mutual funds in India is laid down under SEBI (Mutual Fund) Regulations, 1996
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FUND SPONSER TRUSTS
TRUSTEES
A.M.C
Custodian & Depositors
BANKERS
TRANSFER AGENTS
DISTRIBUTERS
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(A) FUND SPONSER: The sponsor of a fund is akin to the promoter of a company as he gets the fund registered with SEBI. The sponsor appoints a Board of Trustees. As per SEBI regulation for a person to qualify as a sponsor; he must contribute of at least 40% of the net worth of AMC & posses a sound financial track record over 5 years prior to registration. (B) TRUSTS: A mutual fund in India is constituted in the form of a Public Trust created under the Indian Trusts Act 1882. Trust or the fund has no independent legal capacity itself, rather it is the trustees who have the legal capacity & therefore all acts in relation to the trust are taken on its behalf by the trustees. (C) TRUSTEES: Most of the funds in India are managed by the Board of Trustees. These trustees are governed by the provisions of the Companies Act, 1956. These trustees don’t directly manage the portfolio of securities. For this specialist function, they appointment an AMC. The trustees being the primary guardian of the unit-holders funds & assets, so trustees have to be a person of a high repute & integrity. They must ensure that the investor’s interest is safeguarded & that the AMCs operations are along professional line.
RIGHTS OF TRUSTEES: (1) They appoint the AMC with the prior approval of SEBI. (2) They approve each of the schemes floated by the AMC. (3) They have the right to request any necessary information from the AMC concerning the operations of various schemes managed by the AMC as often
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as required to ensure that the AMC is in compliance with the Trust Deed &the regulation. (4) They have right to take remedial action if they believe that the conduct of the funds business is not accordance with SEBI regulation. (5) They have the right to ensure that, based on their quarterly review of the AMC’s net worth; any shortfall in the net worth is made up by the AMC. OBLIGATION OF TRUSTEES: (1) They must enter into an investment management agreement with the AMC. (2) They must ensure that the funds transaction is in accordance with the trust deed. (3) They are responsible for ensuring that the AMC has proper system & procedure in place & has appointed key personal including Fund manager & Compliance officer. (4) They must ensure that the AMC is managing scheme independent of other activities & that the interest of unit-holders is not compromised with those of other schemes/activities.
(D) ASSET MANAGEMENT COMPANY(AMC): The role of an AMC is to act as the Investment Manager of the Trust. The AMC, in the name of the trust, float & then manage the different investment scheme as per SEBI regulations & as per the investment management agreement it signs with the trustees. The AMC of a mutual fund must have a net-worth of at least Rs. 10 crs. at all times. Directors of the AMC, both independent & non-independent, should have adequate professional experience in financial service & should be individual of high moral standing. The AMC cannot act as a trustee of any other mutual fund. OBLIGATION OF THE AMC &ITS DIRECTORS:
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AMC & its directors must ensure that: (1) Investment of funds is in accordance with SEBI regulation & the trust deed. (2) They take responsibility for the acts of its employees & other whose services it has procured. (3) They are answerable to the trustees & must submit quarterly reports to them on AMC activities & compliance with SEBI regulation. (4) They don’t undertake any other activity conflicting with managing the fund. (5) They will float scheme only after obtaining the prior approval of the trustees &SEBI. (6) If AMC uses the services of a sponsor, associate or employees, it must make appropriate disclosure to unit-holders, including the amount of brokerage or commission paid. (7) They will make the required disclosures to the investors in areas such as calculation of NAV & repurchase price. (8) Each day’s NAV is updated on AMFI’s website by 8 p.m of the relevant day.
(E)CUSTODIAN & DEPOSITERS: Mutual funds are in the business of buying & selling of securities in large volumes. Handling these securities in terms of physical delivery & eventual safekeeping is therefore a specialized activity. The custodian is appointed by the board of trustees for safekeeping of physical securities or participating in any clearing system through approved depository companies on the behalf of the mutual fund in case of dematerialized securities. The custodian should be an entity independent of the sponsors is required to be registered with SEBI. A mutual funds dematerlised securities holding is held by a depository through a depository participants. Mutual funds physical securities are held by a custodian.
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(F)BANKERS: A fund’s activities involve dealing with money on a continuous basis primarily with respect to buying & selling units, paying for investment made, receiving the proceeds on sale of investments & discharging its obligations towards operating expenses. A funds bankers therefore play a crucial role with respect to its financial dealing by holding its bank accounts & providing it with remittance service. (G) TRANSFR AGENT: They are responsible for issuing & redeeming units of the mutual fund & provide other related services such as preparation of transfer documents & updating investor records.
(H) DISTRIBUTERS: Since, mutual fund operates as collective investment vehicles, on the Principle of accumulating funds from a large numbers of investors & then investing on a big scale. For these activities, distributors are appointed. Anyone from individual agent to large bank can become distributor.
REGULATORS IN INDIA : (1) SEBI (2) RBI (3) MINSTRY OF FINANCE (4) COMPANY LAW BOARD (5) STOCK EXCHANGE (6) OFFICE OF THE PUBLIC TRUSTEE
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(1) SEBI: SEBI is the apex regulator of all entities that raise funds in the capital market or invest in capital market securities. Mutual funds have emerged as an important institutional investor in capital market securities. Hence, they come under the purview of SEBI. SEBI require all mutual funds to be registered with them. It issues guidelines for all mutual fund operations including where they can invest, what investment limits & restriction must be complied with, how they should make disclosure of information to the investor protection. (2) RBI : MONEY MARKET REGULATOR (A) AS SUPERVISOR OF BANK-OWNED MUTUAL FUND: Operation
of bank-owned mutual funds is governed by guidelines issued by the RBI. But is important to note that Bank-owned MF is under the joint supervision of both RBI & SEBI. It is generally understood that all market related & investor related activities of the funds are to be supervised by SEBI, while any issue concerning the ownership of the AMCs by bank fall under the regulatory ambit of RBI. (B) AS SUPERVISOR OF MONEY MARKET MUTUAL FUND: RBI is
the only govt. agency that is charged with the sole responsibility to control the money supply in the country. Therefore, it has the sole supervisory responsibility over all the entities that operate in the money market, be it bank or companies that issue securities such as certificate of deposit or commercial paper or bank & mutual funds who are allowed to borrow from or lend in the call money market. (3) MINISTRY OF FINANCE : The ministry of finance, which is charged with implementing the govt. policies, ultimately supervises both the RBI & the SEBI.
