Introduction to Mutual Fund.

A mutual fund is a collective investment vehicle that collects & pools money from a number of
investors and invests the same in equities, bonds, government securities, money market
instruments.

The money collected in mutual fund scheme is invested by professional fund managers in stocks
and bonds etc. in line with a scheme’s investment objective. The income / gains generated from
this collective investment scheme are distributed proportionately amongst the investors, after
deducting applicable expenses and levies, by calculating a scheme’s “Net Asset Value” or
NAV. In return, mutual fund charges a small fee.

In short, mutual fund is a collective pool of money contributed by several investors and managed
by a professional Fund Manager.

Mutual Funds in India are established in the form of a Trust under Indian Trust Act, 1882, in
accordance with SEBI (Mutual Funds) Regulations, 1996.

The fees and expenses charged by the mutual funds to manage a scheme are regulated and are
subject to the limits specified by SEBI.

How a mutual fund works?

One should avoid the temptation to review the fund's performance each time the market falls or
jumps up significantly. For an actively-managed equity scheme, one must have patience and
allow reasonable time - between 18 and 24 months - for the fund to generate returns in the
portfolio.

When you invest in a mutual fund, you are pooling your money with many other investors.
Mutual fund issues “Unit” against the amount invested at the prevailing NAV. Returns from a
mutual fund may include income distributions to investors out of dividends, interest, capital
gains or other income earned by the mutual fund. You can also have capital gains (or losses) if
you sell the mutual fund units for more (or less) than the amount you invested.

Mutual funds are ideal for investors who-

 lack the knowledge or skill / experience of investing in stock markets directly.

 want to grow their wealth, but do not have the inclination or time to research the stock
market.
 wish to invest only small amounts.

Why invest in Mutual Funds?

As investment goals vary from person to person - post-retirement expenses, money for children’s
education or marriage, house purchase, etc. - the investment products required to achieve these goals
too vary.

Mutual funds provide certain distinct advantages over investing in individual securities. Mutual funds
offer multiple choices for investment across equity shares, corporate bonds, government securities, and
money market instruments, providing an excellent avenue for retail investors to participate and benefit
from the uptrends in capital markets. The main advantages are that you can invest in a variety of
securities for a relatively low cost and leave the investment decisions to a professional manager.

TYPES OF MUTUAL FUND SCHEMES

Mutual Fund Scheme classification

Mutual funds come in many varieties, designed to meet different investor goals. Mutual funds can be
broadly classified based on:

 Organization Structure – Open ended, Close ended, Interval

 Management of Portfolio – Actively or Passively
 Investment Objective – Growth, Income, Liquidity
 Underlying Portfolio – Equity, Debt, Hybrid, Money market instruments, Multi Asset
 Thematic / solution oriented – Tax saving, Retirement benefit, Child welfare, Arbitrage
 Exchange Traded Funds
 Overseas funds
 Fund of funds

TOTAL EXPENSE RATIO:

WHAT IS TOTAL EXPENSE RATIO?

Under SEBI (Mutual Funds) Regulations, 1996, Mutual Funds are permitted to charge certain operating
expenses for managing a mutual fund scheme – such as sales & marketing / advertising expenses,
administrative expenses, transaction costs, investment management fees, registrar fees, custodian fees,
audit fees – as a percentage of the fund’s daily net assets.

All such costs for running and managing a mutual fund scheme are collectively referred to as ‘Total
Expense Ratio’ (TER)

The TER is calculated as a percentage of the Scheme’s average Net Asset Value (NAV). The daily NAV of a
mutual fund is disclosed after deducting the expenses.

Currently, in India, the expense ratio is fungible, i.e., there is no limit on any particular type of allowed
expense as long as the total expense ratio is within the prescribed limit. The regulatory limits of TER that
can be incurred/charged to the fund by a Mutual Fund AMC have been specified under Regulation 52 of
SEBI Mutual Fund Regulations.

