Mutual Fund Analysis Comparison

MUTUAL FUND ANALYSIS AND COMPARISON
EXECUTIVE SUMMARY
With no of working people increasing per family the income of the households have increased and as a
result number of investment tools have increased and so is the demand for sound professional advice
on investment tools. Investment options are insurance, bank fixed deposits, PPF, MUTUAL FUND, NSC
etc.
MFs are essential investment vehicles where the number of investors who share a common financial
goal pools their saving together and invest accordingly. Each unit of any of the various schemes
represent the proportion of pool owned by the unit holder (investor). There are number of mutual fund
companies in India. NAV (net asset value) i.e. nothing but appreciation or reduction in net asset value of
the concerned scheme. This declared by the company from time to time the mutual schemes are
managed by respective ASSET MANAGEMENT COMPANIES (AMC). These AMC are either alone or in
collaboration with reputed international companies?
Mutual fund an investment vehicle with the moderate risk and high returns. What have investor gone
trough in past year or so and how investor shou ld go about in present situation.
ATHARVA INSTITUTE OF MANAGEMENT STUDIES 1

INTRODUCTION
The mutual fund (MF) industry has been one of the fastest growing financial sectors; it has
been growing at a CAGR of 20- 25 per cent in the last ten years. As per AMFI chairman, “the
asset base is expected to grow at an annual rate of about 30 to 35 percent over the next few
years as investor’s shift their assets from banks and other traditional avenues.”
The mutual fund industry came into existence with the setting up of UTI in 1964. UTI
continues to dominate the mutual fund industry with a corpus of 700bn (54% of the
industry assets), but the investor confidence is shaken by the recent crisis.
The mutual fund industry in India has completed 36 yrs and the ride through these yrs. has
not been a smooth. Investors have still to overcome their experience with mutual funds like
Morgan Stanley, Mastergain, Monthly Equity plans of SBI, UTI and Canara Bank.
The nationalized banks entered the mutual fund business in the early nineties and got off to
a good start because of the stock market boom. But these banks did not understand the
mutual fund business nor did they have the required skill, experience or the technology. As
a result they failed miserably.
Investor’s experience with Morgan Stanley, the first foreign mutual fund was also not too
good. The Morgan Stanley fund in its initial public offer (IPO) raised 10bn. The entire fund
raising exercise was centered on the hype that the fund was first of its kind, promoted by
an internationally acclaimed asset management company. It was marketed like any other
public issue. Investors rushed in hoping for superior returns without realizing that the
functioning of a mutual fund is different from investing in an equity fund IPO. Nor did they
realize that the scheme was a closed-ended scheme with lock in of 15 years. The equity
market also did not favor Morgan Stanley and investors lost heavily.
As a result of all this, investor’s confidence in mutual funds was shaken up.
Though the experience of mutual fund investors in the past has not been good it does not
mean that all funds have performed badly. In fact, if one looks at income funds and recent
performance of equity funds, they have done quite well. Due to which investors are
relooking at mutual funds as a tool for investments. Most traditional avenues have become
unattractive. Investors are realizing the benefits of investing in the capital markets through
mutual funds rather than investing directly. The awareness about mutual funds is slowly
but steadily growing.

Investors are realizing that they need to look no further than mutual funds for their
complete set of investment needs. However like any other investment a disciplined
approach is required for investing in mutual funds.
A mutual fund is the ideal investment vehicle for today’s complex and modern financial
scenario. Markets for equity shares, bonds and other fixed income instruments, real estate,
derivatives and other assets have become mature and information driven. Price changes in
these assets are driven by global events occurring in faraway places. A typical individual is
unlikely to have the knowledge, skills, inclination and time to keep track of events,
understand their implications and act speedily.
The industry is also having a profound impact on financial markets. Fund managers, by
their selection criteria for stocks have forced corporate governance on the industry. By
rewarding honest and transparent management with higher valuations, a system of risk-
reward has been created where the corporate sector is more transparent then before.
One thing is certain - that the mutual fund industry is here to stay.
The study has been divided into two sections: Section I, talks about the genesis of mutual
fund, the evolution of mutual funds in India and the mutual funds registered in India. It also
explains the concept of a mutual fund, the benefits of investing in a mutual fund, the types
of mutual fund schemes. It talks about the regulatory framework within which mutual
funds in India operate. The concept of NAV and the tax benefits have also been explained in
detail.
The last chapter in this section covers the most important aspect of mutual fund,
Investment Management. This chapter covers the different styles of debt and equity
management, the securities in which debt and equity funds invest and the risks associated
with these investments.
Section II. describes the different avenues available to the retail investor. There was a time
when Indian investors did not have many investment schemes to choose from. It was easy
then for the agents to simply point out the benefits of any currently available scheme to a
prospective investor. The investor then decided whether the schemes suited to his needs
or not. Now, the Indian mutual funds industry offers a wide choice of investment schemes,
unlike ever before. Different schemes are suited to different investor needs. In this
scenario, an investor not only has to choose from this variety of investment options
available, but also design a proper investment strategy that is suitable to his situation and
needs. In this scenario an investor should develop the right approach to investing, and
avoid ad-hoc investment decisions. All this has been covered in section II.

It explains in detail the concept of financial planning, the benefits and the steps in financial
planning. Asset Allocation, which is an important aspect of financial planning, has also been
explained in detail.
The final chapter talks about choosing a mutual fund scheme and investing in it, keeping in
mind the costs involved and the risks associated with it.
To summarize, as Jacobs puts it, mutual fund investing is not a “get-rich-quick scheme”.
Investors should have an Investment Program and ought to set their sights on long –term
goals, in other words, investment decisions to be taken in terms of clear, long-term goals,
not on an ad-hoc basis.
Each investor should expect only realistic wealth accumulation goals, no dramatic result
overnight. For example, in the current Indian market conditions, investors can expect 20%
plus returns in equity investments, 11 or 12% returns in debt investments and 8 to 9% in
money market investment. These expectations can change over time. Specific investments
or funds can give greater return or less return, but higher returns will be in most cases
achieved by investors or their fund managers taking greater risks.

The History of Mutual Funds
Mutual funds came into existence for the 1 st time when three Boston securities executives
pooled their money together in 1924 to create the first mutual fund; they had no idea how
popular mutual funds would become.
The idea of pooling money together for investing purpose started in Europe in the mid-
1800. The first pooled fund in the U.S. was created in 1893 for the faculty and staff of
Harvard University. On March 21st, 1924 the first official mutual fund was born. It was
called the Massachusetts Investors Trust.
After one year, the Massachusetts Investors Trust grew from $50,000 in assets in 1924 to
$392,000 in assets (with around 200 shareholders). In contrast, there are over 10,000
mutual funds in the U.S. today totaling around $7 trillion (with approximately 83 million
individual investors) according to the Investment Company Institute.
The stock market crash of 1929 slowed the growth of mutual funds. In response to the
stock market crash, Congress passed the Securities Act of 1933 and the Securities Exchange
Act of 1934. These laws require that a fund be registered with the SEC and provide
prospective investors with a prospectus.
The SEC (U.S. Securities and Exchange Commission) helped create the Investment
Company Act of 1940 which provides the guidelines that all funds must comply with today.
With renewed confidence in the stock market, mutual funds began to blossom. By the end
of the 1960's there were around 270 funds with $48 billion in assets.
In 1976, John C. Bogle opened the first retail index fund called the First Index Investment
Trust. It is now called the Vanguard 500 Index fund and is the largest mutual fund with
over $100 billion in assets.
One of the largest contributors of mutual fund growth was the birth of the Individual
Retirement Account (IRA) in 1981. Mutual funds are now popular in employer-sponsored
defined contribution retirement plans (401k's for example), IRA's and Roth IRA's.
Mutual funds are very popular today, known for ease-of-use, liquidity, and unique
diversification capabilities.

Structure of the Indian mutual fund industry

The Indian mutual fund industry is dominated by the Unit Trust of India which has a total
corpus of Rs700bn collected from more than 20 million investors. The UTI has many
schemes in all categories i.e. equity, balanced, income etc with some being open-ended and
some being closed-ended. The Unit Scheme 1964 commonly referred to as US 64, which is a
balanced fund, is the biggest scheme with a corpus of about Rs200bn. UTI was floated by
financial institutions and is governed by a special act of Parliament. Most of its investors
believe that the UTI is government owned and controlled, which, while legally incorrect, is
true for all practical purposes.
The second largest category of mutual funds is the ones floated by the private sector and by
foreign asset management companies. The largest of these are Prudential ICICI AMC and
Birla Sun Life AMC. The aggregate corpus of assets managed by this category of AMCs is in
excess of Rs250bn
The third largest category of mutual funds is the ones floated by nationalized banks.
Canbank Asset Management floated by Canara Bank and SBI Funds Management floated by
the State Bank of India are the largest of these. GIC AMC floated by General Insurance
Corporation and Jeevan Bima Sahayog AMC floated by the LIC are some of the other
prominent ones. The aggregate corpus of funds managed by this category of AMCs is about
Rs150bn.
The Changing Face of Indian Mutual Fund

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Recent trends in mutual fund

industry
The most important trend in the mutual fund industry has been the aggressive expansion
of the foreign owned mutual fund companies and the decline of the companies floated by
nationalized banks and smaller private sector players.

Many nationalized banks got into the mutual fund business in the early nineties and got off
to a good start due to the stock market boom prevailing then. These banks did not really
understand the mutual fund business and they just viewed it as another kind of banking
activity. Few hired specialized staff and generally chose to transfer staff from the parent
organizations. The performance of most of the schemes floated by these funds was not
good. Some schemes had offered guaranteed returns and their parent organizations had to
bail out these AMCs by paying large amounts of money as the difference between the
guaranteed and actual returns. The service levels were also very bad. Most of these AMCs
have not been able to retain staff, float new schemes etc. and it is doubtful whether, barring
a few exceptions; they have serious plans of continuing the activity in a major way.
The experience of some of the AMCs floated by private sector Indian companies was also
very similar. They quickly realized that the AMC business is a business, which makes
money in the long term and requires deep-pocketed support in the intermediate years.
Some have sold out to foreign owned companies; some have merged with others and their
general restructuring going on.
The foreign owned companies have deep pockets and have come in here with the
expectation of a long haul. They can be credited with introducing many new practices such
as new product innovation, sharp improvement in service standards and disclosure, usage
of technology, broker education and support etc. In fact, they have forced the industry to
upgrade itself and service levels of organizations like UTI have improved dramatically in
the last few years in response to the competition provided by these.
Mutual Funds in India (1964-2009)
The end of millennium marks 36 years of existence of mutual funds in this country. The
ride through these 36 years is not been smooth. Investor opinion is still divided, while
some are for mutual funds others are against it.
UTI commenced its operations from July 1964 .The impetus for establishing a formal
institution came from the desire to increase the propensity of the middle and lower groups
to save and to invest. UTI came into existence during a period marked by great political and
economic uncertainty in India. With war on the borders and economic turmoil that
depressed the financial market, entrepreneurs were hesitant to enter capital market. The
already existing companies found it difficult to raise fresh capital, as investors did not
respond adequately to new issues. Earnest efforts were required to canalize savings of the
community into productive uses in order to speed up the process of industrial growth.

The then Finance Minister, T.T. Krishnamachari set up the idea of a unit trust that would
be "open to any person or institution to purchase the units offered by the trust. However,
this institution, is intended to cater to the needs of individual investors, and even among
them as far as possible, to those whose means are small."
Mr. T.T. Krishnamachari ideas took the form of the Unit Trust of India, an intermediary that
would help fulfill the twin objectives of mobilizing retail savings and investing those
savings in the capital market and passing on the benefits so accrued to the small investors.
TI commenced its operations from July 1964 "with a view to encouraging savings and
investment and participation in the income, profits and gains accruing to the Corporation
from the acquisition, holding, management and disposal of securities." Different provisions
of the UTI Act laid down the structure of management, scope of business, powers and
functions of the Trust as well as accounting, disclosures and regulatory requirements for
the Trust.
One thing is certain – the fund industry is here to stay. The industry was one-entity show
till 1986 when the UTI monopoly was broken when SBI and Canbank mutual fund entered
the arena. This was followed by the entry of others like BOI, LIC, GIC, etc. sponsored by
public sector banks. Starting with an asset base of Rs0.25bn in 1964 the industry has
grown at a compounded average growth rate of 26.34% to its current size of Rs1130bn.
The period 1986-1993 can be termed as the period of public sector mutual funds. From one
player in 1985 the number increased to 8 in 1993. The party did not last long. When the
private sector made its debut in 1993-94, the stock market was booming.
The opening up of the asset management business to private sector in 1993 saw
international players like Morgan Stanley, Jardine Fleming, JP Morgan, George Soros and
Capital International along with the host of domestic players join the party. But for the
equity funds, the period of 1994-96 was one of the worst in the history of Indian Mutual
Funds.
1999-2009 Year of the funds
Mutual funds have been around for a long period of time to be precise for 36 yrs. but the
year 1999 saw immense future potential and developments in this sector. This year
signaled the year of resurgence of mutual funds and the regaining of investor confidence in

