Monday, August 22, 2016

What are mutual funds?

What are mutual funds?

A mutual fund is a pool of savings contributed by multiple investors. The common fund so created is invested in one or many asset classes like equity, debt, liquid assets etc. It is called a ‘mutual’ fund because all risks, rewards, gains or losses pertaining to, or arising from, the investments made out of this savings pool are shared by all investors in proportion to their contributions.

A mutual fund is in essence a Trust with a sponsor. They are registered with SEBI (Securities Exchange Board of India) who approves the Asset Management Company (AMC) managing the fund. The AMC is under the purview of the trustees who have to ensure the fund complies with regulation.

There are some terms unique to mutual funds which investors should be aware about.
Fund Units or Shares - Investments in a mutual fund are made by buying units or shares of a particular fund. The more the units bought the higher the investment.

Net Asset Value - This is the unit price or price per share of the fund. The NAV of a fund changes depending on the fund’s performance. Units are purchased or sold/redeemed at the prevailing NAV or unit price at the time of purchase/sale.

Lock-in Period -
Certain funds stipulate a period during which units cannot be sold i.e. investors cannot liquidate their investment during this period. If allowed, it is subject to a penalty or loss of benefits.
Entry Load / Exit Load - These are charges levied by AMCs on purchase / sale or transfer of fund units by investors. These are amounts paid in addition to the NAV on purchase / amounts deducted from the NAV on redemption/transfer.

Offer document - This is a formal document that outlines the basic features of the fund. The objective of the fund and the asset classes that the fund will invest in is mentioned in the offer document. It also contains terms and conditions of the fund and other details such as who will manage the fund, risk factors, the fund’s performance history and other financials. Investors should read the offer document carefully before investing in a fund.

Assets Under Management (AUM): This refers to the total market value of funds being managed by a mutual fund company.

Expense Ratio: This indicates the expenses incurred by the fund in relation to the total assets.
New Fund Offer (NFO): New fund offers are new funds/schemes launched in the market by an AMC. Investors can buy units of these new funds at the offer price, which is usually very low. Subsequent purchases in these funds will have to be made at prevailing NAVs.
Redemption: This is when fund units are sold/transferred/cancelled.

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