Effective from April 1, 2020 the TER limit has been revised as follows.
 Assets Under Management Maximum TER as a percentage of daily net assets
(AUM) TER for Equity funds TER for Debt funds
On the first Rs. 500 crores 2.25% 2.00%
On the next Rs. 250 crores 2.00% 1.75%
On the next Rs. 1,250 crores 1.75% 1.50%
On the next Rs. 3,000 crores 1.60% 1.35%
On the next Rs. 5,000 crores 1.50% 1.25%
On the next Rs. 40,000 crores Total expense ratio reduction of Total expense ratio reduction of
0.05% for every increase of 0.05% for every increase of
Rs.5,000 crores of daily net Rs.5,000 crores of daily net
assets or part thereof. assets or part thereof.
Above Rs. 50,000 crores 1.05% 0.80%

In addition, mutual funds have been allowed to charge up to 30 bps more, if the new inflows from retail
investors from beyond top 30 cities (B30) cities are at least (a) 30% of gross new inflows in the scheme
or (b) 15% of the average assets under management (year to date) of the scheme, whichever is higher.
This is essentially to encourage inflows into mutual funds from tier - 2 and tier - 3 cities.

TER has a direct bearing on a scheme’s NAV – the lower the expense ratio of a scheme, the higher the
NAV. Thus, TER is an important parameter while selecting a mutual fund scheme.

As per the current SEBI Regulations, mutual funds are required to disclose the TER of all schemes on a
daily basis on their websites as well as AMFI’s website.

RISK FACTORS
STANDARD RISK FACTORS

 Mutual Fund Schemes are not guaranteed or assured return products.

 Investment in Mutual Fund Units involves investment risks such as trading volumes, settlement
risk, liquidity risk, default risk including the possible loss of principal.
 As the price / value / interest rates of the securities in which the Scheme invests fluctuates, the
value of investment in a mutual fund Scheme may go up or down.
 In addition to the factors that affect the value of individual investments in the Scheme, the NAV
of the Scheme may fluctuate with movements in the broader equity and bond markets and may
be influenced by factors affecting capital and money markets in general, such as, but not limited
to, changes in interest rates, currency exchange rates, changes in Government policies, taxation,
political, economic or other developments and increased volatility in the stock and bond
markets.
 Past performance does not guarantee future performance of any Mutual Fund Scheme.

SPECIFIC RISK FACTORS

RISKS ASSOCIATED WITH INVESTMENTS IN EQUITIES

Risk of losing money:

Investments in equity and equity related instruments involve a degree of risk and investors should not
invest in the equity schemes unless they can afford to take the risk of possible loss of principal.

Price Risk:

Equity shares and equity related instruments are volatile and prone to price fluctuations on a daily basis.

Liquidity Risk for listed securities:

The liquidity of investments made in the equities may be restricted by trading volumes and settlement
periods. Settlement periods may be extended significantly by unforeseen circumstances. While
securities that are listed on the stock exchange carry lower liquidity risk, the ability to sell these
investments is limited by the overall trading volume on the stock exchanges. The inability of a mutual
fund to sell securities held in the portfolio could result in potential losses to the scheme, should there be
a subsequent decline in the value of securities held in the scheme portfolio and may thus lead to the
fund incurring losses till the security is finally sold.

Event Risk:

Price risk due to company or sector specific event.

RISKS ASSOCIATED WITH INVESTMENT IN DEBT SECURITIES AND MONEY MARKET INSTRUMENTS

Debt Securities are subject to the risk of an issuer’s inability to meet principal and interest payments on
the obligation (Credit Risk) on the due date(s) and may also be subject to price volatility due to such
factors as interest rate sensitivity, market perception of the creditworthiness of the issuer and general
market liquidity (Market Risk).
The timing of transactions in debt obligations, which will often depend on the timing of the Purchases
and Redemptions in the Scheme, may result in capital appreciation or depreciation because the value of
debt obligations generally varies inversely with the prevailing interest rates.

Interest Rate Risk

Market value of fixed income securities is generally inversely related to interest rate movement.
Generally, when interest rates rise, prices of existing fixed income securities fall and when interest rates
drop, such prices increase. Accordingly, value of a scheme portfolio may fall if the market interest rate
rises and may appreciate when the market interest rate comes down. The extent of fall or rise in the
prices depends upon the coupon and maturity of the security. It also depends upon the yield level at
which the security is being traded.

Credit Risk

This is risk associated with default on interest and /or principal amounts by issuers of fixed income
securities. In case of a default, scheme may not fully receive the due amounts and NAV of the scheme
may fall to the extent of default. Even when there is no default, the price of a security may change with
expected changes in the credit rating of the issuer. It may be mentioned here that a government
security is a sovereign security and is safer. Corporate bonds carry a higher amount of credit risk than
government securities. Within corporate bonds also there are different levels of safety and a bond rated
higher by a rating agency is safer than a bond rated lower by the same rating agency.