these mutual funds. This time around all the participants are involved in the revival of the
funds ----- the AMC’s, the unit holders, the other related parties. However the sole factor
that gave lift to the revival of the funds was the Union Budget. The budget brought about a
large number of changes in one stroke.
It provided center stage to the mutual funds, made them more attractive and provides
acceptability among the investors. The Union Budget exempted mutual fund dividend given
out by equity-oriented schemes from tax, both at the hands of the investor as well as the
mutual fund. No longer were the mutual funds interested in selling the concept of mutual
funds they wanted to talk business which would mean to increase asset base, and to get
asset base and investor base they had to be fully armed with a whole lot of schemes for
every investor. So new schemes for new IPO’s were inevitable. The quest to attract
investors extended beyond just new schemes. The funds started to regulate themselves and
were all out on winning the trust and confidence of the investors under the aegis of the
Association of Mutual Funds of India (AMFI)
One can say that the industry is moving from infancy to adolescence, the industry is
maturing and the investors and funds are frankly and openly discussing difficulties,
opportunities and compulsions.
Future Scenario
The mutual fund (MF) industry has been one of the fastest growing financial sector, it has
been growing at a CAGR of 20- 25 per cent in the last ten years. As per AMFI chairman, Mr.
A. P. Kurian, “the asset base is expected to grow at an annual rate of about 30 to 35 % over
the next few years as investor’s shift their assets from banks and other traditional
avenues.” The market is expected to witness a flurry of new players entering the arena.
Some big names like Fidelity, Principal, Old Mutual etc. are looking at Indian market
seriously. One important reason for it is that most major players already have presence
here and hence these big names would hardly like to get left behind.
The industry is also having a profound impact on financial markets. The new generation of
private funds which have gained substantial mass are now seen flexing their muscles. Fund
managers, by their selection criteria for stocks have forced corporate governance on the
industry. By rewarding honest and transparent management with higher valuations, a
system of risk-reward has been created where the corporate sector is more transparent
then before.
Mutual funds are now also competing with commercial banks in the race for retail
investor’s savings and corporate float money. The power shift towards mutual funds has

become obvious. The coming few years will show that the traditional saving avenues are
losing out in the current scenario. Many investors are realizing that investments in savings
accounts are as good as locking up their deposits in a closet.
India is at the first stage of a revolution that has already peaked in the U.S. The U.S. boasts
of an asset base of mutual funds that is much higher than its bank deposits. In India, mutual
fund assets are not even 10% of the bank deposits, but this trend is beginning to change.
Mutual Funds are going to change the way banks do business in the future.
The first phase - 1964 and 1987, when the only player was the Unit Trust of India, had a
total asset of Rs. 6,700/- crores at the end of 1988.
The second phase - 1987 and 1993, during this period 8 funds were established (6 by
banks and one each by LIC and GIC). At the end of 1994, the total assets under management
had grown to Rs. 61,028/- crores and numbers of schemes were 167.
Currently there are 34 Mutual Fund organisations in India managing over Rs. 92,000/-
crores.
The mutual funds registered in India are
A) Unit Trust of India
B) Bank sponsored
a. BOB Asset Management Co. Ltd.
b. BOI Asset Management Co. Ltd.
c. Canbank Investment Management Services Ltd.
d. PNB Asset Management Co. Ltd.
e. SBI Funds Management Ltd.
f. Indfund Management Ltd.
C) Institutions
a. GIC Asset Management Co. Ltd.
b. IDBI Principal Asset Management Co. Ltd.

c. IL & FS Asset Management Co. Ltd.
d. Jeevan Bima Sahayog Asset Management Co. Ltd.
D) Private Sector
1. Indian
a. BenchMark Asset Management Co. Ltd.
b. Kotak Mahindra Asset Management Co. Ltd.
c. Shriram Asset Management Co. Ltd.
d. Reliance Capital Asset Management Ltd.
e. J.M. Capital Management Ltd.
f. Escorts Asset Management Ltd.
2. Joint Ventures - Predominantly Indian
a. Birla Sun Life Asset Management Pvt. Co. Ltd.
b. Cholamandalam Cazenove Asset Management Co. Ltd.
c. DSP Merrill Lynch Investment Managers (India) Ltd.
d. First India Asset Management Private Ltd.
e. HDFC Asset Management Company Ltd.
f. Sundaram Newton Asset Management Company
g. Pioneer ITI AMC Ltd.
h. Tata TD Waterhouse Asset Management Private Ltd.
i. Credit Capital Asset Management Co. Ltd.
3. Joint Ventures - Predominantly Foreign
a. Alliance Capital Asset Management (India) Pvt. Ltd.

b. Standard Chartered Asset Mgmt Co. Pvt. Ltd.
c. Dundee Investment Management & Research (Pvt.) Ltd.
d. ING Investment Management (India) Pvt. Ltd.
e. JF Asset Management (India) Pvt. Ltd.
f. Morgan Stanley Investment Management Pvt. Ltd.
g. Prudential ICICI Management Co. Ltd.
h. Sun F & C Asset Management (I) Pvt. Ltd.
i. Templeton Asset Management (India) Pvt. Ltd.
j. Zurich Asset Mgmt. Company(I) Pvt. Ltd.

Concept of a Mutual Fund
“A Mutual Fund is a trust that pools the savings of a number of investors who share a
common financial goal. The money thus collected is invested by the fund manager in
different types of securities depending upon the objective of the scheme. These could range
from shares to debentures to money market instruments. The income earned through
these investments and the capital appreciation realized by the scheme are shared by its
unit holders in proportion to the number of units owned by them (pro rata).” 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 portfolio at a relatively low
cost. Anybody with an investible surplus of as little as a few thousand rupees can invest in
Mutual Funds. Each Mutual Fund scheme has a defined investment objective and strategy.
A mutual fund is the ideal investment vehicle for today’s complex and modern financial
scenario. Markets for equity shares, bonds and other fixed income instruments, real estate,
derivatives and other assets have become mature and information driven. Price changes in
these assets are driven by global events occurring in faraway places. A typical individual is
unlikely to have the knowledge, skills, inclination and time to keep track of events,
understand their implications and act speedily. An individual also finds it difficult to keep
track of ownership of his assets, investments, brokerage dues and bank transactions etc.
A mutual fund is the answer to all these situations. It appoints professionally qualified and
experienced staff that manages each of these functions on a full time basis. The large pool of
money collected in the fund allows it to hire such staff at a very low cost to each investor. In
effect, the mutual fund vehicle exploits economies of scale in all three areas - research,
investments and transaction processing. While the concept of individuals coming together
to invest money collectively is not new, the mutual fund in its present form is a 20th
century phenomenon. In fact, mutual funds gained popularity only after the Second World
War. Globally, there are thousands of firms offering tens of thousands of mutual funds with
different investment objectives. Today, mutual funds collectively manage almost as much
as or more money as compared to banks.
Benefits of Investing in Mutual Funds
If mutual funds are emerging as the favorite investment vehicle it is because of the many
advantages they have over other forms and avenues of investing. The following are the
major advantages offered by mutual funds to all investors.

Diversification
The first principle of mutual fund investing is broad diversification of securities. For nearly
all investors, cost alone generally recludes achieving adequate diversification without using
mutual funds.
For example, if an investor had Rs. 50,000 to invest and he was keen on acquiring stocks
like Bajaj Auto, Hindustan Lever or Infosys, he would be unable to purchase even 100
shares (the market lot) of any of these companies. While investing through a mutual fund
could make him a part owner of all these stocks with an investment of as low as Rs 1,000.
Professional Management
A mutual fund is managed by skilled, experienced professionals who are judged by the total
returns they generate over time. As an individual investor, one may not be in a position to
keep track of the performance of various companies. A fund manager, on the other hand,
has access to extensive research inputs both from its own research analysts as well as
reputed broking firms.
Liquidity
In many cases, mutual funds offer more liquidity than individual stocks or bonds. Large
amounts of money can be invested or redeemed at a price based on the fund’s net asset
value (NAV). Further, money can be efficiently switched between, say, a stock and a money
market fund at little or no cost.
Convenience
Mutual fund investment provides simplicity and convenience. On every purchase or

redemption, an investor receives an Account Statement similar to a bank statement. An
investor avails of features like reinvestment of dividends, tax reporting, switches,
systematic investment and withdrawal and cheque writing on money market funds.
Moreover, an investor is not required to physically take delivery of securities, so problems
of bad delivery, theft or loss in transit are minimised.
Tax Benefits
There are several tax benefits available for investors in a mutual fund. A detailed
explanation is provided in the ensuing report.

Constitution of a Mutual Fund
Mutual Funds have a unique structure not shared with other entities such as companies or
firms. The structure of the firm determines the rights and responsibilities of the fund
constituents viz. Sponsors, trustees, custodian, transfer agents and the asset management
company. The legal structure also drives the inter relationships between these
constituents.
Structure of Mutual Funds in India
Like other countries, India has a legal framework within which mutual funds must be
constituted.
Unlike in the UK, where distinct ‘trust” and ‘corporate/’ approaches are followed with
separate regulation, in India, open and closed end funds operate under the same regulatory
structure. There is one unique structure as unit trusts. A mutual fund in India is allowed to
issue open end and closed end schemes under a common legal structure. The structure
which is required to be followed by mutual funds in India is laid down under SEBI (Mutual
Fund) Regulations, 1996.
The structure of each of the fund constituents is explained below,
The Fund Sponsor
“Sponsor” is defined under SEBI regulation as nay person who, acting alone or in
combination with another body corporate, establishes a mutual fund. The sponsor of a fund
is akin to the promoter of a company as he gets the fund registered with SEBI. The sponsor
will form a Trust and appoint a Board of Trustees. The sponsor will also generally appoint
an Asset Management Company as fund managers. The sponsor, either directly ar acting
through the Trustees, will also appoint a Custodian to hold the fund assets. All these
appointments are made in accordance with SEBI Regulations.
Mutual Funds as Trusts
A mutual fund in India is constituted in the form of Public Trust created under the Indian
Trusts Act, 1882, The Fund Sponsor acts as the Settlor of the Trust, Contributing to its
initial capital and appoints a Trustee to hold the assets of the Trust for the benefit of the
unit-holders, who are the beneficiaries of the Trust. The fund then invites investors to
contribute their money in the common pool, by subscribing to “units” issued by various
schemes established by the trust as evidence of their beneficial interest in the fund.

It should be understood that a mutual fund is just “a pass-through”, rather it is the Trustee
or Trustees who have the legal capacity and therefore all acts in relation to the trust are
taken on its behalf by the Trustees. The trustees hold the unit-holders’ money in a fiduciary
capacity.
Trustees
A mutual fund is governed by trustees. The trustees have oversight responsibility for the
management of the fund's business affairs and safeguarding the interest of the unitholders.
The trustees are expected to exercise sound business judgement and keep a watchful eye
on the functioning of the asset management company. As per the Securities and Exchange
Board of India (SEBI) regulations, at least half of the board of trustees shall consist of
independent persons, who are not affiliated with the asset management company or any of
its affiliates.
The Asset Management Company
An AMC is involved in the daily administration of the mutual fund and also acts as
investment advisor for the fund. An Asset Management Company is promoted by a sponsor,
which usually is a, reputed corporate entity with sound track record of profitability.
An AMC typically has three departments:
A) Fund Management comprises of fund managers, research analysts and dealers
B) Sales & Marketing which is involved in generating sales through brokers, agents and
financial planners.
C) Operations & Accounting oversees back office and operational activities. It consists of
fund accountants and compliance officer.
The other fund constituents are
Custodians and Depositories
Mutual funds are required by law to protect their portfolio securities by placing them with
a independent third party as custodian, typically a bank or trust company. The custodian
also handles payments and receipts for the fund’s security transactions

Bankers
A fund’s activities involve dealing with money on a continuous basis primarily with respect
to buying and selling units, paying for investments made, receiving the proceed on sale of
investments and discharing its obligations towards operating expenses. A fund’s bankers
therefore play a crucial role with respect to its financial dealings by holding its bank
accounts and providing it with remittance services.
Transfer Agents
A share transfer agent is employed by the AMC on behalf of the mutual fund to conduct
record keeping and related functions. Share transfer agent maintains records of unitholder
accounts, prepares and mails account statements confirming transactions and account
balances. It also maintains customer service departments (termed as "Investor Service
Centres" or ISCs) at main cities and towns to facilitate daily purchases and redemptions by
investors.
Distributors
Mutual fund operate as collective investment vehicles, on the principle of accumulating

funds from a large number of investors and then investing on a big scale. For a fund to sell
units across a wide retail base of individual investors, an established network of
distribution agents is essential AMC, usually appoint Distributors or Brokers, who sell units
on behalf of the fund.
A draft offer document is to be prepared at the time of launching the fund. Typically, it pre
specifies the investment objectives of the fund, the risk associated, the costs involved in the
process and the broad rules for entry into and exit from the fund and other areas of
operation. In India, as in most countries, these sponsors need approval from a regulator,
SEBI (Securities exchange Board of India) in our case. SEBI looks at track records of the
sponsor and its financial strength in granting approval to the fund for commencing
operations.
Types of Mutual Funds
Mutual fund schemes may be classified on the basis of its structure and its investment
objective.
On the “basis of its structure” they are classified as open ended, close ended and interval
schemes. Most schemes floated by AMC’s are open-ended schemes as investors need
liquidity and these schemes allow investors to enter or exit any time.

Open-ended Funds
An open-end fund is one that is available for subscription all through the year. These do not
have a fixed maturity. Investors can conveniently buy and sell units at Net Asset Value
("NAV") related prices. The key feature of open-end schemes is liquidity. In open-ended
schemes investors can enter and exit on any business day hence the corpus of the schemes
is not fixed and keeps fluctuating.
Closed-ended Funds
A closed-end fund has a stipulated maturity period which generally ranging from 3 to 15
years. The fund is open for subscription only during a specified period. The corpus of the
scheme is fixed. Investors can invest in the scheme only at the time of the initial public
issue and thereafter they can buy or sell the units of the scheme on the stock exchanges
where they are listed. In order to provide an exit route to the investors, some close-ended
funds give an option of selling back the units to the Mutual Fund through periodic
repurchase at NAV related prices. SEBI Regulations stipulate that at least one of the two
exit routes is provided to the investor. A closed-ended fund has two prices; the NAV and the
exchange price.
Interval Funds
Interval funds combine the features of open-ended and close-ended schemes. They are
open for sale or redemption during pre-determined intervals at NAV related prices.
However interval funds are not very popular.
On the “basis of investment objective” they are classified as growth, income or balanced
schemes
Growth Funds
The aim of growth funds is to provide capital appreciation over the medium to long- term.
Such schemes normally invest majority of their corpus in equities. It has been proven that
returns from stocks, have outperformed most other kind of investments held over the long
term. Growth schemes are ideal for investors having a long-term outlook seeking growth
over a period of time.
Income Fund
The aim of income funds is to provide regular and steady income to investors. Such
schemes generally invest in fixed income securities such as bonds, corporate debentures
and Government securities. Income Funds are ideal for capital stability and regular income.