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Besides being the ultimate policy making & supervising entity, the MoF has also been playing the role of an Appellate Authority for any major disputes over the SEBI guidelines. (4) COMPANY LAW BOARD : Mutual Fund, AMC & Corporate trustees are companies registered under companies Act, 1956 & therefore answerable to regulatory authorities empowered by the Companies Act. (5) STOCK EXCHANGE : Stock Exchange is self-regulatory organization supervised by SEBI. Many closed-end schemes of mutual funds are listed on one or more stock-exchanges. Such schemes are subject to regulation by the concerned stock-exchange through a listing agreement between the fund & stock-exchange. (6) OFFICE OF THE PUBLIC TRUSTEE : Mutual fund, being public trust is governed by Indian Trust Act, 1882. The Board of Trustees or the trustee company is accountable to thee office of public trustee, which in turn reports to the charity commissioner.
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WHO CAN INVEST IN MUTUAL FUNDS IN INDIA : Mutual Funds in India are open to investment by (a) Residents Including (1)Resident Indian Individuals (2) Indian Companies (3) Indian Trusts/ Charitable Institutions (4) Bank (5) Non-Banking Finance Companies (6) Insurance companies (7) Provident Funds (b) Non-Residents Including (8) NRIs (9) Overseas Corporate Bodies (c) Foreign Entities,viz (10) FIIs registered with SEBI Foreign citizen/entities are however not allowed to invest in mutual funds in India.
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Mutual Fund Distribution: “The penetration of mutual funds in rural areas is relatively lower with 13.7 per cent of urban households owning mutual funds as against only 3.8 percent of rural households," says Union finance secretary D.C. Gupta, “The government is creating a conducive atmosphere to facilitate an aggressive penetration of the mutual fund industry into the rural areas to tap its vast savings potential.” In all this the existing distribution process plays a key role. The latest SEBI data indicates that two-thirds of gross mutual fund sales in the country were in Mumbai; that 8 cities (Mumbai, Kolkata, Delhi, Chennai, Bangalore, Pune, Ahmedabad and Hyderabad) accounted for 94 per cent of total sales; and that the top 50 cities and towns accounted for 99.4 per cent of total sales. Consequently, the investor base for mutual funds is highly skewed towards a modest number of cities, in comparison to the investor base for equities which is more diversified across the country.
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Problems of Existing Distribution Process Flow
The existing infrastructure which facilitates mutual fund transactions is owned and operated in part by individual mutual funds and in part by the registrars operating in the industry. An individual registrar’s infrastructure is common to all its clients.
Existing Transaction Process Flow of Mutual Fund
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Transformation phase (1993-2003 Entry of Private Sector Funds): 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 erstwhile Kothari Pioneer (now merged with Franklin Templeton) was the first private sector mutual fund registered in July 1993. 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. The total asset under management of mutual fund industry has increased by 11% from Rs 231358 crore to Rs 257528 crore as of April end. The rise in assets could be attributed to accretions in liquid fund assets. April also saw a change in pecking order, with Prudential ICICI Mutual Fund regaining its top slot among private sector funds in terms of AUM. Reliance Mutual Fund slipped to third position with total asset under management at Rs 26420 crore. UTI retained its top position with total assets under management at 30108 crore. Top 3 mutual funds at the end of april-06: 1. UTI AMC. PVT. LTD. 2. PRUDENTIAL ICICI MF PVT. LTD. 3. RELIANCE MUTUAL FUND. Rs. 30108 crore Rs. 27504 crore Rs. 26420 crore
Last 40 years data shows that the Mutual fund in India has experienced only a year downturn. There was a sudden downfall during the year of transformation called phase three of mutual fund era in India where it dropped down from Rs.121805 crore to Rs. 87190 crore in one month period. The period is divided into four phases: • • • PHASE I PHASE II PHASE III - Mar-1965 to Mar-1987 - Mar- 1987 to Mar-1993 - Mar-1993 to Mar-2003
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•
PHASE IV
- Mar- 2003 till date
:GROWTH IN ASSETS UNDER MANAGEMENT
As at the end of September, 2006, there were 32 funds, which manage assets of over Rs.250000 crores under 421 schemes.
The specification of 29 mutual funds in India:
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Sr. No. Name of the Asset Management Company ( AUM ) (Rs. in Crore) A .BANK SPONSORED (i) Joint Ventures - Predominantly Indian 14506 Total A (i) 14506 (ii) OTHERS 221 3327 30109 Total A (ii) 33657 Total A (i + ii) 48163 B .INSTITUTIONS 1. Jeevan Bima Sahayog Asset Management Co. Ltd. 6134 Total B 6134 1. BOB Asset Management Co. Ltd. 2. Canbank Investment Management Services Ltd. 3. UTI Asset Management Company Pvt. Ltd. 1. SBI Funds Management Pvt. Ltd.
C.PRIVATE SECTOR (i) INDIAN 782 2146 168 2784 10985 30 26420 254 10652
1. Benchmark Asset Management Co. Pvt. Ltd. 2. Cholamandalam Asset Management Co. Ltd. 3. Escorts Asset Management Ltd. 4. J.M.Financial Asset Management Pvt. Ltd. 5. Kotak Mahindra Asset Management Co. Ltd. 6. Quantum Asset Management Co. Pvt. Ltd. 7. Reliance Capital Asset Management Ltd. 8. Sahara Asset Management Co. Pvt. Ltd. 9. Tata Asset Management Ltd.
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10. Taurus Asset Management Co. Ltd.