Spread Risk

Credit spreads on corporate bonds may change with varying market conditions. Market value of debt
securities in portfolio may depreciate if the credit spreads widen and vice versa. Similarly, in case of
floating rate securities, if the spreads over the benchmark security / index widen, then the value of such
securities may depreciate.

Liquidity Risk

Liquidity risk refers to the ease with which securities can be sold at or near its valuation yield-to-
maturity (YTM) or true value. Liquidity condition in market varies from time to time. The liquidity of a
bond may change, depending on market conditions leading to changes in the liquidity premium attached
to the price of the bond. In an environment of tight liquidity, necessity to sell securities may have higher
than usual impact cost. Further, liquidity of any particular security in portfolio may lessen depending on
market condition, requiring higher discount at the time of selling.

The primary measure of liquidity risk is the spread between the bid price and the offer price quoted by a
dealer. Trading volumes, settlement periods and transfer procedures may restrict the liquidity of some
of these investments. Different segments of the Indian financial markets have different settlement
periods, and such periods may be extended significantly by unforeseen circumstances. Further, delays in
settlement could result in temporary periods when a portion of the assets of the Scheme are not
invested and no return is earned thereon or the Scheme may miss attractive investment opportunities.

At the time of selling the security, the security may become illiquid, leading to loss in value of the
portfolio. The purchase price and subsequent valuation of restricted and illiquid securities may reflect a
discount, which may be significant, from the market price of comparable securities for which a liquid
market exists.

Counterparty Risk

This is the risk of failure of the counterparty to a transaction to deliver securities against consideration
received or to pay consideration against securities delivered, in full or in part or as per the agreed
specification. There could be losses to the fund in case of a counterparty default.

Prepayment Risk

This arises when the borrower pays off the loan sooner than the due date. This may result in a change in
the yield and tenor for the mutual fund scheme. When interest rates decline, borrowers tend to pay off
high interest loans with money borrowed at a lower interest rate, which shortens the average maturity
of Asset-backed securities (ABS). However, there is some prepayment risk even if interest rates rise,
such as when an owner pays off a mortgage when the house is sold or an auto loan is paid off when the
car is sold. Since prepayment risk increases when interest rates decline, this also introduces
reinvestment risk, which is the risk that the principal may only be reinvested at a lower rate.

Re-investment Risk

Investments in fixed income securities carry re-investment risk as the interest rates prevailing on the
coupon payment or maturity dates may differ from the original coupon of the bond (the purchase yield
of the security). This may result in final realized yield to be lower than that expected at the time

The additional income from reinvestment is the "interest on interest" component. There may be a risk
that the rate at which interim cash flows can be reinvested are lower than that originally assumed.
ADVANTAGES OF INVESTING IN MUTUAL FUNDS

Professional Management

Investors may not have the time or the required knowledge and resources to conduct their research and
purchase individual stocks or bonds. A mutual fund is managed by full-time, professional money
managers who have the expertise, experience and resources to actively buy, sell, and monitor
investments. A fund manager continuously monitors investments and rebalances the portfolio
accordingly to meet the scheme’s objectives. Portfolio management by professional fund managers is
one of the most important advantages of a mutual fund.

Risk Diversification

Buying shares in a mutual fund is an easy way to diversify your investments across many securities and
asset categories such as equity, debt and gold, which helps in spreading the risk - so you won't have all
your eggs in one basket. This proves to be beneficial when an underlying security of a given mutual fund
scheme experiences market headwinds. With diversification, the risk associated with one asset class is
countered by the others. Even if one investment in the portfolio decreases in value, other investments
may not be impacted and may even increase in value. In other words, you don’t lose out on the entire
value of your investment if a particular component of your portfolio goes through a turbulent period.
Thus, risk diversification is one of the most prominent advantages of investing in mutual funds.

Affordability & Convenience (Invest Small Amounts)

For many investors, it could be costlier to directly purchase all of the individual securities held by a single
mutual fund. By contrast, the minimum initial investments for most mutual funds are more affordable.

Liquidity

You can easily redeem (liquidate) units of open-ended mutual fund schemes to meet your financial
needs on any business day (when the stock markets and/or banks are open), so you have easy access to
your money. Upon redemption, the redemption amount is credited in your bank account within one day
to 3-4 days, depending upon the type of scheme e.g., in respect of Liquid Funds and Overnight Funds,
the redemption amount is paid out the next business day.