Balanced Funds
The aim of balanced funds is to provide both growth and regular income. Such schemes
periodically distribute a part of their earning and invest both in equities and fixed income
securities in the proportion indicated in their offer documents. These are ideal for
investors looking for a combination of income and moderate growth. The advantage of
investing in these schemes that when equities are performing well the fund manager can
increase his exposure in equities and in a falling market he can increase his exposure in
debt. Such a fund is ideal for investors who do not desire high volatility.
Money Market Funds
The aim of money market funds is to provide easy liquidity, preservation of capital and
moderate income. These schemes generally invest in safer short-term instruments such as
treasury bills, certificates of deposit, commercial paper and inter-bank call money. Returns
on these schemes may fluctuate depending upon the interest rates prevailing in the market.
These are ideal for corporate and individual investors as a means to park their surplus
funds for short periods.
Apart from the types of schemes mentioned above mutual fund schemes can be further
classified as follows,
Tax Saving Schemes
These schemes offer tax rebates to the investors under specific provisions of the Indian
Income Tax laws as the Government offers tax incentives for investment in specified
avenues. Investments made in Equity Linked Savings Schemes (ELSS) and Pension
Schemes are allowed as deduction u/s 88 of the Income Tax Act, 1961. The Act also
provided opportunities to investors to save capital gains u/s 54EA and 54EB by investing
in Mutual Funds, provided the capital asset had been sold prior to April 1, 2009 and the
amount was invested before September 30, 2009.
Special Schemes
Industry Specific Schemes
Industry Specific Schemes invest only in the industries specified in the offer document. The
investment of these funds is limited to specific industries like InfoTech, FMCG,
Pharmaceuticals etc.

Index Schemes
Index Funds attempt to replicate the performance of a particular index such as the BSE
Sensex or the NSE 50
Sectoral Schemes
Sectoral Funds are those, which invest exclusively in a specified industry or a group of
industries or various segments such as 'A' Group shares or initial public offerings.
Assets Under Managment Under Different Types

OF Schemes As On September 30, 2009
Mo
ney
Ma
rket
Bal Gilt EL10
anc 4% SS %
ed 2%
17 Inc
% ome
Equ 56
ity %
11
%
The Regulatory framework of Mutual Funds in India

SEBI – The Capital Markets Regulator
The Government of India constituted Securities and Exchange Board of India, by an act of
Parliament in 1992, as the apex regulator of all entities that either raise funds in the capital
markets or invest in capital market securities such as shares and debentures listed on stock
exchanges. It was formed to protect the interests of investors in securities and to promote
the development of, and to regulate the securities market and for matters connected
therewith or incidental thereto.
Mutual funds have emerged as an important institutional investor in capital markets

securities. Hence they come under the purview of SEBI. SEBI requires all mutual funds to

be registered with them. It issues guidelines for all mutual fund operations, including
where they can invest, what investment limits and restrictions must be complied with, how
they should account for income and expenses, how they should make disclosures of
information to the investors and generally acts in the interest of investor protection.
SEBI (MUTUAL FUNDS) REGULATIONS, 1996
A comprehensive set of regulations for all mutual funds has been accomplished with SEBI
(Mutual Fund) regulations 1996. These regulations set uniform standards for all funds and
will eventually be applied in full to Unit Trust of India as well, even though UTI is governed
by its own UTI Act. The regulation governing Mutual funds are as follows,
Registration of the Fund
The regulations lay down the procedure of registration for the Fund with the SEBI board.
For the purpose of grant of a certificate of registration, the applicant has to fulfil the
following, namely: -
 the sponsor should have a sound track record and general reputation of fairness and
integrity in all his business transactions;
 in the case of an existing mutual fund, such fund is in the form of as trust and the trust
deed has been approved by the Board;
 the sponsor has contributed or contributes atleast 40% to the networth of the asset
management company.
 the sponsor or any of its directors or the principle officer to be employed by the mutual
fund should not have been guilty of fraud or has not been convicted of an offence
involving moral turpitude or has not been found guilty of any economic offence:
 appointment of trustees to act as trustees for the mutual fund in accordance with the
provisions of the regulations;
 appointment of asset management company to manage the mutual fund and operate
the scheme of such funds in accordance with the provisions of these regulations;
 appointment of a custodian in order to keep custody of the securities and carry out the
custodian activities as may be authorised by the trustees.
Constitution and Management of Mutual Fund and Operation of Trustees
A mutual fund is constituted in the form of a trust and the instrument of trust is a deed, the
same has to be registered under the provision of the Indian Registration Act. It lays down
the contents of the trust deed. The trust deed shall contain such clauses as are necessary
for safeguarding the interests of the unit holders. A mutual fund shall appoint trustees in
accordance with these regulations. The mutual fund will ensure that only people of ability,
integrity and standing; and who has not been found guilty of moral turpitude; and has not
been convicted of any economic offence or violation of any securities laws. An asset

management company or any of its officers or employees shall not be eligible to act as a
trustee of any mutual fund.
Rights & Obligations of Trustees
 The trustees and the asset management company shall with the prior approval of the
Board enter into an investment management agreement.
 The trustees shall have a right to obtain from the asset management company such
information as is considered necessary by the trustee.
 The trustees shall ensure before the launch of any scheme that the asset management
company has;- (a) systems in place for its back office, dealing room and accounting;
(b) appointed all key personnel including fund manager (s) for the scheme(s) and
submitted their bio-data which shall contain the educational qualifications, past
experience in the securities market with the trustee, 15 days of their appointment;
(c) appointed auditors to audit its accounts;
(d) appointed compliance officer to comply with regulatory requirement and to redress
investor grievances;
(e) appointed registrars and laid down parameters for their supervision;
(f) prepared compliance manual and designed internal control mechanisms including
internal audit systems;
(g) specified norms for empanelment of brokers and marketing agents.
 The trustee shall ensure that the asset management company has not given any undue
or unfair advantage to any associates or dealt with any of the associates of the asset
management company in any manner detrimental to interest of the unitholders.
 The trustee shall ensure that the transactions entered into by the asset management
company are in accordance with these regulations and the scheme.
 The trustees shall ensure that all the activities of the asset management company are in
accordance with the provision of these regulations.
 The trustees shall be accountable for, and be the custodian of, the funds and property of
the respective scheme and shall hold the same in trust for the benefit of the unit holders
in accordance with these regulations and the provisions of trust deed.
 The trustees shall periodically review the investor complaints received and the
redressal of the same by the asset management company.
Constitution and Management of Asset Management Company and Custodian
 The sponsor or, if so authorised by the trust deed, the trustee shall, appoint an asset
management company.
 Majority of the trustees or seventy five per cent of the unitholders of the scheme can
terminate the appointment of an asset management company.
 Any change in the appointment of the asset management company shall be subject to
prior approval of the Board and the unitholders.

Eligibility criteria for appointment of asset management company: For grant of approval of
the asset management company the applicant has to fulfil the following: -
 in case the asset management company is an existing asset management company it has
a sound track record, general reputation and fairness in transactions
 the directors of the asset management company are persons having adequate
professional experience in finance and financial services related field and not found
guilty of moral turpitude or convicted of any economic offence or violation of any
securities laws;
 the asset management company has a networth of not less than rupees ten crores:
Asset Management Company and its obligations:
 The asset management company shall take all reasonable steps and exercise due
diligence to ensure that the investment of funds pertaining of these regulations and the
trust deed.
 The asset management company shall exercise due diligence and care in all its
investment decision as would be exercised by other persons engaged in the same
business.
 The asset management company shall submit to the trustees quarterly reports of each
year on its activities and the compliance with these regulations.
 In case the asset management company enters into any securities transactions with any
of its associates a report to that effect shall immediately be sent to the trustees.
 The asset management company shall not appoint any person as key personnel who has
been found guilty of any economic offence or involved in violation of securities laws.
 The asset management company shall appoint registrars and share transfer agents who
are registered with the Board.
 The asset management company shall abide by the Code of Conduct as specified in the
Fifth Schedule.
Schemes of Mutual Fund
Procedure for launching of schemes: the asset management company shall launch no
scheme unless the trustees approve such scheme and a copy of the offer document has
been filed with the Board.
Disclosures in the offer document: The offer document shall contain disclosures, which are
adequate in order to enable the investors to make informed investment decision.
Advertisement material: Advertisements in respect of every scheme shall be in conformity
with the Advertisement Code: The offer document and advertisement materials shall not be
misleading or contain any statement or opinion, which are incorrect or false.
Investment Objectives and Valuation Policies

Investment objective:
 The moneys collected under any scheme of a mutual fund shall be invested only in
transferable securities in the money market or in the capital market or in privately
placed debentures or securities debts.
 The mutual fund shall not borrow except to meet temporary liquidity needs of the
mutual funds for the purpose of repurchase or redemption of units or payment of
interest or dividend to the unit holders.
 The mutual fund shall not advance any loans for any purpose or for options trading.
Method of valuation of investments:
 Every mutual fund shall compute and carry out valuation of its investments in its
portfolio and published the same in accordance with the valuation norms.
General Obligations
 To maintain proper books of accounts and records, etc.

 Limitation on fees and expenses on issue of schemes and annual charges.
Advertisement Code
 An advertisement shall be truthful, fair and clear and shall not contain a statement,
promise or forecast which is untrue or misleading.
 The advertisement shall not be so designed in content and format or in print as to be
likely to be misunderstood, or likely to disguise the significance of any statement.
Advertisements shall not contain statements, which directly or by implication or by
omission may mislead the investor.
 Advertisements shall not be so framed as to exploit the lack of experience or knowledge
of the investors. As the investors may not be sophisticated in legal or financial matters,
care should be taken that the advertisement is set forth in a clear, concise, and
understandable manner. Extensive use of technical or legal terminology or complex
language and the inclusion of excessive details, which may detract the investors, should
be avoided.
Code of Conduct
 Mutual fund schemes should not be organised, operated, managed or the portfolio of
securities selected, in the interest of sponsors, directors of asset management
companies, members of Board of trustees or directors of trustee company, associated
person or in the interest of special class of unitholders rather than in the interest of all
classes of unitholders of the scheme.

 Trustees and asset management companies must ensure the dissemination to all
unitholders of adequate, accurate, explicit and timely information fairly presented in a
simple language about the investment policies, investment objectives, financial position
and general affairs of the scheme.
 Trustees and asset management companies should excessive concentration of business
with broking firms, affiliates and also excessive holding of units in a scheme among a
few investors.
 Trustees and asset management companies must avoid conflicts of interest in managing
the affairs of the scheme and keep the interest of all unitholders paramount in all
matters.
 Trustees and asset management companies must ensure schemewise segregation of
cash and securities accounts.
 Trustees and asset management companies shall carry out the business and invest in
accordance with the investment objectives stated in the offer documents and take
investment decision solely in the interest of unitholders.
 Trustees and asset management companies must not use any unethical means to sell,
market or induce any investor to buy their schemes.
Approaches to Portfolio Management

Portfolio management styles may be passive or active. Under passive management, the
fund manager’s objective is to construct a portfolio that seeks to equal the return on a given
equity market index. An active manager seeks to give a better performance that the return
on an index (Please refer to the section on Benchmarking in Chapter 9 for a more detailed
discussion of passive and active portfolio management styles)
Passive Fund Management: Index Funds
There are mutual funds that offer Stock Index funds whose objective is to equal the return
on a selected market index. While the style of investment may be called passive, even in
this case, the fund manager has to make some decisions. For example, he can purchase all
of the securities forming part of the index in the same proportion as their share in the
index. Alternatively, if the index stocks are too many, he can purchase a statistically
representative sample of stocks whose combined total return will closely approximate that
of the index. The choice of this sample is important and can require some amount of

research into the behavior of index stocks. Similarly, the fund manager has to also
rebalance the portfolio to remain in line with changes in the index composition. Finally, the
fund manager has to keep the fund expenses as low as possible, so that investors get
returns close to the index return. The investment style is passive only in the sense that the
fund manager does not have to go through the process of stock selection.
Active Fund Management
Two basic investment styles prevalent among mutual funds are Growth Investing and
Value Investing.
Growth vs. Value Investing: A Contrast in Styles
In the US equity market, style investing is used to provide insights into markets and the
performance of fund managers. In our equity market, we do not make such clean
distinctions. Most fund managers practice a combination of both a growth and a value style.
However, an investor should know about his fund manager and the style he employs as a
means of understanding performance.
Fund managers use different approaches in selecting stocks for their portfolios. These
approaches, also known as investment styles, play an important role in portfolio
performance. By knowing the management style of a particular fund, investors can have a
good idea of how it will perform under various market conditions.
Broadly speaking, there are two investment styles, growth and value. What distinguishes
each style is its emphasis. For growth managers, the key to identifying an attractive stock is
earnings. They look for companies that exhibit powerful earnings growth. For value
managers, the key factor is price. They look for stocks, which are cheap, or in other words
trading below their intrinsic value.
Value Investing – Bargain Hunters
A value-oriented style is akin to looking for a good bargain. Value investors buy stocks,
which are cheap relative to either, their industry or the overall market. Then, they wait for
the market to realize the stocks' full value.
A stock may be undervalued for a number of reasons. It may be in an out-of-favor sector,

may have disappointed investors by poor financial performance or just been overlooked.
Value stocks are recognized, among other things, by lower P/E multiples, low price-to-book
ratios and higher dividend yields. The success to value investing lies in the consensus view
(i.e. the market) of the stock improving and the stock being valued fully. The risk for value

managers is the company may continue to under perform and the price may not rise. The
skill in value investing is timing the change in the consensus. In other words, not buying the
stock too early. Value investing can also be thought of as a willingness to bet on a stock
with business concerns while avoiding market risks. Since, value investing focuses on
stocks that are undervalued; there is limited downside risk and unlimited upside potential.
Value stocks are also generally considered to be less volatile.
Growth Investing – Concentrate on the product not the price
Growth investing is very different from the value-oriented investment style. Here, the
emphasis is on companies that have demonstrated substantial revenue or earnings growth.
Growth investors do not heed valuation measures.
Managers using the growth approach look for companies that have consistently increased
their earnings at above average rates. Since, earnings drive stock prices, growth investors
invest in stocks that are expected to have above average, sustainable growth in earnings. As
a result, growth stocks are recognized by higher P/E multiples. Since, growth investors
invest with the expectation of continued high or higher earnings growth, they are willing to
tolerate the high P/Es often arguing that earnings growth will continue to dilute the P/E
ratio. Growth stocks with high
valuations, it is believed, could experience higher price fluctuations. However, a growth

investor protects himself against such a situation by holding companies that do not exhibit
signs of business erosion but instead demonstrate a positive business outlook. In other
words, the key to success for a growth manager is to identify a superior growth pattern and
to recognize when it begins to deteriorate.
Growth Stocks and Value Stocks
A stock does not have to remain in either category. Depending on market direction, the
company's strategies and investors' perceptions, a stock can quickly go from one category
to another.
For instance, an emerging growth company can stumble with a product rollout raising
serious concerns in the market. Investors could reevaluate the company, questioning the
potential for growth. If the expectations fall, causing the stock to be sold to a level well
below its intrinsic value, then a company that was perceived to be a growth company
would now become a value candidate. This is when value investors step in to assess the
damage and decide whether the price represents good value. Similarly, a beaten down
value stock can launch a successful product and become a high expectation candidate
quickly, migrating from value to growth territory.