261 Total C (i) 54482
(ii)
JOINT VENTURES - PREDOMINANTLY INDIAN 17390 13201 22539 27504 631 Total C (ii) 84265
1. Birla Sun Life Asset Management Co. Ltd. 2. DSP Merrill Lynch Fund Managers Ltd. 3. HDFC Asset Management Co. Ltd. 4. Prudential ICICI Asset Management Co. Ltd. 5. Sundaram BNP Paribas Asset Management Company Ltd.
(iii)
JOINT VENTURES - PREDOMINANTLY FOREIGN 886 4208 3692 19639 10078 2684 3000 8946 9322 Total C (iii) 64455 Total C (i + ii +iii) 203202 Total (A + B + C) 257499
1. ABN AMRO Asset Management (India) Ltd. 2. Deutsche Asset Management (India) Pvt. Ltd. 3. Fidelity Fund Management Private Ltd. 4. Franklin Templeton Asset Management (India) Pvt. Ltd. 5. HSBC Asset Management (India) Private Ltd. 6. ING Investment Management (India) Pvt. Ltd. 7. Morgan Stanley Investment Management Pvt. Ltd. 8. Principal PNB Asset Management Co. Pvt. Ltd. 9. Standard Chartered Asset Mgmt Co. Pvt. Ltd.
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INVESTORS RIGHT: Right of proportionate ‘Beneficial ownership’: Unit-holders have the right to beneficial ownership of the scheme’s assets. They also have the right to any dividend or income declared under the scheme. Right to timely service: Unit-holders are entitled to receive dividends warrants within 30 days of dividends declared. They have the right to receive interest at 15%p.a in the event of failure on the part of mutual fund to dispatch the redemption or repurchase proceeds within 10 working days. Where any investor has failed to claim redemption proceeds or dividends due to him, he has right to do so within a period of 3 years of the due date at the prevailing NAV. After 3 years, he will be paid at the NAV applicable at the end of 3 years. For initial offers in case of open-end scheme investors have a right to expect the allotment of units & dispatch of account statement to be completed within 30 days from the closure of the issue. Right to information: They have the right to obtain from the trustees any information that may have an adverse bearing on their investment. They have the right to inspect major document of the fund. Such document includes material contracts, memorandum & articles of association of the AMC, recent audited financial statements. They have the right to receive a copy of the annual financial statement. They have the right to receive a complete statement of scheme portfolio before the expiry of 1 month from the close of each half year, unless such statement of portfolio is published in one English daily circulating in the whole India & in a newspaper published in the language of the region where the head-office of the mutual fund is situated. Right to wind up a scheme: Investors can demand the trustees to wind up a scheme prior to its fixed duration & repay the investors, if 75% of the investors pass the resolution to this effect.
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Legal limitations of investor’s rights: Unit-holders cannot sue the trust because they are not distinct from the trust. However, an investor can initiate legal proceedings against trustees, if they feel aggrieved by any action of them. The fundamental concept of a mutual fund is that investors invest at their own risk & can’t force the AMC to assure a specified level of return. Only if the offer document has specifically provided such guarantee by a named sponsor, the investor will have the right to sue the sponsor to make good any shortfall in promised return. Investor’s obligation: It is the investor’s duty to carefully study the offer-document before investing in units of a scheme. He must appreciate the fundamental attributes of the scheme, the risk factors, the rights & the funds & the sponsor’s track record. He must monitor his investment in a scheme by carefully studying the schemes financial statements, its portfolio composition & research reports published by mutual fund tracking agencies. Investors Complaints Redressal Mechanism: SEBI does entertain receipt of complaints against mutual funds & intervene with fund management to help the investor to resolve his complaints. SEBI also helps the investors in a new scheme by requiring the sponsors of a new scheme to appoint a compliance officer. It is important to note that fund investors are neither shareholders in the AMC nor the depositors. Hence, their investments can not be protected by any of these company act regulations.
OFFER DOCUMENT When an AMC or Fund sponsor wishes to launch a new scheme of a mutual fund, they are required to formulate the details of the scheme & register it with SEBI before announcing the scheme & inviting the investors to subscribe the fund. Thus the document containing the details of a new scheme that the AMC or sponsor prepares for & circulate to the prospective investors is called the prospectus or the offer document.
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The offer document of a closed-end fund is issued only once at the time of issue, as units are normally not re-purchasable from investor. The open-end mutual funds could issue & repurchase units as ongoing basis. This means that the offer document of the open-end fund is valid for all the time, until amended, though it will be first issued at the time of the launch of the scheme. In addition, an abridged version of the offer-document is usually distributed with the application form. This is called the Key Information Memorandum. SEBI regulations lay down the format for a standard offer document & key information memorandum. Mutual Funds in India are required to follow this format. Contents of the offer document: (1) Summary Information ( cover page ): The front page of the offer document provides information about the scheme ‘at a glance’. These are as follows: (a) Name of the mutual fund. (b) Name of the scheme (c) Type of the scheme (growth, income, balance) (d) Name of AMC (e) Classes of units offered for sale (f) Price of units (g) Name of guarantor in case of assured return scheme (h) Opening , closing & earliest closing date for the offer (i) A statement to the effect that the document contains information that a prospective investor should know before investing & it should be retained for future reference (j) The offer document must make the investor aware of the Risk Factors faced by the fund & thereby the investors. Risk Factors may be standard or scheme specific. Standard Risk factors are market driven & common to the entire scheme. Scheme Specific Risk depends on scheme to scheme.
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(2)
Financial Information : The offer document must contain information on expenses estimated to be incurred by the scheme. Following items must be including: (a) Sales load, contingent deferred sales charges, redemption load & switchover/exchange fee, all as % of NAV. (b) Details of initial issue expenses for the scheme & for other scheme launched during the last one fiscal years by the AMC. (c) Estimated annual recurring expenses as % of average weekly net assets. (d) For all schemes launched by the fund during the last 3 fiscal years :NAV at the beginning /end of the year, net income per unit, dividends, transfer to reserve, annualized return & ratio of recurring expenses to net assets. (e) Information on borrowing by the fund at the end of the last fiscal year.