However, please note that units of close-ended mutual fund schemes can be redeemed only on
maturity. Likewise, units of ELSS have a 3-year lock-in period and can be liquidated only thereafter.

Low Cost

An important advantage of mutual funds is their low cost. Due to huge economies of scale, mutual funds
schemes have a low expense ratio. Expense ratio represents the annual fund operating expenses of a
scheme, expressed as a percentage of the fund’s daily net assets. Operating expenses of a scheme are
administration, management, advertising related expenses, etc. The limits of expense ratio for various
types of schemes has been specified under Regulation 52 of SEBI Mutual Fund Regulations, 1996.

Well-Regulated
Mutual Funds are regulated by the capital markets regulator, Securities and Exchange Board of India
(SEBI) under SEBI (Mutual Funds) Regulations, 1996. SEBI has laid down stringent rules and regulations
keeping investor protection, transparency with appropriate risk mitigation framework and fair valuation
principles.

Tax Benefits

Investment in ELSS up to ₹1,50,000 qualifies for tax benefit under section 80C of the Income Tax Act,
1961. Mutual Fund investments when held for a longer term are tax efficient.

SEBI CATEGORIZATION OF MUTUAL FUND SCHEMES

As per SEBI guidelines on Categorization and Rationalization of schemes issued in October 2017, mutual
fund schemes are classified as –

 Equity Schemes
 Debt Schemes
 Hybrid Schemes
 Solution Oriented Schemes – For Retirement and Children
 Other Schemes – Index Funds & ETFs and Fund of Funds

 Under Equity category, Large, Mid and Small cap stocks have now been defined.
 Naming convention of the schemes, especially debt schemes, as per the risk level of
underlying portfolio (e.g., the erstwhile ‘Credit Opportunity Fund’ is now called “Credit Risk
Fund”)
 Balanced / Hybrid funds are further categorized into conservative hybrid fund, balanced
hybrid fund and aggressive hybrid fund.

EQUITY SCHEMES

An equity Scheme is a fund that –

 Primarily invests in equities and equity related instruments.

 Seeks long term growth but could be volatile in the short term.
 Suitable for investors with higher risk appetite and longer investment horizon.

The objective of an equity fund is generally to seek long-term capital appreciation. Equity funds may
focus on certain sectors of the market or may have a specific investment style, such as investing in value
or growth stocks.

Equity Fund Categories as per SEBI guidelines on Categorization and Rationalization of schemes

Multi Cap Fund* At least 65% investment in equity & equity related instruments
Large Cap Fund At least 80% investment in large cap stocks
Large & Mid Cap Fund At least 35% investment in large cap stocks and 35% in mid cap stocks
Mid Cap Fund At least 65% investment in mid cap stocks
Small cap Fund At least 65% investment in small cap stocks

Dividend Yield Fund Predominantly invest in dividend yielding stocks, with at least 65% in stocks
Value Fund Value investment strategy, with at least 65% in stocks
Contra Fund Scheme follows contrarian investment strategy with at least 65% in stocks
Focused Fund Focused on the number of stocks (maximum 30) with at least 65% in equity &
equity related instruments
Sectoral/ Thematic Fund At least 80% investment in stocks of a particular sector/ theme
ELSS At least 80% in stocks in accordance with Equity Linked Saving Scheme, 2005,
notified by Ministry of Finance

NET ASSET VALUE (NAV)

NAV stands for Net Asset Value. The performance of a mutual fund scheme is denoted by its NAV per
unit.

NAV per unit is the market value of securities of a scheme divided by the total number of units of the
scheme on a given date. For example, if the market value of securities of a mutual fund scheme is ₹200
lakh and the mutual fund has issued 10 lakh units of ₹ 10 each to the investors, then the NAV per unit of
the fund is ₹ 20 (i.e., ₹200 lakh/10 lakh).

Since market value of securities changes every day, NAV of a scheme also varies on day-to-day basis.

NAVs of mutual fund schemes are published on respective mutual funds’ websites as well as AMFI’s
website daily.

Unlike stocks, where the price is driven by the stock market and changes from minute-to-minute, NAVs
of mutual fund schemes are declared at the end of each trading day after markets are closed, in
accordance with SEBI Mutual Fund Regulations. Further, Units of mutual fund schemes under all scheme
(except Liquid & Overnight funds) are allotted only at prospective NAV, i.e., the NAV that would be
declared at the end of the day, based on the closing market value of the securities held in the respective
schemes.