Different Styles for Different Seasons
An investor should know what investment style his fund manager uses. An important
reason to know this is because value and growth stocks perform differently depending on
where we are in the economic cycle. In a bull market, growth funds often do well as the
economy is strengthening and stock prices rise as the companies they favor are benefiting
from the strong economy.
But, in a bear market value funds may benefit more. As they are often modestly priced in
the first place, value stocks may have more to gain and less to lose in a stagnant or
declining market. Many managers also prefer a value approach when they believe that the
stock market is overvalued and may be headed for a decline. At such times, the increased
demand for value stocks can help boost their prices.
Debt Portfolio Management

Debt portfolio management has to contend with the construction and management of
portfolios of debt instruments, with the primary objective of generating income.
Classification of Debt Securities
Many instruments give regular income. Debt Mutual funds can invest only in market traded
securities. Debt instruments may be secured by the assets of the borrowers as in case of
Corporate Debentures or may be unsecured, as is the case with Indian Financial
Institutions.
A debt security is issued by a borrower and is often known by the issuer category. Thus you
have government securities and corporate securities or FI Bonds. Debt instruments are
also known by their maturity profile. Thus instruments issued with short-term maturities,
typically under one year, are classified as Money Market securities. Instruments carrying
longer than one-year maturities are generally called Debt Securities.
Most debt securities are interest bearing. However there are securities or zero coupon
bonds that do not pay regular interest at intervals but are bought at discount to their face
value. A large part of the interest bearing securities are generally fixed income paying,
while there are also securities that pay interest on a floating rate basis.
Size and Breakup of Indian Debt Market
The Indian debt market is the third largest in Asia. It is estimated to be of US $100 bn
(Rs.460000 crs).
Instruments in Indian debt market

1. Government Securities 71%

1. Treasury Bills 5%
2. PSU bonds 12%
3. FI Bonds 5%
4. Certificate of Deposits (CD) 4%
5. Corporate Debentures and Commercial Paper (CP) 3%
Government securities and T-bills account for Rs 3,50,000 crores and the remaining of the
above instruments account for Rs 1,10,000 crores.
The objective of a debt fund is to provide investors with a stable income stream. Hence a
debt fund invests mainly in instruments that yield a fixed rate of return where the principal
is secure.
The debt markets in India offer the following instruments for investments to mutual funds.
1. Call Money Market
Mutual funds invest in call money to maintain liquidity in the portfolio. A large part of the
liquid/money market funds is invested in call money markets, as the need for liquidity in
such funds is very high.
The Call Money Market in India is the example of the sub market dealing with near cash or
overnight money. The demand comes from the banks that fall short of reserves, which has
to be maintained with the RBI for its CRR and the SLR requirements. This market in India is
called the Inter-Bank Call Market wherein the funds are borrowed overnight for book
adjustments. The market for short-term finance is Call Money Market. The Call Money
Market is that part of the national money market where days to day surplus funds mostly of
the banks are traded in.
However as per the new regulations Mutual Funds access to call money market is going to
phase out in steps.
Treasury Bills
T-bills are short term, rupee denominated obligations issued by the RBI on behalf of the
govt. Of India, and are in the form of a discounted govt. Promissory note or by credit to the
Securities General Ledger (SGL) account. Unlike commercial bills they are not backed by
commercial transactions in goods. These bills are highly liquid and are virtually risk free as
they are backed by government guarantee. These bills are issued for 14 days, 91 days, 182
days and 364 days.
Commercial Paper (CP)

Corporate borrowers to meet their working capital finance requirement issue commercial
papers.
To give a boost to the money market and to reduce the dependence on highly rated
corporate borrowers on bank finance for meeting their working capital requirements,
corporate borrowers were permitted to arrange short term borrowing by issue of
commercial paper with effect from 1 st Jan 1990. This has provided financial instrument for
investors. The maturity period for CP’s has been reduced from 30 days to 15 days.
The major investors in the CP market are Mutual Funds, Commercial banks, and FIs.
Certificate of Deposit (CD)
Only banks can issue the CD. It is a document of title to a time deposit. It is a bearer
certificate and is negotiable in the market. They are bank deposits. Bank CDs have a
maturity of 91 days to one year, while those issued by FIs have maturities between one and
years.
Government Securities
Government Securities are instruments issued by Central/State Government (Central

Government Guaranteed bodies like IDBI, ICICI, NABARD, etc. State Government
Guaranteed bodies like SFCs, SEBs, etc.)
Government securities are normally semi annual coupon, barring bullet redemption bonds
(a bond that pays maturity value in one lumpsum at maturity). Zero coupon bonds have
also been issued in the past.
These bodies borrow regularly from the capital markets to finance their projects by way of
medium to long term dated securities either on issue basis or by way of auction. There is no
limit to the bid size for auctions. Based on the bids received RBI determines maximum rate
of yield which will become the cut off rate and the coupon rate for that stock. The investors
in the GOI securities are the Mutual Funds, State Governments, RBI, banks, LIC, PFs, etc.
Public Sector Undertaking Bonds: (PSU)

PSU bonds are medium term obligations issued by the public sector companies such as the
ones in which the central or state govt. has more than 51% stake. The market for PSU
bonds has grown substantially over the past decade. All PSU bonds have bullet redemption
and some of them are embedded with call or put options.
Corporate Debentures (CPD)
CPD are short to medium term obligations issued by the private and public sector
corporations.
Debentures are creditorship securities with fixed rate of return, fixed maturity period, high
certainty and low capital uncertainty. Debentures can be secured or unsecured.
Corporate debentures can be privately placed or publicly issued. Public issues of

debentures are mandatory rated by at least one of the three rating agencies in India.
Typical maturity of corporate debentures is between 3 and 12 years. However the
majorities of them have a maturity period of less than 18 months and are placed privately.
The types of debentures:
 Non convertible debentures

 Partly convertible debentures
 Fully convertible debentures
 Bearer debentures
 Registered debentures
 Redeemable & Irredeemable debentures
 Secured & unsecured debentures
Floating rate notes (FRN)
These are the instruments of debt of short term duration say 5 to 6 months which is
extendable to 5 years, carrying no fixed rate, but the rate is above 2% above the benchmark
rate which is the bank deposit rate of 2 years and above. The floor and the cap which are
the minimum and the maximum rate promised to the investors which protects both the
investor and the issuer from the interest rate fluctuations For e.g. if the deposit rate is 12%
the floating rate of the bonds will be 14%. UTI and ICICI have issued this for institutions/
companies. Interest is payable half yearly at the rates adjustable to bank deposit rates of 2
years and above and conversion to equity shares are also offered in some cases.
Measures of bond (Debt Securities) yield

Current Yield: The most common way to calculate a bond fund's current yield is to multiply
the half yearly dividend by 2 and divide by the price per unit (the "net asset value" or NAV).
For example, if a bond fund is selling at Rs. 12 per unit and it pays a half yearly dividend of
Rs. 0.70 per unit, or Rs. 1.40 a year, the current yield would be 11.67%. [(0.70 x 2) ÷ 12)].
Yield-to-Maturity: It is the rate of interest that an investor would have to earn if an

investment equal to the current price of the bond were capable of generating the coupon
payments and the maturity amount in exactly the same time pattern promised by the bond
issuer. For example, suppose a bond is selling at Rs. 961.60 and pays a semi annual coupon
of Rs. 40 per year for the next 20 years. The holder of such a bond would expect to receive
Rs. 40 every six months for the next 20 years and Rs. 1000 at the end of the 20th year. What
rate of interest on an investment of Rs. 961.60 would be able to produce these cash flows
and leave nothing after the payment of Rs. 1000? The answer, an annual compounded rate
of 8.58%, which is the yield-to-maturity (YTM) of this bond.
Risks in Investing in bonds
Investments in bond or debt funds are also associated with risks. Some of the risks that
debt fund manager needs to manage are
Interest Rate Risk: Interest rates and bond prices have an inverse relationship, moving just
like a seesaw. A sound analysis of rate movements is therefore essential.
Credit Risk: A credit quality "upgrade" can increase a bond's value, and a "downgrade" can
cause a price decline.
Maturity Risk: The longer a bond's maturity, the further out it rests on the price side of the
seesaw and the more its price tends to fluctuate as interest rates change. For example, a
rise in interest rates will bring about a larger drop in price for a 20-year bond than for an
otherwise equivalent 10-year bond.
Default Risk: A bond is subject to the risk that the issuer may default on its obligations to
make payments.
Call Risk: If a bond has been issued with a call provision, the issuer may call them back and
return the proceeds to the investors, whenever interest rates fall so that the borrowing can
be replaced with cheaper debt.

Reinvestment Risk: A bonds yield assumes reinvestment of interest received during the
term as constant. This may not be possible if interest changes and the risk of interim cash
flows being reinvested at lower rates.
Liquidity Risk: This refers to the ease with which the bond can be liquidated at a price near
its value. This element is important for a fund because its investments are made on behalf
of unit holders and market conditions may require the fund to liquidate part of its portfolio
within a short time.
Debt Investment Strategies

We can now look at some debt investment strategies adopted by portfolio managers.
 Buy and Hold: Historically, in India, UTI and many of the other mutual funds tended to
invest in high yielding debt securities that give adequate returns on the overall
portfolio. The returns are considered sufficient to reward the investors. Therefore, the
funds would just encash the coupons and hold the bonds until maturity. These fund
managers will tend to avoid bonds with call provisions, to counter the prepayment risk.
 Duration Management: If Buy & Hold is like Passive Fund Management, Duration
Management is like Active Fund Management. This strategy involves altering the
average duration of bonds in a portfolio depending on the fund manager’s expectations
regarding the direction of interest rates. If bond yields are expected to fall, the fund
manager will buy bonds with longer duration and sell bonds with shorter duration,
until the fund’s average duration becomes longer than the market’s average duration.
Based as the strategy is on interest rate anticipations, it is akin to the Market Timing
strategy for equity investments.
 Credit Selection: Some debt managers look to investing in a bond in anticipation of

changes in its credit rating. An upgrade of a bond’s credit rating would lead to increase
in its price, thereby leading to a superior return. The fund would need to analyze the
bond’s credit quality so as to implement this strategy. Usually, debt funds will specify
the proportion of assets they will hold in instruments of different credit quality/ ranges,
and hold these proportions. Active Credit Selection strategy would imply frequent
trading of bonds in anticipation of changes in ratings. While being an active risk
management strategy, it does not take away the interest rate, prepayment or credit
risks that are faced by any debt fund.
 Prepayment Prediction: As noted earlier, some bonds allow the issuers the option to
call for redemption before maturity. A fund which holds bonds with this provision is
exposed to the risk of high yielding bonds being called back before maturity when
interest rates decline. The fund manager would therefore strive to hold bonds with low

prepayment risk relative to yield spread. Or try to predict the course of the interest
rates and decide what the prepayment risk is likely to be, and then increase or decrease
his exposure. In any case, the risks faced by such fund managers are the same as any
other. What matters at the end is the yield performance obtained by the fund manager.
Investing in Mutual Funds