(3)
Constitution of the Mutual Fund: The following information should be included in this section: (a) Brief description of the objectives of the fund (b) Functions & responsibilities of its constituents: sponsor, AMC, trustees& custodian. (c) Activities of the sponsor & its financial performance for the last 3 years. (d) Name & addresses of the board of the trustees/directors of the trust. (e) Summary of the trust deed provisions. NET ASSET VALUE (NAV) : NAV= Net Assets Of The Scheme/ No. Of Units Outstanding The day on which NAV is calculated by a fund is known as the Valuation Date. NAV for a day must also be posted on AMFI’s website by 8.00p.m on that day. This applies to both the open-end & closed-end funds. One exception is those closed-end schemes which are not mandatory required to be listed in any stock exchange.
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A fund’s NAV is affected by four set of factors: (a) purchase & sale of investment securities. (b) valuation of all investment securities. (c) other assets & liabilities. (d) units sold or redeemed. FEES & EXPENSES: An AMC may incur many expenses specifically for given scheme & other common expenses. In any case, all expenses should be clearly identified & allocated to the individual scheme. Investment management & advisory fee that are fully disclosed in the offer document subject to the following limits: (a) 1.25% of the first Rs.100Crs. of weekly average net assets outstanding in accounting year. (b) 1% of weekly average net assets in excess of next Rs.100Crs. For no load scheme, the AMC may charge an additional management fee up to 1% of weekly average net assets outstanding in accounting year. In addition to fees mentioned above, the AMC may charge the scheme the following expenses: (a) Initial expenses of launching scheme (not to exceed 6% of initial resources raised under the scheme). (b) Recurring expenses including : (!) Marketing & selling expenses including agent’s commission (2) Brokerage & transaction costs (3) Registrar service for transfer of units sold or redeemed (4) Audit fees (5) Fee & expenses of trustees (6) Cost related to investor communication.
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SEBI has also imposed a limit on these expenses. The limits have been related to the level of the weekly net assets. Thus the AMC can charge a scheme (a) 2.5% of the average net assets of the scheme as recurring expenses, if the net assets don’t exceed Rs.100crs. (b) 2.25% on the next 300crs. (c) 1.75% over Rs.700crs. In case, the scheme intends to invest in the bonds, the maximum % limits are less by 0.25%. Further, if the AMC had absorbed the initial issue expenses, it can charge an additional 1% of net assets as investment management fees. These expenses are charged to the investor’s ongoing basis. FOLLOWING EXPENSES CAN’T BE CHARGED TO THE SCHEME: (1) Penalties & fines for infraction of laws. (2) Interest on delayed payment to the unit holders. (3) Legal, marketing, publication & other general expenses not attributable to any scheme. (4) Expenses on investment management /general management. DISCLOSURE & REPORTING REQUIREMENTS: (!) Audited annual statement of account for all scheme. (2) Within 6 months of closure of the relevant accounting year the fund shall: (a) Publish through an advertisement scheme-wise annual report. (b) Mail the summary to all unit holders. (c) Forward to SEBI, a copy of the annual report & other information including details of investment & deposits held by the fund. (d)Each item of expenses accounting for more than 10% of total expenses should be disclosed in account. (e)The mutual fund shall make script wise disclosures of NPAs on half-yearly basis along with the half yearly portfolio disclosure. (f)Large unit holdings (over 25% of net assets of a scheme) shall be disclosed in
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Annual & half-yearly results by giving the number of such investors & their total holding in % terms. INVESTMENT POLICY: Investment policy of each scheme is dictated by its investment objective as stated in the offer document. Usually minimum & maximum of the fund to each class- Equity, Debt & Cash is specified. INVESTMENT RESTRICTION BY SEBI : (1)Investment in the equity shares or equity related instrument of a single company are restricted to 10% of the NAV of a scheme. (2) For debt scheme, SEBI restricts the investment in “rated investment grade” debt instrument issued by a single issuer to 15% of the NAV & this limit may be extended to20% of the NAV of the scheme with the prior approval of the board of AMC. (3) For unrated debt instruments, the total investment in such instrument shouldn’t allowed exceeding 10% of the NAV of the scheme. (4) Total investment in debt instrument of all the issuers in a scheme are not permitted to exceed 25% of the scheme. (5) These restriction do not apply to money market & govt. securities, as they carry inherently less risk. (6) SEBI restricts the investment in unlisted shares to maximum of 10% of the NAV for closed-end scheme. (7) In case of open-ended scheme the limit is more stringent at 5% of the NAV. SEBI permits mutual funds to invest abroad in ADRs/GDRs, within an overall limit of US $500 millions for all funds put together. (8) A mutual fund under its entire scheme taken together is not allowed to own more than 10% of any company’s paid-up capital carrying voting rights. (9) A scheme may invest in another scheme under same AMC or any other mutual fund without charging any fees, provided that the aggregate inter-scheme investment made by all scheme under the same management doesn’t exceed 5% of the net asset value of mutual fund.
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(10) Debt instrument in which a scheme invests must be rated as investment grade by at least one recognized credit agency. (11) Mutual funds are required to buy & sell securities only “for delivery”. Short selling (selling without delivery) or carry forward transactions (without taking or giving delivery) are not permitted. (12) In case of long-term investments, securities should be purchased or transferred in the name of mutual fund for the relevant scheme. (13) Mutual funds are not allowed to advance any loans, but may lend securities in accordance with SEBI’s stock lending scheme. MEASURING & EVALUATING MUTUAL FUND PERFORMANCE MEASURING FUND PERFORMANCE: (!) CHANGE IN NAV: If an investor want to compare the return on investment between two dates, he can simply use the per unit NAV at the beginning & the end periods & calculate the change in the value of the NAV between the two dates in absolute & % terms. Formulae- Absolute change in NAV/NAV at the beginning*100. Limitations: But this measure does not always give the correct picture, in cases where the fund has distributed to investors a significant amount of dividend in the interim period. Therefore, it is suitable for evaluating growth funds & accumulation plans of debt & equity funds, but should be avoided for income funds & funds with withdrawal plan. (2) TOTAL RETURN: This measure corrects the shortcomings of the NAV change measure, by taking account of the dividends distributed by the fund between two NAV dates & adding them to the NAV change to arrive at the total return. Formulae-(Distribution + change in NAV)*100/ NAV at the beginning. Total Return is a measure suitable for all type of funds. Performance of different type of funds can be compared on the basis of total return.