A mutual fund may accept applications even after the cut-off time, but you will get the NAV of the next
business day. Further, the cut-off time rules apply for redemptions too.

HOW IS THE APPLICABLE NAV DETERMINED

Liquid Funds/Overnight Funds All Other Schemes

Subscription  Where the application is received up to  Where the application
1.30 p.m. on a day and the funds are is received up to 3:00
available for utilization before 1.30 p.m. p.m. and funds are
without availing any credit facility, the available for utilization
closing NAV of the day immediately before 3:00 p.m., the
preceding the day of receipt of application. closing NAV of the day
on which the
 Where the application is received after 1.30 application is received.
p.m. on a day and funds are available for
utilization on the same day without availing  Where the application
any credit facility, the closing NAV of the is received after 3:00
day immediately preceding the next p.m. and the funds are
business day; and available for utilization,
closing NAV of the next
 Irrespective of the time of receipt of business day.
application (before or after 1.30 p.m. on a
day), where the funds are not available for  Irrespective of the time
utilization before 1.30 p.m. without availing of receipt of application
any credit facility, the closing NAV of the (before or after 3:00
day immediately preceding the day on p.m.), where the funds
which the funds are available for utilization. are not available for
utilization, the closing
NAV of the day on
 which the funds are
available for utilization
before cut-off time of
3.00 p.m.
Redemption  Where the application is received up to  Where the application
3.00 pm is received up to 3.00
 the closing NAV of day immediately pm – closing NAV of the
preceding the next business day; day on which the
and application is received;
 Where the application is received after 3.00 and
pm
 the closing NAV of the next  Where the application
business day is received after 3.00
pm – closing NAV of the
next business day.
*other than Liquid Funds & Overnight Funds

WHAT IS SALE AND REPURCHASE PRICE?

Sale Price

 Sale Price is the price payable per unit by an investor for purchase of units (subscription) and/or
switch-in from other schemes of a mutual fund.
 SEBI vide circular no. SEBI / IMD / CIR No. 4 / 168230 / 09 dated June 30, 2009 has abolished
Entry Load for all mutual fund schemes.
 Hence, during the New Fund Offer (NFO), the Sale Price per unit is at Face Value per unit
specified in the respective Scheme Information Document (SID) and Key Information
Memorandum (KIM)
 During the ‘Ongoing Offer’ period (i.e., the date from which the scheme re-opens for
subscriptions/redemptions after the closure of the NFO period.), the units may be purchased at
NAV i.e., the Sale Price per unit is equivalent to applicable NAV on the date of subscription

Repurchase/Redemption Price

 The Repurchase/Redemption Price is the price per Unit at which a Mutual Fund would
‘repurchase’ the units (i.e., buys back units from the investor) upon redemption of units or
switch-outs of units to other schemes/plans of the Mutual Fund by the investors, and includes
Exit Load, if / wherever applicable.
 Redemption price is calculated as follows:
 Redemption Price = Applicable NAV*(1- Exit Load, if any)
 For Example: If the Applicable NAV is ₹10 and Exit Load is 2%, then the Redemption
Price will be = ₹10* (1-0.02) = ₹9.80

It may be noted that an AMC / Trustee has the right to modify existing Exit Load structure and/or to
introduce Exit Loads subject to a maximum limit prescribed under the Regulations.
Any change in Load structure will be effective on prospective basis and will not affect the existing mutual
fund units in any manner.

As per SEBI (Mutual Funds) Regulations, 1996, in respect of Open-Ended Schemes, Repurchase Price
(commonly referred to as Redemption price) shall not be lower than 95% of NAV.

It may be noted that units of Closed Ended Schemes cannot be Repurchased prematurely.
NEW RULE ON APPLICABLE NAV EFFECTIVE FROM 1ST FEB. 2021

CUT-OFF TIMINGS FOR MUTUAL FUND TRANSACTIONS

For determining applicable Net Asset Value (NAV) for subscription and redemption transactions

Type of Schemes Transaction type Cut-off timings

Liquid Funds & Subscription (including Switch-in from other schemes) 1:30 p.m.
Overnight Funds Redemption (including Switch-in from other schemes) 3:00 p.m.
All other schemes Subscription (including Switch-in from other schemes) 3:00 p.m.
(other than Liquid Funds Redemption (including Switch-in from other schemes) 3:00 p.m.
/ Overnight Funds)

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