There was a time when Indian investors did not have many investment schemes to choose
from. It was easy then for the agents to simply point out the benefits of any currently
available scheme to a prospective investor. The investor then decided whether the
schemes suited to his needs or not. Now, the Indian mutual funds industry offers a wide
choice of investment schemes, unlike ever before. Different schemes are suited to different
investor needs. In this scenario, an investor not only has to choose from this variety of
investment options available, but also design a proper investment strategy that is suitable
to his situation and needs. In this scenario an investor should develop the right approach
to investing, and avoid ad-hoc investment decisions.
However as Jacobs puts it, mutual fund investing is not a “get-rich-quick scheme”. Investors
must have an Investment Program and ought to set their sights on long –term goals, in

other words, investment decisions to be taken in terms of clear, long-term goals, not on an
ad-hoc basis.
Each investor should expect only realistic wealth accumulation goals, no dramatic result
overnight. For example, in the current Indian market conditions, investors can expect 20%
plus returns in equity investments, 11 or 12% returns in debt investments and 8 to 9% in
money market investment. These expectations can change over time. Specific investments
or funds can give greater return or less return, but higher returns will be in most cases
achieved by investors or their fund managers taking greater risks.
It is extremely important for investors to know how to choose a particular scheme or set of
schemes from all of the options available.
Asset Allocation – Determining of the Portfolio Mix
The principles of financial planning are also applicable to investment in mutual Funds. The
1st step to selecting a mutual fund is asset allocation.
It is a very important aspect of financial planning. Asset Allocation is the critical decision
and the essence of what all financial planning comes down to. “It has been observed that
over 94% of returns on a managed portfolio come form the right levels of asset allocation
between stocks and bonds/cash.” So any financial planning for an investor must determine
a suitable asset allocation plan.
The purpose of ascertaining your goals, your resources, risk tolerance and tax situation is
simply to decide the most appropriate asset allocation and investment strategy. This is
because every asset class (i.e. stocks, bonds, cash etc.) has different characteristics. Stocks,
for example, have the potential to provide high total returns, while bonds provide lower
risk along with regular income. Every investor may also have distinct goals. These goals
should determine an investor's investment strategy. Since each investor's goals may differ
there should be a different investment mix, or asset allocation, that satisfies their goals.
What is Asset Allocation?
Asset allocation can be defined in a number of ways. However, most simply, asset allocation
is the process of diversifying your investments among different types of asset classes. The
purpose of doing this is manifold. Primarily, the goal of asset allocation is to help the
investor meet his or her investment goal. But asset allocation provides many other salutary
effects. Diversification across asset classes balances investments with higher levels of
safety with those that have higher levels of growth. Diversification also offers the additional

benefit of countering the negative effects of various economic or market conditions, by

combining investments which behave differently when exposed to those conditions.
Since different asset classes do not move in tandem, when one asset is down, the other may
be up. This may help in lowering the investment risk across the portfolio. The goal of asset
allocation is to achieve the highest return at a particular level of risk.
A suitable asset allocation may differ from investor to investor. It will be based on his
individual investment goals, his risk tolerance, his time horizon and his personal
circumstances.
Investment goals
The asset class that an investor should choose will depend on his investment objective.
There are four basic investment objectives associated with any investment: safety, income,
growth or tax benefits. For example, if an investor were investing for retirement, his main
investment goal would be to amass sufficient funds to maintain his standard of living
during his retirement years, i.e. a growth objective.
Risk Tolerance
An investors risk tolerance depends on his attitude towards investment risk and may be
unique to you. Individuals having same income, same investment horizon and same
investment objective may still opt for different asset allocations. An investor having a
higher tolerance for risk may want a larger allocation in growth investments in his
portfolio for though they are riskier they generally offer a greater potential for higher
returns.
Investment Horizon
Knowing the investment time horizon is critical and will help an investor decide on a
proper asset allocation. If an investor has 10 years to save, his investment strategy will be
significantly different from say a 3 year time horizon. Over a longer period of time he can
take advantage of growth opportunities, whereas over a shorter period of 3 years, he may
be more concerned about safety. If he is investing for retirement and starts saving at the
age of 30-40 yrs, he can then assume an investment span of 20 to 30 years assuming the
traditional retirement age of 60 years. As he grows older, his investment horizon obviously
diminishes.
Personal Circumstances

An investor’s level of savings and his financial responsibilities play a role in influencing his
asset allocation decision. An investor needs to evaluate his financial situation and his
income sources through his investment time span. How much discretionary income does he
have available every month? What is his cash flow situation? If his current and future
income is expected to be stable he can consider equity investments.
Asset Allocation – Determining the right mix.
After taking into consideration the above the investor should determine the investment
mix. As with many decisions the choices are numerous.
An investor may choose investment products between different asset classes or he may
choose mutual fund schemes that suit his requirement.
Different Asset Allocation Models
Benjamin Graham’s 50/50 Balance
The fundamental asset allocation advice given by one of the stalwarts of investment
planning, Benjamin Graham, who advocates 50/50 split between equities and bonds, the
common sense approach to start with. When value of equities goes up, balance can be
restored by liquidating part of the equity portfolio, and vice versa. This is the basic
defensive or conservative investment approach. Benefits include not being drawn into
investing more and more into equities in rising markets. Both the gains and losses will be
limited. But it is good to get about half the returns of a rising market and to avoid the full
losses of a falling market.
50/50 Portfolio of Mutual Funds
Graham’s approach can be translated into reality by holding different kinds of portfolios of
funds. Bogle suggests the following combinations:
1. A Basic Managed - 50% in diversified Equity ‘Value’

Portfolio Funds
- 25% in Government Securities
Fund
- 25% in High Grade Corporate
Bond Funds
2. A Basic Indexed - 50% in Total Stock Market/Index
Portfolio Fund
- 50% in Total Bond Market

Portfolio
3. A Simple Managed - 85% in a Balanced 60/40 Fund
Portfolio - 15% in a medium term Bond
Fund
4. A Complex Managed - 20% in diversified equity fund
Portfolio - 20% in aggressive growth funds
- 10% in specialty funds
- 30% in long-term bond funds
- 20% in short-term bond fund
5. A readymade Portfolio - Single Index Fund with 60/40
equity/bond holdings
Strategic Asset Allocation
Bogle recommends adjusting the percentage for each group of investors after taking
account of their age, financial circumstances and objectives. He classifies investors in terms
of their lifecycle phases. During the Accumulation Phase, an investor would be building
assets by periodic investments of capital and reinvestment of all dividends received. During
the Distribution Phase, he will stop adding assets and start receiving dividends as income.
Considered in conjunction with the investor’s age, he recommends the following strategic
allocations:
Older Investors in Distribution Phase : 50/50(equity/debt)
Younger Investors in Distribution Phase : 60/40
Older Investors in Accumulation Phase : 70/30
Younger Investors in Accumulation Phase : 80/20
In other words, younger investors can be more aggressive and let the magic of
compounding work for them, while older investors take a more conservative approach.
Similarly, investors in the Accumulation Phase can take greater risk than those who need
income and are in their Distribution Phase.
Bogle gives a nice rule of thumb for asset allocation: debt portion of an investor’s portfolio
should be equal to his age. So let a 30- year –old investor make 70/30- asset allocation, and
at age 50 let him balance it out. And so on.

This can be further explained with the help of life cycle stage and welath stage.
The Life Cycle Stage
This model recommends allocation based on the age of the investor.
The early working years - 25-40 years
During the early part of an investor’s career his primary objective may be to accumulate
wealth for his retirement years. Keeping in mind his investment time horizon, which may
be 20-30 years, stocks should comprise a major part of his asset allocation.
The later working years - 40- 50 years
In the later part of his career, while capital appreciation remains an important objective he
would also want to take care that his capital is preserved. Therefore, a more conservative
asset mix may be called for.
The Pre and Post –Retirement years - 50 -70 years
As an investor approaches retirement, and even after retirement, he will probably be

concerned more with steady income at low risk. So most of his investment should be in
bonds. However, for purposes of diversification and to protect you from inflation, stocks
should still form a part of his portfolio.
The Wealth Cycle guide
While the life cycle stage is a useful approach to asset allocation, another supplementary
approach that many experts recommend is that of The Wealth Cycle. The life cycle
approach groups all investors in age groups, irrespective of their financial planning
condition. In fact each investor is so unique with a unique combination of circumstances,
resources, attitudes and needs that any attempt at grouping them by age has its drawbacks,
especially if the attempt is to identify the one investment strategy that works best for the
entire group. However it has been observed that certain investment strategies work well to
meet specific type of investor needs.
In this regard, the Wealth Cycle grouping seems to work best and is more comprehensive
and relevant than grouping investors merely by age or life stage.

The Accumulation Stage: During this phase, investors are looking to build wealth because
their financial goals are quite some time away and investments can be made for the long
term. Typical investor needs such as saving for retirement acquiring assets are distant and
the investor’s primary aim is long term wealth accumulation. Such investors should
consider a higher allocation of their investment in equity, as statistics show that in the
long-term equities outperform all other forms of investment. In fact a study shows that no
investor who has invested for a 9-year period in the BSE Sensex has lost his capital. Though
equity is volatile in the short term, over longer term the volatility is reduced. However this
should be after taking into account his risk tolerance and his personal circumstances.
The Transition Stage: During this stage, one or more of the investors goals are approaching
and clearly in sight. For e.g. A salaried executive in late fifties who is planning to retire at 60
years of age needs to start preparing in advance by adjusting his investments. Like wise,
couples in there 40s who have children approaching the age of higher education or
marriage are in transition stage. Such investors need to have higher allocations in debt
instruments or debt mutual funds as equity investments are volatile in short term. Debt
funds can provide them adequate returns coupled with safety and liquidity.
Reaping Stage: This is the cashing out stage, because the goal and the purpose towards
which the investor has been investing have arrived. In essence this is the time to reap the
harvest that they have sown. An investor who is about to retire or has retired is an
example. Such investors should have a conservative portfolio and may consider the money
market funds offered by mutual funds. These money markets are a very safe investment as
they invest in short term investments viz., call money, commercial papers and Floaters.
Such schemes offer investors high degree of safety and liquidity.
The Intergenerational Transfer Stage: Investors upto their early 50s may not yet feel the
need to take care of the next generation in the event of their own death. However many
older investors need to start thinking about how to share their wealth either during their
own lifetime or by bequeathing through their will after their lifetime. Such transfer of
wealth may have to be done in favor of different categories of beneficiaries such as
investor’s children or grandchildren or to family or charitable trusts or causes.
The Sudden Wealth Stage: Sometimes significant events such as sale of shares or business,
inheritances or winnings from lotteries may give investors bonanza in the form of one time
receipt which multiplies their networth, making them suddenly wealthy. Till September
2000 investor’s who had made capital gains could save capital gains tax by investing in
mutual funds and availing of section 54EA and 54EB benefits.
Fixed vs. Flexible Asset Allocation

The allocation made by the investor can be fixed or flexible allocation.
Once a strategic asset allocation has been decided, should it be re-balanced periodically to
benefit from market movements and as investors’ circumstances, returns obtained or time
horizon change?
Fixed Allocation
A Fixed ration of asset allocation means that balance is maintained by liquidating a part of
the position in the asset class with higher return and reinvesting in the other asset with
lower return. This is not what investors normally do. They tend to increase their equity
position when equity prices tend to climb up and vice versa. But, this approach is more
disciplined and lets him book profits in rising markets and increasing holdings in falling
markets.
Flexible Allocation
A flexible ration of asset allocation means not doing any re-balancing and letting the profits
run. As stocks and bonds will give different returns over time, the initial asset allocation
will change, generally in favor of equity portion, as its returns would be higher than bond
portion. The distribution- oriented investor will find his initial ratio change in favor of
equities much more than the accumulation – oriented investor. As an example:
Rs. 200 invested equally in Stock and Bonds, with returns being 10% & 7%
At the end of 10 years, for accumulating investor, will result in 57/43 ratio
At the end of 20 years 63/37 ratio
But for the distribution-receiving investor, 10 years will see 66/34 ratio
And 20 years will see 79/21 ratio
The investor, who takes out the income from debt fund without reinvesting, stands to
automatically increase his equity part of the portfolio much more significantly than the
accumulating investor does, since his debt capital remains fixed.
Which option will likely give better returns? If stocks continue to return more than bonds,
then a fixed ration is better than variable ratio. If bond returns are close to equity market
returns, then the variable ratio may work better. The answer depends upon whether one
can really forecast the future. It is logical to assume that stocks will give higher returns
than bonds, so fixed ration approach to asset allocation is better at least in bull markets.

Asset allocation is not a one-time exercise. Over time an individuals lifestyle will change
due to economic changes. An individual should therefore review his asset allocation
decision, and possibly make changes to it at least once a year. He may need to rebalance his
portfolio to the original asset allocation to maintain diversification within his risk tolerance
profile.
It is important to understand the risk and return relationship of the assets that are being
considered. Studying the historical returns of the different asset classes can provide an
insight into demonstrated risk.
Asset allocation may be one of the most important decisions an investor has to make. While
arriving at an asset allocation, an investor needs to carefully evaluate the parameters listed
above. The process of asset allocation takes a simplified view of how to go about investing
ones savings.
Model Portfolios
Jacobs gives four different portfolios, summarized below. However it should be kept in
mind that the exact percentage allocations have been recommended for the investors in the
U.S.A. Besides, the percentage allocations can change depending upon the specific facts
about an investor, or also in the light of his changing conditions. However, the following
four portfolios are still of general applicability and investors in India may consider them as
the basis to develop similar model portfolios.
Investor Recommended Model Portfolio
Young, Unmarried Professional 50% in Aggressive Equity Funds
25% in High Yield Bond Funds, and
Growth and Income Funds
25% in Conservative Money Market Funds
Young Couple with Two Incomes
and two Children 10% in Money Market
30% in Aggressive Equity Funds
25% in High Yield Bond Funds, and

Long Term Growth Funds
35% in Municipal Bond Funds
Older Couple, Single Income 30% in short-term Municipal Funds
35% in long-term Municipal Funds
25% in moderately Aggressive Equity
10% in Emerging Growth Equity
Recently Retired Couple 35% in conservative Equity Funds for
capital preservation/income
25% in moderately Aggressive Equity
for modest capital growth
40% in Money Market Funds
A good exercise will be to find the Indian mutual fund equivalent recommendations for
Indian investors, using the above guide.
ASSET ALLOCATION
STOCKS/BONDS
Older
70/30 50/50
Age
80/20 60/40
Younger
Accumulation Distribution
Investment Goal
Source: Bogle On Mutual Funds
From Asset Allocation to Fund Category Selection

Once an investor has worked out an asset allocation plan, he would have allocated funds to
the two basic categories of Equity and Debt funds. However, building the risk factor into an
investor’s portfolio requires two steps:
1. Sub-allocating equity and debt percentage investments to sub-categories of equity and

debt Funds, consistent with the risk appetite of each investor, and
2. Evaluating the risk of specific funds/schemes for the purpose of deciding the scheme’s
own risk level and whether the fund fits into the investor’s portfolio in view of its actual
performance and risk level.
At a practical lever, it is best to classify various mutual funds and arrange them in order of
their generally expected risk level, in the same way that the investors are classified into
three risk levels Jacobs recommends the following classification:
Low Risk Funds (for investors with low risk appetite)
1. Money Market Funds

2. Government Securities Funds
Moderate Risk Funds (for investors with moderate risk appetite)
1. Income funds
2. Balanced funds
3. Growth and income funds
4. Growth Funds
5. Short-term bond funds
6. Intermediate bond funds
7. Index funds
High Risk Funds (for investors with high-risk appetite)
1. Aggressive growth funds

2. International funds
3. Sector funds
4. Specialised funds
5. Precious metal funds
6. High-yield bond funds
7. Commodity funds