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Limitations: But this measure ignores the fact that distributed dividends also get reinvested if received during the year. (3) RETURN ON INVESTMENT or TOTAL RTN. WITH DIVIDENDS REINVESTED AT NAV: The shortcomings of the simple total return is overcome by computing the total return with reinvestment of dividends in the fund itself at the NAV on the date of distribution. Formulae- ( (Units Held + div/ ex-dNAV) *end NAV)- Begin NAV/ Begin NAV*100. (4) EXPENSES RATIO: Expenses ratio is an indicator of the fund’s efficiency & cost-effectiveness. It must be evaluated in the light of the fund size, avg. account size & portfolio composition- equity or fixed income. E.g. funds with small corpus size will have a higher expenses ratio affecting rather than large corpus fund. If a fund’s income levels or return are small then expenses ratio becomes important & difference of even 0.5% between two funds can affect investor’s return. (5) PORTFOLIO TURNOVER RATIO: It measures the amount of buying & selling of securities done by a fund. It defined as the lesser of assets purchased or sold divided by the fund’s net assets. This ratio measures how many times the fund manager turn over his portfolio by buying or selling of securities in the market. A 100% turnover implies that the manager replaced his entire portfolio by buying or selling of securities in the market. This % turnover is a good indicator of the extent to which the fund is active in terms of its dealing on the market. However, high turnover ratio also indicates high transaction costs charged to the fund. This ratio would be most relevant to analyze in case of equity & balance funds, particularly those that derive a large part of their income from active trading.
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(6) TRANSACTION COSTS: It include all expenses related to trading such as the brokerage, commissions paid, stamp duty on transfers, registrar’s fees & custodian fees. Transaction costs, therefore have a significant bearing on fund performance & its total return. Funds with small size or small return have to be judged more on their expenses ratio & transaction cost. (7) FUND SIZE: Fund size also affects performance. Small funds are easier to maneuver & can achieve their objectives in a focused manner with limited holding. Large funds benefit from economies of scale with lower expenses & superior fund management skills. There can be no definition of what is a small fund or big fund, as small & big are relative term. (8) CASH HOLDINGS: Mutual fund allocates their assets among equity shares, debt securities & cash/ bank deposits. The % of a fund’s portfolio held in cash equivalents can be important element in its successful performance. A large cash holding allows the fund to strengthen its position in preferred securities without liquidating its other portfolio. Cash also allow the fund a cushion against decline in the market prices of shares or bonds. But the fund also guard against large, consistent net redemption because these not only indicate dissatisfaction on the part of investors, but also force the fund to maintain large cash resources lowering the return on the portfolio. (9) BORROWING BY MUTUAL FUNDS: In India, mutual funds are not allowed to borrow to increase their corpus. SEBI Regulations allow mutual funds to borrow only for the purpose of meeting temporary liquidity needs for a period not exceeding 6 months & to the extent of 20% of its net assets. Hence, it would be uncommon to see fund schemes with borrowings on their balance sheets & if borrowings are seen, caution may need to be exercised in evaluating the fund performance.
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EVALUATING FUND PERFORMANCE: There are 3 types of benchmark that can be used to evaluate a fund’s performance. These are: (1) Relative To Market As A Whole (2) Relative To Other Mutual Funds (3) Relative To Other Comparable Financial Products. Benchmarking Relative To The Market: (a) EQUITY FUNDS- Base Index- If investors were to choose an Equity Index Fund; he can expect to get the same return on the equity index used by the fund as its benchmark, called the Base Index. This is the passive investment style. The fund would invest in the index stocks & expects its NAV changes to mirror the change in the index itself. The fund & therefore the investor would not expect to beat the benchmark, but merely earn the same return as the index. In case of ‘Index Funds’, the benchmark is clear & prespecified by the fund manager in the advance. ‘Active’ Equity Funds: If an investor holds such an actively managed equity fund, the fund manager would not specify in advance the benchmark to evaluate his expected performance as in case of an Index Fund. The appropriate index to be used to evaluate a broad based equity fund is decided on the basis of the size & the composition of the fund’s portfolio. If the fund in question has a large portfolio, a broader market index like BSE100 or200 or NSE100 may have to be used as the benchmark rather than S&P CNX NIFTY. An actively managed fund expects to be able to beat index. In India, benchmarking for the retail investors is done using a menu of indices in combination. Agencies such as Credence prefer the BSE200 because of its broad-based nature. For sector funds, the S&P CNX Sectoral Indices have been preferred. (b) DEBT FUNDS- In practice, no appropriate debt index is available in India to be used for benchmark debt funds. ISEC’s I-BEX index is often used by some analysts. In any case, any benchmark for debt-fund must have the same portfolio composition & the same maturity profilio as the fund itself, to be comparable.
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(c) MONEY MARKET FUNDS- Performance of money market funds is usually benchmarked against the government securities of approved maturities. In India, JP Morgan has developed a T (Treasury) Bill Index. (2) Benchmarking Relative To Other Similar Mutual Funds : It is extremely important to ensure that comparisons are meaningful. Only funds with similar characteristics can be compared. The following are some of the important criteria for comparison of fund performance: (a) The investment objectives & risk profiles of two funds being compared must be same. (b) Portfolio composition of two funds should be similar. (c) In case of Debt funds the ‘credit quality’ & ‘maturity profile’ should be similar. (d) Size of two funds should be similar because one big & one small may not give comparable performance. (e) Expenses ratio could also be an important factor in comparing two fund’s performance, which will be impacted with high & low expenses rate. (3) Evaluating The Fund Manager/AMC : The investor must evaluate the fund manager’s track record, how his schemes have performed over the years. It is important to note that investment decision based on good past performance is not guarantee for future performance. It is better to trust a fund with a good track record & backed by good management instead of investing in a new fund in the same category. In the final analysis, AMC & their managers out to be judged on consistency in the returns obtained & performance record against competing managers running similar fund.