Based on risk level of different fund categories, Jacobs recommends the following portfolio
sub-allocations within each category:
1. Low Risk (Conservative ) Portfolio:

50% Government Securities Funds + 50% Money Market Funds
2. Moderate Risk (Cautiously Aggressive ) Portfolio:

40% Growth & Income Funds + 30% Govt. Bond Funds + 20% Growth Funds + 10%
Index Funds
3. High Risk (Aggressive) Portfolio:

25% Aggressive Growth Funds + 25% International Funds + 25% Sector Funds + 15%
High Yield Bond Funds + 10% Gold Funds
Selecting Specific Fund Managers and their Schemes
This step is required to translate the amounts to be invested in each MF sector into actual
decisions on which scheme of which fund manager to select for investments, as the
investor would have a choice of many Debt Funds or MMMF’s or even Balanced Funds.
Selecting the Right Mutual Fund: The Bogle Approach
After an investor chooses a ‘model portfolio’ that suits him, he will arrive at the decision on
the amounts to be invested in the basic categories of Equity, Debt, Balanced and Money
Market Funds. The next step is to decide which specific funds/schemes should be selected
for inclusion in the mode1 portfolio. One practical and sound approach to fund selection
has been worked out from experience by John C. Bogle, the ex- Chairman of the Vanguard
Group of Funds in the U.S.A.
Selecting the Equity Funds
Step One: Classify the available equity schemes in Growth, Value, Equity Income, Broad-
based Specialty and Concentrated Specialty funds.
The purpose of classification is to decide whether the investment objective of the fund suits
the investor needs as translated in the model portfolio. It is easy to make the mistake of

looking only at the past performance of a fund and ignoring its suitability for the investor.
For example, no matter how good the performance of as specialty offshore or industry
fund, it would not be advisable for the conservative equity portfolio of a retiree.
Step Two: Choose one of two strategies – either 1. Select mainstream growth or value
funds, providing broad diversification, or 2. Select either a differentiated growth or value
fund or a specialty fund whose risks and returns will vary from the overall market. In the
first choice, further selection of growth or value fund should depend upon their relative
returns, which have been similar in the U.S. (not yet known in India). This choice should be
dictated by the investor profile. For a young investor, a growth fund will be preferable to an
equity income fund, more suited to an older investor.
Step Three: Evaluate past returns of available funds in each category – mainstream equity
income or even index fund, or high risk/reward specialty fund.
Step Four: Review the salient features of a scheme. SEBI in India requires the Offer
Documents of new schemes to highlight the risk factor that a fund’s past performance is no
guide to the future. This is important to remember. That is why Bogle cautions against
relying only on past performance to select a fund. Bogle recommends looking at past
returns only after reviewing a fund’s “ structural characteristics” like,
a) Fund Size - smaller funds mean higher expenses or possibility of it not surviving,
so avoid such funds unless it is part of a big family, or unless you seek
exceptional return and so do not want a very large fund.
b) Fund Age – look at fund’s performance over five to ten years, except that you
may consider a new scheme or a new Balanced Fund from a fund manager who
has offered successful equity or debt funds or even a new index fund.
c) Portfolio Manager’s Experience: It is good to know who manages your portfolio,
how long he has managed it, and what his performance track record is. In some
large mainstream funds, there are tams and advisors who mange the
investments. Remember that a fund manager is supported by research, and
sometimes his performance may be simply due to favorable market conditions
or good luck.
d) Costs of Investing: Less important than in bond/govt. securities/balanced find,
overall costs of front-end and redemption loads and the fund’s expense rations
are important to consider while choosing an equity fund. Adjust the past or
expected returns for costs to get net returns.
e) Portfolio Characteristics:
e) i. Cash Position: Equity funds would normally hold little cash, say 5%. Too
much cash means you are paying somewhat excessive management fees to

the fund manager. However, look at whether the manager has successfully
predicted up market moves by holding cash before such bull market phases.
In India, this may be difficult to track for older schemes, but funds now
disclose their portfolios more frequently for you to look at the cash position
and analyze its impact on performance.
e) ii. Portfolio Concentration: Check the fund’s largest ten holdings – their
proportion in the fund’s net assets. Is the concentration in line with the
stated objective of the fund? Ten largest holdings accounting for over 50% of
the net assets means the fund is concentrated, not diversified. Concentration
helps achieve differentiated performance, but has it meant superior
performance?
e) iii. Market Capitalization of the Fund: Judge the fund’s strategy by the size
of the market cap of its equity holdings – does it have large-cap, blue chip shares or
emerging small-cap shares? The market cap also indicated the level of risks
assumed. Relate this information to the fund objectives and consistency of its
performance.
f) iv. Portfolio Turnover: A Steady holding of investments indicates a long-

term orientation. Larger turnover – purchases and sales – could generate
higher capital gains but also higher transaction costs for the fund and so
for the investor. See what strategy fits the investment objective of the
fund, and has given better returns.
g) v. Portfolio Statistics: While selecting a fund, an investor needs to compare

its performance with others. To ensure a proper comparison, look at three
measures:
ExMark: A term coined by Bogle, it explains a fund’s performance in relation

to a benchmark like a market index. Simply put, a high proportion of an
equity fund’s Total Return is generally explained by the return on the index
or the performance of the overall market. Only 10 to 20% of a fund’s return
may come from the fund’s strategy. If ExMark is lower is lower than 80%, the

fund’s performance relative to the market is less predictable. An Index Fund

would carry a nearly 100% relationship with the market index.
Beta: ExMark measures performance. Beta measures risk. A fund’s risk is

measured by the volatility of its past price relative to a market index. A beta
of 1 means the fund value will fluctuate exactly with the index value. A
portfolio with less than 1 beta is obviously less ‘risky’ (with less return in a
rising market but less loss in a falling market). What is your target fund’s
beta? Diversified equity funds will have a beta nearer 1, small company funds
higher than 1.
Gross Dividend Yield: Find out if the fund’s reported yield is net after fund
expenses or gross before expenses. Gross dividend yields tend to be higher
for “value” funds than for “growth” funds. Small company funds have lower
gross yields.
While evaluating a proposed fund, look at all three statistics together – the
relative return, the risk and net returns to the investor. The best fund will
have higher ExMarks, lower beta and higher Gross Dividend Yield.
An investor should invest mainly in mainstream diversified funds. He should select funds
by comparing his target fund with other funds in the same category. He should look at the
ExMarks, Beta and Gross Yield, the age and size of the fund, its portfolio turnover. And
avoid funds at the top of the performance rankings, and those at the bottom, too. He should
also avoid narrowly focused funds (Sector or small company funds). There may, of course,
be exceptions in India such as Technology or Pharmaceuticals Sector Funds, because of the
projected economic growth in India. But he should be aware of the additional risks of such
funds.
Selecting a Debt/bond/income Fund
In India, a large number of investors like fixed returns. Hence debt schemes are popular.
Bogle recommends the right process to select the right debt fund.
Step One: Narrow Down the Choice: Contrary to impressions, Debt funds have a larger
variety to choose from than equity funds. The debt funds may have short, intermediate and
long-term portfolios. They may invest in government securities, corporate debentures and
bonds – investment grade or below, Financial Institution bonds, state or even municipal
level bonds, or global bonds. Combinations of maturities with the types if investment
securities is what gives the large variety. However, the good thing is Debt Funds portfolios

can be easily recognized and distinguished form each other than Equity Funds portfolios.
So the fist step in selecting a Debt Fund is to narrow down the universe.
Step Two: Know Your Investment Objective: For young investors doing retirement
planning, long-term bond funds are appropriate. But, for retired persons, monthly income
schemes are more appropriate. What are the other options open to the investor? That
defines the return targets.
Step Three: Determine the Right Selection Criteria and select:
a) Fund Age and Size – Due to explicit objectives of a debt fund, unlike equity funds,
there is no harm in investing in new funds, though the fund manager’s track
record is relevant to consider. An investor should be careful of funds that invest
in as yet unknown or new instruments. Similarly, the tenure of the portfolio
manager is also less important for bond funds than for equity funds.
b) Relative Yields – If an investor needs income, he should select a fund with high
current yield (fund dividends as percentage of its market value). But, a debt fund
also has a yield to maturity. YTM is important, if the objective is total return, not
just current income. As the principal value will decline when interest rates rise,
causing a capital loss and a lower total return. That is why an investor must
know the fund portfolio composition.
c) Costs: More than in equity fund, a bond fund operates in narrow income
margins. For a bond fund therefore, expense ratio is much more important than
for an equity fund. A debt fund returning 10% with 1% expense ration means
significant impact for the investor, as compared to even 1.5% expense ration for
an equity fund returning 20%. For the same reason, any front-end, entry load for
a bond fund also reduces the return to the investor significantly. An investor
should look at both these elements of costs. Costs involve what is called ‘yield
sacrifice”.
d) Portfolio Characteristics: An investor must know the portfolio quality in terms of

the Credit Ratings - how much percentage of the portfolio is held in highest
credit rated instruments and how much in lower rated or non-investment grade
instruments. This is a measure of portfolio risk – risk of credit default by the
fund’s borrowers. High yield of a fund may be coming at high risk of loss from
securities with low credit ratings. Thus, a government securities fund is the
highest quality debt fund, follower by other portfolios of AAA credit-rated bonds,
followed by lower- rated bonds and so on.

e) Average Maturity of a debt portfolio will determine whether the portfolio is

sensitive to movements in interest rates. The longer the average duration of a
portfolio, the greater the sensitivity – meaning higher interest rates will cause
portfolio value to decline and vice versa. High current yield of a fund may come
at the cost of higher risk of principal amount loss. Thus, long-term funds carry
higher risk of capital loss (or gain). Even government securities still carry this
interest rate risk. Money market funds carry smaller risk as they invest in short-
term securities. Some balance is necessary to be kept for most investors. In times
of rising interest rates, all funds with similar average maturity will lose value,
better managed ones may lose less, but the differences among most funds are
not as high as in case of equity funds. What makes the difference is the ‘costs’.
f) Tax Implications – In many countries some debt securities pay taxable income
and others tax-free income. In India, currently all income in the hands of the
mutual funds is tax-free. Hence, all funds that invest in debt with the same
coupon will have the same yield. However, debt funds are required to pay a
Dividend Distribution Tax. That means, cumulative or growth option of debt
fund has advantage over a fund that pays out dividends to investors. Distribution
tax is therefore the third element of ‘costs’ – besides management expenses and
entry/exit loads – to be considered by an investor in computing the net relative
returns of a debt fund.
g) Bonds versus Bond Funds: Investors ought to remember that all debt funds will
have an average maturity of their portfolio, exposing them to risk of principal
loss. Hence, anyone who wants to lock in returns is better off buying a bond and
holding it on till maturity, which is not possible with holding a bond fund.
However, direct interest income from bonds is taxable, while the same bond
income received through a fund is not taxable, making the debt funds more
attractive at present.
h) Past Returns: Once again, do not be guided by past returns obtained by funds.
Future returns will depend upon future level of interest rates – not easily
predictable. All the same, while computing returns, an investor should use
average annual rates of return, not cumulative return numbers. However, while
comparing different funds to select one among them, an investor should
remember expenses is what will make the most difference between them. So he
should look at “expense performance” which is somewhat predictable for a given
fund manager.

Currently in India, we do not have high-yield or junk bond funds. But, still investors should
make sure he compares the credit quality of portfolios of different mutual funds. Higher
yield per se is not an indication of better performance if achieved with much higher risk.
Once again, an investor should avoid a debt fund with a lower-rated portfolio and a higher
expense ratio than others, if a better quality and less expensive fund is available.
Selecting a Money Market Fund.
Selecting a money market mutual fund is a somewhat easier exercise than selecting a bond
or equity fund. The elements to consider in selection are:
a) Costs: If expenses are important in case of debt funds, they are crucial in case of
money market funds, since they generally offer lower returns and expenses can
take away a significant part of returns. An investor should look for funds with
lower expense ratios.
b) Quality: Portfolio quality is the other factor that affects yield. Higher yield with
lower rated portfolio comes at higher risk. Lower quality may have some
justification in long-term funds, but such risk in case of short-term money
market funds is unacceptable.
c) Yields: Higher yielding money market funds are not necessarily of lower quality,
or vice versa. That is why yield quotations of different funds have to be
investigated. In general, unlike debt funds, MMMFs have the lowest principal risk
but highest income variability as short-term interest rates fluctuate. So virtually
no capital gains possibility either. Yields of portfolios that are of the same quality
are likely to be near identical. In any case, investor should compare ‘net yields’
after fund expenses and loads.
Management quality does make some difference, not so much in achieving vastly superior
performance, but because running an MMMF portfolio takes a lot of trading skills.
Selecting a Balanced Mutual Fund:
In India we now have an increasing number of Balanced Funds available. Hence selecting
the right fund is important.
First point to note is that a Balance Fund is rarely exactly 50% equity/50% debt, no exact
‘golden mean”. So there are two basic types: equity oriented balanced funds that invest
upto 60% in an equity portfolio and income oriented balanced funds that hold upto 60% of
their funds in debt instruments. For this reason, it seems logical that investor should use

the selection criteria for equity funds for the equity portion of the balanced funds, and
those for the debt funds for their debt portion. However, these funds follow clearly defined
guidelines. Hence, the fund size and age, or the tenure of the portfolio manager is less
important. Even portfolio characteristics (turnover, concentration, market capitalization,
and the credit quality and average maturity of the bond portfolio) tend to be similar in each
of the two types of balanced funds.
The special selection criteria for balance funds include:
a) Portfolio Balance: Proportion of portfolio in stocks, bonds and money market

securities is one factor. Weight given to current income versus total return is
another factor. Both must be in line with the investor’s objectives.
b) Debt Portfolio Character: In general, balanced funds are for the slightly
conservative investor. So its bond portfolio ought to be of investment grade
quality, with long average maturities. A deviation may prove to be too
aggressive.
c) Costs: More important than in an equity fund. For the income – oriented
balanced fund, costs are even more important than the equity- oriented type.
d) Portfolio Statistics: Equity- oriented funds would have lower ExMarks than the
index, since the conservative character of balanced funds usually means
investment in ‘value’ stocks versus ‘growth’ stocks. Conversely, income-oriented
funds have lowest ExMarks as they would invest in equity-income type stocks.
Lower stock market risk is reflected in lower Betas of balanced funds. Gross
yields of balanced funds ought to be much higher than the equity funds, given
their debt component.
e) Returns: The same principles of comparing and selecting from different funds
will also apply to balanced funds.
To summarize, investors will do well to invest in mainstream balanced funds, emphasizing

current income. An investor should make proper distinction between income-oriented and
equity-oriented balanced funds. He should see the fund’s portfolio character in the light of
the investment objectives. Apply statistical tools – Ex-Marks, Beta Gross Yield – to the
equity part of the fund, and focus on quality in case of the debt part of the fund. Finally, the
costs should be considered and the net yield should be calculated.

Understanding and Managing Risks of Mutual Fund Investments
A very common perception among investors is that Mutual Fund investments are risky.
This is definitely not true. As we have seen Mutual Funds have different types of schemes.
And these schemes have different types and different degree of risk associated with them.
Proper financial planning helps investors in understanding these risks and managing them.
What is risk?
A dictionary defines risk as the possibility of loss or injury. But, like many things in life, risk
is in the eye of the beholder. When it comes to investing, people tend to have different
points of view about risk.

Many investors see risk as the possibility of losing investment principal. Investment
managers, like the professionals who manage mutual funds, know that only those people
who sell their investments when prices have dropped lose money. They view risk as a
combination of technical measurements, such as standard deviation, beta, and alpha. They
use these measurements as tools in their ongoing assessment and management of the risk
in portfolios. In other words, mutual fund managers see risk not as loss but as fluctuation in
the value of investments.
Professional financial advisors, on the other hand, generally relate risk to the risk/reward
tradeoff discussed later in this section. The risk that is often forgotten is inflation risk - the
risk of price fluctuation - the possibility that higher prices will rob a nest egg of its future
value. Risk is part of life. Everything we do - or don't do - entails risk. While some of life's
risks are large, even life threatening, others are hardly noticeable.
We first learned about risk from our parents. They taught us, for example, about the
dangers of sharp objects, hot things and electrical sockets. Some of us listened; others
learned the hard way. As we grew older, we learned from others and from our experience
to manage some risks, and over time those risk management skills became second nature -
like looking both ways before
crossing the street. We take risks because the rewards justify them. Driving on the highway
is a risk, but most of us consider that the paycheck, or people or some other rewarding
experience at the end of the ride is worth the chance.
By the time most people reach early adulthood, they have highly developed skills to
identify, understand and successfully manage risk in their lives. But when it comes to
investments, many people feel their risk management skills do not apply. In reality, they
do! In dealing with investment risk, investors can use the same process that they have used
successfully to understand and manage the wide range of risks in life.
The human risk management process: Understanding and managing risk

Step 1 Identifying risks
Relying on ones well-honed skills - and working with a professional advisor for
knowledgeable assistance - one can apply this process successfully to investment risks.
Every individual investor has his or her own comfort level, and there are as many ways to
learn about investment risks and how to manage them as there are people.
The first step is to identify actions, inactions and behavior that can lead to negative results
or shortfalls. This is the most critical step, because it's difficult to control or manage any
risk on which you have not focused.
Here are a few risks commonly associated with investors:
Buying when prices are high
Selling when prices are low
Failing to set goals
Failing to plan to achieve
Harboring unrealistic expectations
Allowing emotions to drive decisions
Not diversifying assets
Confusing fluctuation with loss
Starting too late in life
Investments themselves present a variety of risks. All of them, for example, are subject to
market risk. That's because the prices of securities go up and down.

Those involving stocks are subject to company risks (negative developments affecting a
company's financial status). There's also economic risk (the impact of an overall economic
slowdown on company profits).
Those involving bonds are subject to credit risk, also known as default risk (potential
inability of the issuer to pay interest and repay principal). There's also interest rate risk
(rising rates pushing security prices lower).
Evaluating the Risks of a Mutual Fund
In the overall process of fund selection, risk is one important consideration.
Measurement of a specific fund’s risks is by now a highly evolved though somewhat

technical and quantitative exercise. The principal risk measures used by the funds
themselves and by the fund performance-tracking agencies are given below. The following
summary is based largely on the approach suggested by Fredman and Wiles (part of the
recommended reading)
Equity Funds: Volatility of an Equity mutual fund portfolio comes from
a) the kinds of stocks in the portfolio (growth or value, small or big).

b) the number of stocks in, or degree of diversification of, the portfolio
(smaller portfolios may be more volatile than large, diversified ones)
c) fund manager’s success at market timing (adjusting the asset allocation in

in response to asset class price movements).
A) Equity Price Risks are a) Company Specific, b) Sector Specific and c) Market
Level. Company specific risks have to be researched and assessed by the fund’s analysts
and portfolio managers.

Holding a large, say 15/20 – share portfolio, generally balances out and diversifies the
company risks. Sectors or industries have risks, too. Funds research and track the sectors
with good potential. Again, the more the number of sectors in a portfolio, the less is the
portfolio’s sector risk. Specific Sector funds clearly have more risks. Then comes the
Market Risk, which is not “diversifiable”, as it arises from broad economic and other
factors. Managers try to anticipate bear or bull phases and try to adjust their portfolio
asset allocation. If equity index futures and options are available, managers try to ‘hedge’
their portfolios with these instruments.
B) Market Cycles are extensively researched and analyzed in the U.S. by agencies such as
Lipper. In India, independent agencies, brokers and newspapers are doing some of this
analysis. It is important to see how a portfolio or a share performs over a well-defined
cycle than over some arbitrary, calendar period. It is also important to understand that
equity investment is basically more rewarding in the long-term. Any equity fund can be
more risky as a short-term investment. Sticking to a good fund helps.
C) Risk Measures: Risk, defined as volatility, is measurable by the statistical concept of

Standard Deviation. SD measures the fluctuations of a fund’s returns around a mean level.
Use monthly results of an equity fund. Tabulate returns. Calculate mean (average) returns.
Calculate variances of each month’s return from the mean. Square these numbers. Sum up.
Divide by the number of periods of observations.
Compute the overall variance or the Standard Deviation. SD basically gives you an idea of
how volatile the earnings are. SD can be computed for both equity and debt funds. SDs of
different funds can be compared with each other, or with SD of a market index or even that
of another category.
Another measure of a fund’s risk is its Beta Coefficient. Beta relates a fund’s return with a
market index and measures the sensitivity of the fund’s returns to changes in the market
index. A beta of I means the fund moves with the market. A beta of less than one means the
fund will be less volatile than the market, typically in case of conservative portfolios.
Higher beta portfolios give greater returns in rising markets and are riskier in falling

markets. Beta is a good measure of fund risk level. But, it should be remembered that beta
is based on past performance, so it does not necessarily indicate future performance.
Funds with specialized portfolios have higher beta and such portfolios give greater returns
in rising markets and are riskier in falling markets. Funds with specialized portfolios
cannot be assessed by betas based on overall market index.
Bogle’s ExMarks or a number known as “R-Squared” is used to help spot questionable

betas. R-squared measures how much of a fund’s fluctuations are attributable to
movements in the overall market, from 0 to 100 percent. Clearly, an Index Fund will have
ExMarks of nearly 100%. Non-diversified funds will have lower ExMarks. To be
meaningful, the fund being evaluated should have some correlation with the market. For
example, you might think that a low-beta fund with very low R-squared/ExMarks is least
risky; but not so if the fund in question is a Gold Fund, with little relation to stock markets.
Overall, Standard Deviation is the best measure of risk, even though it is also based on past
returns. It is a broader concept than beta that measures total risk, not just market risk. It is
an independent number. Risks of both specialized and diversified funds, and both equity
and debt funds are measurable with SD.
We know that risk and returns are inextricably related. So it makes sense to measure what
is called Risk Adjusted Performance. Sharpe and Treynor Ratios do that, both of which
compute the ‘risk premium’ of a fund as difference between the fund’s average return and
the return of a risk-less government security or Treasury Bill over a given period. Sharpe
Ratio divides the risk premium by the fund’s standard deviation. Treynor divides it by
beta. One step further in similar risk adjusted performance calculation is what is called
Alpha. Alpha of fund compares the fund’s actual results with what would have been
expected given the fund’s beta and the market index performance.
A simple way of gauging a fund’s risk level is to see its Price/Earnings Multiple, which is
simply the weighted average of the P/E ratios of all the stocks held in its portfolio. Higher
the fund P/E as compared to the market or other funds, the higher the probability of its fall
in the future. It is a simple risk measure.

Increasingly, an investor can see these numbers being presented in the published analyses
of fund performance and their risk levels. In India, three sources of such information are
the fund tracking agencies, research reports from brokers and others, and the funds’ own
reports (Offer Document, its annual and quarterly reports and its newsletters).
Debt Funds: Many of the risk measures outlined above are also useful to evaluate the risks
of debt funds, except the obviously not so relevant measures such as a beta or a P/E ratio.
Debt funds are exposed to credit risk – risk of loss through borrower defaults, and interest
rate risk that comes from the average maturity of the fund’s portfolio. An investor should
look at two simple measures of risk. First, what has been the Default Experience of the
Fund in the past and Its Non-Performing-Assets at present? Second, the average maturity
or duration of a portfolio, to ensure that it matches with the risk appetite of your investor.
The longer the maturity of a portfolio, the greater the risk it has from interest rate
fluctuations.
Once an investor has decided on the asset allocation, and devised a mutual fund action plan
by choosing the funds that suit his risk level, he is ready to go on to the practical tasks of
selecting specific funds/schemes that are to be included in his portfolio.
Step 2 Understanding risks
Some risks are likely to happen but have low potential impact (such as cutting oneself
while shaving). Others happen only very rarely but carry severe consequences (such as
being struck by lightning). In addition, there are risks with a high probability of occurring
and severe consequences (lighting a match near gasoline), as well as risks with little chance
to occur and low impact (being rained on in the Sahara desert).
Let's look at market risk. What's the likelihood that the value of an investment in a bond or
stock mutual fund will fluctuate? The answer is that it's certain. How much impact might
market risk have? Some investments tend to fluctuate in value a great deal, others less so.
In general, over long periods of time (10 years or more), investment types with the largest
fluctuations tend to

show the greatest growth - but, as with every aspect of investing, there are no sure things.
An investment with wide price fluctuations can often make sense for a long-term investor
but be inappropriate for someone with less time. There are other factors to consider, too,
such as how much fluctuation risk an investor is personally comfortable taking and the
percentage of his assets involved.
Step 3 Reviewing strategies to control risks
In our everyday lives we act to control our exposure to risk by doing things such as
checking the weather forecast before leaving the house. The investment world has risk-
reducing strategies, too. These range from highly sophisticated mathematical strategies to
classic, proven methods available to every investor.
Here are five broad and proven strategies for controlling investment risks:
Diversification
This strategy - built right into all mutual funds, which usually are diversified portfolios -
spreads an investors risks and opportunities. The result is a combination of less loss and
less gain. It's simply the investment version of not putting all your eggs in one basket.
Investing systematically, following a disciplined investment approach
An investor can put price fluctuations to work for you and may actually reduce the average
price he pays for shares in a mutual fund by investing identical amounts on a regular basis.
The secret is, he is buying more shares when the price is low and fewer when prices are
high. Of course rupee cost averaging does not guarantee a profit or protect against a loss in
a constantly declining market. Also, an investor should consider his financial ability to
continue purchases through periods of low price levels or changing economic conditions.

Rupee Cost Averaging
An investor would want to take advantage of the markets when share prices are low, and
you also want to avoid paying inflated prices when markets are high. Yet even the most
experienced investors find it almost impossible to time the markets.
That's why many financial planners agree that investing at regular intervals may be one of
the best ways to take advantage of market downturns and benefit from stock and bond
market rallies. This investment technique is called Rupee Cost Averaging.
Simply put Rupee Cost Averaging is a disciplined investment practice that takes the
guesswork out of "timing" the markets. While no investment technique can assure a profit
or protect against loss in declining markets, Rupee Cost Averaging provides an investor
with a simple investment strategy that can help him make the most of his investment.
What's more, he doesn't have to think about timing the markets just right.
With Rupee Cost Averaging, an investor can invest a fixed rupee amount on a scheduled
basis, regardless of market directions. The essence of this strategy is that more units are
purchased automatically when prices are low and fewer units when prices rise. Over time,
this results in the average cost per unit - the money you pay - being lower than the average
price per unit.
This disciplined approach to investing can help long-term investors improve their chances
for strong returns and build significant assets over time.
How It Works

Let's take an example using The Alliance '95 Fund (A balanced fund from Alliance Capital
Mutual Fund). Suppose an investor had invested a fixed amount of Rs.10000 in the scheme
on the first business day of each month beginning from April 1995 to October 2001. The
total investment would be Rs.7,90,000 and by October 2001 he would own 46,567.729
units of the scheme. This makes your average cost per unit Rs.16.96, which is lower than
the average unit price of Rs. xx. The value, of Rs.7,90,000. invested in the Alliance ’95 Fund
would have been Rs.17,65,848. as on October 2001.
Although Rupee Cost Averaging eliminates the guesswork involved in market timing, it
does not guarantee a profit or guarantee against loss in a declining market. However, with
Rupee Cost Averaging an investor can avoid investing too much when the market is high
and too little when the market is low. It is a good habit where an investor pays himself first
in a disciplined manner without pinching his pocket.
Ignoring short-term fluctuations in value (not being overly enthusiastic or overly

concerned) and focusing on the long term is a proven risk control strategy. In fact, history
shows that the longer you stay invested, the less likely it is that you'll experience a negative
return.
A study of the sensex for the period April 1979 to June 1999 shows that, for ever one year
period of investment, the investor could have made a gain of 112% in the best year or lost
30.6% in the worst year. However if the investor would have invested for atleast 7 yrs.
Then he would have made a compounded annualized return of 38% and in the worst 7 yr.
period he would have still made 5.7% return. For any 7-yr. period of investment, the
investor would have made positive returns.
The study, which compared equity investments v/s other products viz. Gold, Company
deposits and bank deposits also showed that the best performing asset class during the
period was equities.
How To Make It Work?