Now basic structure of Mutual Fund is understood, now look at the performance of different AMC in the category of equity fund, balance fund and income fund. This includes their performance during last 1 month, 6 months, 1 year & since inception. Their investment portfolios, loads etc.
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Current Performance in the Mutual fund industry as on 29 th march 07 Toppers & Laggards
Open Ended Toppers as on Mar 29, 2007
Scheme Name
Prudential ICICI Service Indus Tata Index Fund - Sensex Plan SBI Magnum Tax Gain Scheme 93 SBI Magnum Sector Umbrella - I PRINCIPAL Child Benefit - Care Sundaram BNP Paribas FRF - LTI BOB Gilt Fund - PF Plan - Grow DWS Money Plus Fund - Growth
Top 5 -Equity Funds
Category Diversified Equity Index Tax Plan Sector Balanced Debt Gilt Liquid / MMMF
- Period (Last 12 Months)
1 yr. Rtrn.(%)
27.49 16.95 16.4 43.56 19.1 24.93 8.34 7.61
Rank Scheme Name 1 2 3 4 5
Date
NAV (Rs.)
% Return as on NAV date 43.5586 40.7757 40.7757 34.3217 34.3217
SBI Magnum Sector Umbrella - Mar 29, 27.19 InfoTech Fund 2007 DSP Merrill Lynch Mar 29, Technology.com Fund 25.044 2007 Dividend DSP Merrill Lynch Mar 25.044 Technology.com Fund - Growth 29,2007 Prudential ICICI Technology Mar 29, 14.95 Fund - Dividend 2007 Prudential ICICI Technology Mar 29, 14.95 Fund - Growth 2007
Review of mutual fund industry in India and top performers:-
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Bulls recouped the last quarter’s loss placing equities back in action. The markets rebounded smartly from their lows in May-June06 steering past important milestones. Sensex logged 17.39% gains to climb to 12454 while Nifty ended at 3588 registering 14.70% gains.
The markets began the quarter on a cautious note but witnessed robust and widespread rally in subsequent months in the absence of any near term concerns. The rally was primarily driven by pause in Fed rate hike. The other factors that boosted the sentiments were impressive first quarter results from corporates, assertion by RBI of a robust economic growth at 7.5-8% and lower crude prices. The improved confidence of global investors led to substantial inflows in equities taking markets to higher levels. Though markets were highly volatile in the month of July and slipped below 10000 levels but staged a smart recovery thereafter ending the month on positive note. Strong buying was evinced in the month of August and Sensex ended well above the 11500 mark. Increasing participation of midcap and smallcap stocks provided the markets much needed impetus. The markets are now eyeing new highs with Sensex just 200 points away from its life time high of 12671.
The gains were broad based with all the indices registering positive growth. BSE Midcap and Smallcap indices surged 17.51% and 15.02% respectively. In pervious quarter BSE Mid-cap and BSE Small-Cap index had declined 18.08% and 18.73% while Sensex shed 5.95%. The Sectoral indices too showed good performance. Banking stocks gained momentum on the expectations of better bottomline and benign interest rate scenario. Buying interest resumed in IT stocks on account of robust quarterly numbers and strong earnings prospects. BSE Bankex was the top gainer up 38.86% followed by BSE Teck at 20.25%. However FMCG and Metal stocks were laggards up 5.94% and 0.63% respectively.
FIIs remained on buying spree in equities during all the three months and bought stocks worth staggering Rs 11212 crore compared to the net sales of Rs 6354 in June quarter.
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Purchases by domestic mutual funds were muted, at approx Rs 1684 crore compared to the net investments of Rs 8605 crore in last quarter.
The assets under the management of mutual fund industry witnessed growth of about Rs 25669 crore over Rs 265536 crore worth of assets managed till June end. The upbeat mood in bond markets and revival in equity markets led to a surge in total AUM. UTI Mutual Fund managed to regain its top slot in asset tally this quarter and recorded the highest increase in the corpus in absolute terms by Rs 4639 crore, an increase of 15% in percentage terms from Rs 30115 crore to Rs 34755 crore. Run up in the equity markets and healthy inflows in debt segment through existing schemes and new fund offerings scaled the corpus of UTI Mutual Fund.
Benchmark Mutual Fund’s AUM reported highest increase of 271% in percentage terms during the quarter. While the assets of DBS Chola Mutual Fund witnessed the highest fall of 12.29% from Rs.2475 crore to Rs.2170 crore. The corpus of HSBC Mutual Fund saw an erosion of Rs 927 crore. The share of equity schemes in the total asset portfolio of mutual funds increased to 35% in September 2006 from 33% in June 2006. The AUM of growth schemes climbed to Rs 101184 crore as of September end from Rs 87196 crore in June. The highest growth took place in income schemes, AUM jumped by 33% to Rs 72104 crore from Rs 54113 crore as of June end as softening yields increased the attractiveness of Income Funds. Compared to this; the assets under management of liquid fund declined by 7.4% to Rs 100622 crore from Rs 108776 crore on account of liquidity concern due to advance tax outflows at the end of quarter. Liquid Funds now constitute 35% of the total industry assets. Gilt funds AUM reported negative growth of 16% while the corpus of ELSS funds and Balanced Funds grew by 22% and 14% respectively. As per AMFI figures 72 new schemes were launched during the quarter with 4 schemes in equity category and rest in debt category (predominantly FMPs). Mutual Funds mobilized around Rs 22000 crore through new fund offers. Of that Rs 1375 crore was raised from growth funds, Rs 241 crore from liquid funds and Rs 1475 crore through
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open end income funds. Rest of the funds were mobilized from FMPs. J M Arbitrage Advantage Fund and Tata Equity Managed Fund that closed for subscription in June 2006 raised Rs 651 crore and Rs 394 crore respectively. ING Vysya CUB and Tata Capital Builder Fund mobilized around Rs 70 crore and Rs 260 crore respectively. In debt category Fidelity Short Term Income Fund mopped Rs 183 crore. Most of the new equity offerings were close ended in nature as close-ended schemes is allowed to charge initial issue expenses from investors and encourage long term investing. Other new launches focused on the strategy of arbitrage arising out of the mis-pricing in cash and derivatives segment.