Most Mutual Funds offer the Systematic Investment plan to investors to take the benefit of
Rupee Cost Averaging. AIP is flexible and convenient. An investor can decide on an amount
that he is comfortable investing regularly over a period of time. He may choose to invest
say, monthly or quarterly. And he can invest as low as Rs.500.
A Variant of this disciplined strategy is Value Averaging. The investor keeps the target
value of his investment constant by investing the amount by which the investment value
has come down, or by cashing the increased value of his investment, or by doing nothing if
the value is unchanged.
Jacobs’ Recommendation of a Combined Approach: You can of course combine the rupee-
cost and value averaging strategies. To accomplish this, Jacobs recommends using an
aggressive growth fund and a money market fund of the same family. Invest Rs. 100 in an
MMMF ever month. Set a target value for the aggressive equity fund. Later, if the value of
the equity fund has declined, transfer 100 form the MMMF to the equity fund. If the equity
fund value has increased by 100, do nothing. If the value has risen by 200, transfer 100
from the equity fund to the MMMF – book the profit.
Power of Compounding
Why should one invest for the long-term? Quite simply, to benefit from the power of
compounding the returns on the investment to accumulate a large capital at the end of the
long-term. If you invest a hundred rupees in a bank deposit that pays interest at 12% per
year which you simply keep withdrawing, you will still have your hundred rupees deposit
and keep reinvesting the 12% interest each year, your capital would have grown more than
threefold to Rs. 311 at the end of ten years. Or to Rs. 965 at the end of twenty years!
Examples: For the past few years, financial institutions such as the ICICI and IDBI have
been offering both Regular Income Bonds and Deep Discount Bonds. Rs. 5300 invested in
one DDB grows to Rs. 2 lakhs in twenty-five years. Deep Discount Bonds show the power of
compounding the investment.

The more frequent the compounding, the greater the growth in capital. Six-monthly
compounding of the same 100 rupees after ten years will result in capital of Rs.321, instead
of Rs. 311 with annual compounding.
In the mutual fund industry, most funds offer what is called the ‘growth’ option, meaning
reinvestment of dividends. They have the same power of compounding as a compound
interest deposit, unlike the other option whereby the investor receives the dividends. Let
the investors know the effect of compounding. This does not mean that all investors must
buy only the growth option of investment plans. All of us need fixed income at some stage
in our lives, to a smaller or greater extent. But, what an investor earns over his immediate
needs, he ought to invest and compound. With open-end schemes, even in the debt
category, it is now possible to benefit from compounding by choosing the growth option,
and withdrawing the capital in parts as required.
Lets take the instance of two investors Jyoti and Sanjay.
Jyoti started investing Rs. 5,000 from the age of 25. She invested for 10 yrs. and her total
investment was 6 lakhs.
Sanjay started investing Rs. 5,000 from the age of 35. He invested for 25 yrs and his total
investment was 15 lakhs.
At the age of 60, when they both retired Jyoti’s investment had grown to Rs. 4.6 crs
whereas Sanjay’s investment was worth only Rs. 1.5 crs. This is the power of compounding.
Both these investors have been assumed to be investing in an instrument, which gave a
return of 12%, compounded annually.
The impact of Taxes and Inflation

Very often investors ignore the impact of taxes and inflation. When comparing returns of
scheme investors should compare the post tax returns. As some investments provide a tax
advantage over other investments.
Inflation is a silent killer. It’s not visible and hence we ignore its importance when making
investments.
Taxes & Inflation
Nominal Returns After Taxes After Taxes &

Inflation
Stocks 20.90% 13.90% 4.90%
Company Deposits 15.60% 10.60% 1.90%
Bank Deposits 9.70% 6.60% -1.85%
Cost of Living
Items 1987 1997 2017
Colgate Toothpaste 8.05 18.90 104.00
Hamam Soap 3.05 7.85 52.00
Masala Dosa 3.50 14.00 224.00
Petrol 7.99 25.48 259.12
LPG Cylinder 56.15 137.85 830.85

Zodiac Men's shirt 225.00 510.00 2620.27
Employing professional management
A seasoned, full-time investment manager - another benefit built into mutual funds - may
help an investor reduce his risk while increasing your return. Consulting with his financial
advisor can lead to selecting professional managers most suitable for him and his goals.
Step 4: Evaluate the risk/reward tradeoff
Higher return means higher risks. However higher risks may not always mean higher
return, as there is a fear that a wrong investment may wipe of your entire principal.
Different asset classes involve different degrees of risk. An investor should gather
information and study the investment features and the risks associated with these
investments.
An inherent advantage of mutual funds is of diversification and due to diversification the

risks gets diluted. For e.g. the risk of an investor who chooses to invest in an individual
stock is directly associated with the performance of that stock. If the stock performs he
benefits, if it fails his investment fails. Whereas in case of the investor who invests in
diversified equity fund the risk gets spread across the entire portfolio, which may
constitute of 20 stocks. Hence even if one stock fails he does not lose his entire principal.
His risk gets diluted.
Questions to ask:

What's my potential return?
What's a reasonable holding period?
What's my own time horizon?
What's the likely fluctuation range?
How will this investment help me achieve my goals?
What are the chances I'll need this money during the preferred holding period?
Are there other/better alternatives?
What's the realistic risk that I could lose principal?
How much fluctuation is acceptable to me?
How vulnerable is this investment to interest rate changes?
How stable is the industry?
What risk control strategies are available to me?
Which risk control strategies have I used?
What are my risks if I don't act?

COMPARISON OF SOME MUTUAL FUND SCHEMES
EQUITY FMCG
Scheme Name ICICI Pru FMCG Fund - (D) SBI Magnum SFU - FMCG Fund
Fund Class Equity – FMCG Equity - FMCG
Inception Date 21-Mar-00 31-Jul-99
Since INC(%) 17.9 12.6
NAV Date 30-Jun-10 30-Jun-10
NAV(Rs.) 34.8 26.2
1 WEEK(%) 1.8 [0.5]
1 MONTH(%) 14.1 7.8
3 MONTH(%) 14.4 16.0
6 MONTH(%) 16.3 28.0
1 YEAR(%) 61.9 69.
EQUITY TAX SAVER
Scheme Name L&T Tax Saver Fund (D) DWS Tax Saving Fund (D)
Fund Class Equity - Tax Planning Equity - Tax Planning
Inception Date 18-Nov-05 20-Mar-06
Since INC(%) 9.8 7.5
NAV(Rs.) 14.3 12.7
1 WEEK(%) 0.4 [0.2]
1 MONTH(%) 4.9 4.3
3 MONTH(%) 2.0 0.8
6 MONTH(%) 2.5 4.4
1 YEAR(%) 28.1 31.4

EQUITY PHARMA
Scheme Name Reliance Pharma Fund (G) UTI-Pharma & Healthcare Fund (G)
Fund Class Equity – Pharma Equity - Pharma
Inception Date 08-Jun-04 25-Aug-99
Since INC(%) 31.9 11.3
NAV(Rs.) 53.6 37.5
1 WEEK(%) 1.5 1.0
1 MONTH(%) 7.8 7.9
3 MONTH(%) 11.9 10.4
6 MONTH(%) 21.8 21.8
1 YEAR(%) 110.6 75.9
GILT FUNDS (SHORT TERM)

Scheme Name IDFC G Sec Fund - STP (G) HSBC Gilt Fund (G)
Fund Class Gilt Funds - Short Term Gilt Funds - Short Term
Inception Date 11-Mar-02 05-Dec-03
Since INC(%) 4.0 2.6
NAV(Rs.) 13.9 11.8
1 WEEK(%) 0.3 0.2
1 MONTH(%) 0.6 0.4
3 MONTH(%) 0.9 1.9
6 MONTH(%) 1.4 2.9
1 YEAR(%) 2.2 6.3

GILT FUNDS (LONG TERM)
Scheme Name Birla Sun Life Govt Sec - Long Term (G) Baroda Pioneer Gilt Fund (G)
Fund Class Gilt Funds - Medium & Long Term Gilt Funds - Medium & Long Term
Inception Date 17-Nov-99 21-Mar-02
Since INC(%) 10.0 4.0
NAV(Rs.) 27.5 13.8
1 WEEK(%) 0.1 0.2
1 MONTH(%) 0.3 0.5
3 MONTH(%) 5.7 1.2
6 MONTH(%) 7.0 13.2
1 YEAR(%) 11.8 13.6
HYBRID FUND(EQUITY ORIENTED)

Scheme Name Tata Balanced Fund - (G) ING Balanced Fund (G)
Fund Class Hybrid - Equity Oriented Hybrid - Equity Oriented
Inception Date 05-Jan-96 11-May-00
Since INC(%) 17.9 9.3
NAV Date 01-Jul-10 01-Jul-10
NAV(Rs.) 78.6 24.4
1 WEEK(%) [1.5] 1.2
1 MONTH(%) 2.5 4.8
3 MONTH(%) 1.6 4.1
6 MONTH(%) 4.2 4.7
1 YEAR(%) 31.0 22

HYBRID FUND(DEBT ORIENTED)

Scheme Name UTI-CCP Balanced Fund (G) Escorts Opportunities Fund (G)
Fund Class Hybrid - Debt Oriented Hybrid - Debt Oriented
Inception Date 15-Dec-95 21-Mar-01
Since INC(%) 12.3 11.5
NAV Date 01-Jul-10 01-Jul-10
NAV(Rs.) 14.7 27.4
1 WEEK(%) 0.2 0.7
1 MONTH(%) 2.1 2.0
3 MONTH(%) 2.7 4.8
6 MONTH(%) 4.7 5.7
1 YEAR(%) 17.8 9.2

Conclusion
It clearly emerges from the above study that mutual funds are one of the best options for
the individual small investor.
However, a note of caution is in order, while it might be one of the best options, there are
many mutual funds already available for the investor to choose from. It must be realized
that the performance of different funds varies form time to time.
Also, the Indian mutual fund sector has been in an evolving phase over the past five years
during which time several investors have encountered some poorly performing funds,
while others have been fortunate to be with good performers. Besides, evaluation of fund
performance is meaningful when a fund has access to an array of investment products in
the market. Currently in India, there are limited investment opportunities available to
mutual funds, and their track record must be studied in this context. Therefore, the Indian
investors have moved over to mutual funds in a gradual process.
But, there is little doubt that mutual funds will increasingly attract the small investors as
compared to other intermediaries such as banks and insurance companies.

Glossary
CLB : Company Law Board
DCA : Department of Company Affairs
FII : Financial Institution
FIPB : Foreign Investment Promotion Board
M&A : Mergers & Acquisitions
MOF : Ministry of Finance
NBFC : Non-Banking Finance Company
NPA : Non-Performing Asset
NRI : Non-Resident Indian
NSE : Notional Stock Exchange
ROC : Registrar of Companies
WDM : Wholesale Debt Market
SD : Standard Deviation

CAGR : Compounded Annual Growth Rate

Bibliography
Annual Investment Planner - A.N. Shanbhag
All About Mutual Funds - Bruce Jacobs
Bogle on Mutual Funds - John C Bogle
AMFI Mutual Fund Testing Programme- AMFI
Investing in Mutual Funds - India Infoline
SEBI (Mutual fund) Regulations, 1996
Economic Times


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MUTUAL FUND ANALYSIS AND COMPARISON

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 1

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 2

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 3

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 4

The History of Mutual Funds

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 5

Structure of the Indian mutual fund industry

The Changing Face of Indian Mutual Fund

Recent trends in mutual fund

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 6

Mutual Funds in India (1964-2009)

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 7

1999-2009 Year of the funds

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 8

ATHARVA INSTITUTE OF MANAGEMENT STUDIES 9

The mutual funds registered in India are

A) Unit Trust of India

a. BOB Asset Management Co. Ltd.

b. BOI Asset Management Co. Ltd.

c. Canbank Investment Management Services Ltd.

d. PNB Asset Management Co. Ltd.

e. SBI Funds Management Ltd.

f. Indfund Management Ltd.

a. GIC Asset Management Co. Ltd.

b. IDBI Principal Asset Management Co. Ltd.

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c. IL & FS Asset Management Co. Ltd.

d. Jeevan Bima Sahayog Asset Management Co. Ltd.

a. BenchMark Asset Management Co. Ltd.

b. Kotak Mahindra Asset Management Co. Ltd.

c. Shriram Asset Management Co. Ltd.

d. Reliance Capital Asset Management Ltd.

e. J.M. Capital Management Ltd.

f. Escorts Asset Management Ltd.

2. Joint Ventures - Predominantly Indian

a. Birla Sun Life Asset Management Pvt. Co. Ltd.

b. Cholamandalam Cazenove Asset Management Co. Ltd.

c. DSP Merrill Lynch Investment Managers (India) Ltd.

d. First India Asset Management Private Ltd.

e. HDFC Asset Management Company Ltd.

f. Sundaram Newton Asset Management Company

g. Pioneer ITI AMC Ltd.

h. Tata TD Waterhouse Asset Management Private Ltd.

i. Credit Capital Asset Management Co. Ltd.

3. Joint Ventures - Predominantly Foreign

a. Alliance Capital Asset Management (India) Pvt. Ltd.

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b. Standard Chartered Asset Mgmt Co. Pvt. Ltd.

c. Dundee Investment Management & Research (Pvt.) Ltd.

d. ING Investment Management (India) Pvt. Ltd.

e. JF Asset Management (India) Pvt. Ltd.

f. Morgan Stanley Investment Management Pvt. Ltd.

g. Prudential ICICI Management Co. Ltd.

h. Sun F & C Asset Management (I) Pvt. Ltd.

i. Templeton Asset Management (India) Pvt. Ltd.

j. Zurich Asset Mgmt. Company(I) Pvt. Ltd.

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Concept of a Mutual Fund

Benefits of Investing in Mutual Funds

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Mutual fund investment provides simplicity and convenience. On every purchase or

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