Mutual Funds performed in tandem with the broader market and returned 15.53% during the quarter under review. Out of the 153 diversified equity schemes only two schemes ended the quarter in red. Banking Funds led the rally with gains of 36%. IT Funds followed it with the returns of 16.5%. However MNC Funds and Pharma Funds trailed with the returns of 14.4% and 15.3% respectively.
Debt Markets During the quarter under review, the bond markets turned bullish following pause in interest rates by US Federal in August after 17 rate hikes. The yields declined on back of lower oil prices and softer US treasury yields. The yield on the benchmark 7.59 per cent GOI 2016 fell sharply to 7.64% from 8.12% in pervious quarter. Yields continued to soften across tenors as the bond markets benefited from hopes that positive global cues may prompt a slower pace of rate increases in the domestic context. RBI hiked the Reverse Repo and Repo rates on July 25 by 25 bps to 6.00% & 7.00% respectively in its Credit Policy. The market participants largely anticipated the hike and there was not much impact of the hike in Repo and Reverse Repo by 25 bps as the market had already factored in the rate hike. In its Annual Report, the RBI reiterated the growth target of 7.58% for the year 2006-07. However, it cautioned that high credit growth and an incomplete pass-through of oil prices might impact price stability and inflationary expectations.
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Diversified Equity Funds Diversified equity funds rallied on back of soaring equity markets. Sensex and Nifty surged 17.39% and 14.71% during the quarter while diversified equity funds gained 15.53%.Out of the 114 schemes eligible for ranking for the quarter ended September 2006 eleven schemes were ranked ICRA MFR-1 for one year period. Funds that appeared in the top quartile of mutual fund rankings were dominated by established schemes. A mix of large-cap and midcap stocks, focused investment in sectors that captured growth themes in the economy and well diversified portfolio enabled the funds to top the charts.
Diversified Equity Funds-Defensive For the one-year ranking horizon quarter on quarter basis, Sundaram BNP Paribas Select Midcap Fund continued its winning streak followed by HDFC top 200 Fund. Sundaram BNP Paribas Select Midcap Fund scored on the risk-adjusted return and company concentration parameters. HDFC Top 200 and Prudential ICICI Growth Fund moved up the charts from ICRA MFR 2 in June quarter .DWS Alpha Equity Fund and DSP ML Top 100 Equity Fund were other schemes to notch higher rankings at MFR1.
For the three-year ranking horizon, Birla Sunlife Equity retained its top position. The scheme did well on risk adjusted return parameter. DSP ML Opportunities moved one place up to MFR 1 replacing previous quarter winner HSBC Equity Fund. The scheme took a beating on company concentration parameter. DSP ML Equity Fund and Reliance Growth Fund witnessed a shuffle among themselves continuing with ICRA MFR 2 rank.
Diversified Equity Funds-Aggressive
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In this category, Can Balanced II preserved its top position. It has been categorized under diversified equity category due to its higher allocation to equities than average. Tata Infrastructure Fund was the next top performer in the category. The scheme is less than two year old and focuses on infrastructure and allied sectors. An aggressively managed scheme with exposure across the market captilisation scored higher on return, company concentration and corpus size parameter. Tata Select Equity Fund moved up from ICRA MFR 2 to find place in MFR 1 rank while DSP ML TIGER Fund sustained its MFR 1 rank. For the three-year horizon, SBI Magnum Global Fund 94 hold on to its MFR 1 rank. The scheme scored on superior returns. Another scheme from SBI stable, SBI Magnum Sector Umbrella Contra Fund find place at second spot and retained its ICRA MFR 1 rank. The scheme is devised on the contrarian approach and focuses on out of flavour stocks. Sundaram BNP Paribas Select Midcap rode to MFR 1 position.
Debt Funds Long Term Debt Funds generated impressive returns as yields inched lower. Income Funds have increased their portfolio maturities over the last quarter taking clues from declining yields. The short-term debt funds also followed the same approach and the average portfolio maturity of the funds in this category increased from 239 days as at end June to 333 days as at end-September end. The average absolute return of short term funds stood at 1.7% during the quarter under review.
Debt-Long Term Funds Principal Income Fund is ranked ICRA MFR 1 in Debt–Long Term category for the oneyear period ended September 30; 2006.The scheme climbed the ranking charts from MFR 2 to MFR 1.It did well on returns and sector concentration parameter over next topper Kotak Bond Regular Fund. The scheme slipped to ICRA MFR 2 as its performance took a hit on sector concentration criteria. For three-year period ended September 30, 2006 the unbeatable Tata Income Fund retained ICRA MFR 1 for the third consecutive quarter. The scheme scored significantly on returns and average maturity parameter over next topper UTI Bond Fund. Tata
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Dynamic Bond Fund for the first time find place in MFR 1 rank. It did well on average maturity and returns parameter.
Debt-Short Term Funds Kotak Flexi Debt Fund has been the top performer in the Debt–Short Term category. The scheme is ranked ICRA MFR 1 for the fourth consecutive quarter. HDFC Cash Management Savings plus Plan retained its ICRA MFR1.Reliance Short Term Fund at third place was replaced by Kotak Bond Short Term Plan due to higher average maturity and concentrated sector exposure. Reliance Short Term fund sustained its good performance and was top performer for fourth time in row for three-year period ended September 30, 2006.Prudential ICICI STP retained its ICRA MFR 1 rank while UTI Liquid Fund Short Term Plan scaled to MFR 1 position during the quarter under review.
Floating Rate Funds LIC MF Floating Rate Fund Short Term Plan on account of its superior performance and maturity profile retained its ICRA MFR1 rank for the one year period ending September 30, 2006. DBS Chola Short Term – FRF was the new entrant in the category. The scheme performed well upon several factors under consideration. UTI Floating Rate Fund-ST preserved its MFR 1 rank but slipped one place. There were not enough schemes available in this category for three year period.
Marginal Equity Schemes The improving sentiment in debt markets and surge in equity markets benefited the marginal equity schemes or MIPs. Most of the marginal equity schemes have increased their portfolio average maturity to take the advantage of declining yields. The average equity exposure is maintained at 15-16% with most of the schemes diversifying the portfolio across a large number of companies to minimise risk.
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For the one-year horizon, the category of Marginal Equity schemes saw no major change for ICRA MFR 1 rank. HDFC MIP Fund and Prudential ICICI Income Multiplier Fund retained their top positions. However DSP ML Savings Plus-Aggressive Fund moved up the ranking ladder from ICRA MFR 2 to ICRA MFR 1 out beating Cancigo- a scheme from CanBank Mutual Fund. The scheme scored on returns and average maturity parameter. For the three-year horizon UTI Variable Investment scheme made a new entry at top spot. Cancigo Growth Plan previous quarter top performer slipped to second place in this quarter. The scheme budged on returns and corpus size parameter but manages ICRA MFR 1 rank. DSP ML Savings Plus Moderate and FT India MIP Plan A retained their MFR 2 position.
Liquid Funds Call rates ended the quarter at 7.5-7.7%. The hike in the call rates later came from the half-year closure of account and concern over short-term liquidity on account of advance tax outflows. Liquid funds posted decent returns at 1.51% for the three months ended September 30, 2006. The average portfolio maturity of the schemes in the Liquid category was around 117 days as of September end. For the one-year horizon, LIC MF Liquid Fund and Canliquid Fund secured ICRA MFR 1 rank for the fifth quarter in succession. However LICMF Liquid Fund significantly outscored over its peer Canliquid Fund on returns parameter. Reliance Liquidity Fund managed to retain its MFR 1 position in this quarter too. For the three-year horizon, the ICRA MFR 1 ranked schemes of the previous quarter, LIC MF Liquid Fund and Canliquid Fund retained their top rankings for the quarter ended September 2006.
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Gilt Funds The performance of Gilt schemes improved significantly as bond markets gained momentum. The average absolute return of the schemes in the Gilt–Long Term category for the three months ended September 30, 2006 stood at 2.39%, whereas that of ShortTerm Gilt funds was at 1.54%.
Gilt-Long Term Funds For the one-year horizon, UTI Gilt Advantage Fund–LTP Plan continued with its ICRA MFR 1 rank. Birla GPRP on account of its good performance moved from ICRA MFR 3 to MFR 2 scoring on returns and corpus size parameter. For the three-year horizon, Templeton India GSF Fund retained its ICRA MFR 1 rank. The scheme was the best performer on the return parameter.
Gilt-Short Term Funds For the one-year period, UTI G-Sec Fund-STP once again emerged as the winner. The scheme fared well on risk adjusted return and was ranked MFR 1. Prudential ICICI GFTP climbed the ranking ladder from MFR 2 to MFR 1.For the three-year horizon, Birla GPLP Fund continued with its top position on back of superior returns, corpus size parameter and ranked ICRA MFR 1.
Equity Sector-Technology Funds The returns of technology fund were comparable to their respective indices. Technology stocks notched impressive returns led by strong quarterly numbers and visibility on higher earning prospects.
Franklin Infotech Fund owing to its best performance on all the parameters under consideration secured ICRA MFR 1 rank for the one-year horizon. The ICRA MFR 1 ranked fund of the previous quarter, Birla Sunlife New Millennium Fund, slipped to ICRA MFR 3 rank. The scheme took a significant hit on risk adjusted return criteria.
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However for the three-year period ended September 2006 SBI Magnum Sector topped the charts with ICRA MFR1 rank. DSP ML Technology.com Fund, second best performer of previous quarter retained its MFR 2 position in this quarter too.
Equity Linked Savings Schemes (ELSS) HDFC Tax Saver Fund has been a consistent performer and dominated the rankings from quite some time in the ELSS category. This quarter too it secured ICRA MFR 1 rank. Birla Equity Fund turned out to be the next best performer finding place in ICRA MFR 1 category. It moved one place up to ICRA MFR 1 from MFR 2 in previous quarter replacing Principal Tax Savings Fund. The scheme did well on risk adjusted return criteria. For the longer period of three years SBI Magnum Tax gain scheme was in top gear owing to its superior performance on the return score, corpus and portfolio turnover parameters. HDFC Tax Saver Fund and Prudential ICICI Tax Plan retained their ICRA MFR 1 and ICRA MFR 2 position respectively.
Balanced Funds The rally in equity markets and momentum swing in debt markets boosted the returns of equity oriented hybrid funds. The category reported the average return of 11% in absolute terms during the September quarter. During the quarter under review 21 schemes qualified under Balanced Fund category for one year ranking. HDFC Prudence Fund maintained its lead over its peers and was ranked ICRA MFR 1.The scheme outscored on risk adjusted return and corpus size parameter. DSP ML Balanced Fund owing to superior performance and concentration parameter inched up to MFR 1 rank while Prudential ICICI Balanced Fund slipped to MFR 2.LIC Balanced Plan C moved up from MFR 3 to MFR 2.
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SBI Magnum Balanced Fund yet again notched the top position for three year period. The fund performed well on the return score. HDFC Prudence Fund retained its ICRA MFR 1 rank while Kotak Balanced Fund climbed to MFR 2.
Index Funds In Index fund category, UTI Nifty Fund retained its top position for the third quarter in a row in one year period. The scheme did well on both tracking error and corpus size criteria. For the three year period too UTI Nifty Fund topped the rankings. Birla Index Fund was the next best performer. A relatively low score on tracking error and corpus size parameter prevented it from attaining the ICRA MFR 1 rank.
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BIBLIOGRAPHY
1. NCFM Study Material (AMFI Mutual Fund Guide)
2. 3.
www.Mutualfundsindia.com (Icra online website) www.Religare.com
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doc_825206282.doc