We all know about mutual funds as one of the best investment options for investors who want to invest in the equity market but do not have the time or expertise to invest themselves in the stock market. As an investor it is our responsibility to ensure that we do not invest in funds that would not provide the best returns for us. There have been some funds that have outperformed its peers by a long way and there have been funds that have underperformed its peers in a very wrong way. People who invested in such funds have lost their money. As a prudent investor, this is something that we do not want.
Choosing a good mutual fund is an important decision. While doing so, even intelligent investors go by the hypes surrounding mutual fund schemes. There are a number of misconceptions that plague investors and have a direct negative impact on our investments.
The purpose of this article is to try to clear of such misconceptions.
1. A fund with a NAV of Rs. 10 is cheaper than a fund with NAV of Rs. 50
This is the biggest of all misconceptions. Many people believe that funds with a lower NAV are cheaper than funds with higher NAVs and invest in them blindly. The NAV of a mutual fund represents the market value of all the investments of a mutual fund. Any capital appreciation in the fund scheme will depend on the price movement of its underlying securities. Suppose you invest Rs. 1000 each in Fund A (A new scheme with NAV 10) and fund B (An older scheme with NAV 50) you will get 100 units of fund A and 20 units of fund B. Let us assume both the funds invest in the same stocks. If the stocks appreciate by 10% then the NAVs of both the funds would appreciate by 10% which implies it would go to Rs. 11 and Rs. 55 respectively. So in both cases your investment would go to Rs. 1100. I.e., the returns are identical irrespective of the NAV of the fund.
In fact the NAV of fund B is 50 which means, this fund has been actively and properly managed and hence the funds assets have increased from Rs. 10 per unit to Rs.50 per unit. Which is a good indicator of the funds performance and there are chances that it would outperform the new fund.
In vesting in new fund offerings (NFO’s) is advisable only when you are a high risk investor and also only when you are very confident of the fund manager’s capabilities. Investing in a new fund with a new fund manager is a great risk which may or may not be fruitful.
2. Funds with a Larger corpus always generate higher returns
A fund with a very large corpus is prone to inefficiencies as rising assets make it difficult for the fund managers to manage after a certain point. Many fund managers are experts in managing mid sized funds and falter when their asset size goes beyond a certain limit.
As the fund size increases, they would have to take exposure to newer stocks because they cannot risk overexposure to certain stocks. This may result in them including less researched or low potential stocks in their portfolio. Or in some cases managers risk overexposure to certain stocks/sectors and it proves a disaster in certain cases.
For example due to the financial meltdown the stocks of banks and financial institutions have taken the worst hit. Some large funds that had heavy exposure to these stocks are the ones whose NAV’s have dropped the most.
3. Funds that regularly declare dividends are good buys
Dividend income is an important criterion which many investors consider before buying a MF. Fund houses declare dividends when they have distributable surplus. They do it either when their fund size becomes very big or when they do not have sufficient investment avenues and feel its better to declare a dividend than holding cash or when they have made significant profits and want to share it with the investors.
In most cases the third reason is the reason for declaring dividends. If that is the case investing in such funds is a good buy but if the reason are either of the 2 other reasons then the investment decision may not be the best.
In some cases, some fund managers sell off good stocks to raise money to declare dividends to ensure that the investors think they are also competitive.
4. SIP investments are always better than Lump sum investments.
A SIP is the best way to invest during volatile times as it lowers our average cost per unit. This is also termed as rupee cost averaging. This is beneficial when the markets are very volatile and the stock prices go up and down frequently.
During bull markets when the stock prices are steadily rising, SIP’s fail to score when compared to lump investments. Since the stock market is rising the asset values increase regularly and somebody who invested in lump would have more units than somebody who invested via a SIP for the same amount.
Showing posts with label Mutual Funds / MF. Show all posts
Showing posts with label Mutual Funds / MF. Show all posts
Saturday, 17 July 2010
Aggressive Portfolio
An aggressive portfolio is designed with the motive of earning high returns on our investment. This is suitable only for high risk investors for whom capital preservation is not a priority. They are ready to take the risk to ensure that their money is growing at a rate that far outpaces inflation.
An aggressive portfolio is one that has exposure to equity related components to the level of at least 70% or more. The remaining portion is invested in safe instruments like bank deposits, NSC, PPF etc. To check out the safe instruments available for investment check out the article on Conservative Portfolio.
Why is the Aggressive Portfolio High Risk?
Since we are investing at least 70% of our portfolio in Market related instruments the aggressive portfolio is considered high risk. The Market may go up or down based on the global economic conditions. We cannot always predict the direction of movement of the market. Under th current economic scenario, the market is going down drastically and a lot of people who have invested their money in market related instruments have lost a bulk of their investment. Hence investing in the aggressive portfolio would involve taking a huge risk which may not be apt for everybody.
Instruments that can be considered for the Equity component:
1. Equity Shares - If you watch any news channel or listen to any of your colleagues talking you would have invariably heard the term "Shares". The term shares used here refers to "Equity Shares". "Equity Shares" are the most common types of shares and are the most widely traded stock market instruments.
"Equity" means ownership. Anyone who holds one share of XYZ company owns a portion of the company. To know more about what equity shares are click here
2. Mutual Funds - A Mutual Fund is nothing but a common pool of money collected from a lot of people which is used by an experienced fund manager who invests the money in the Share market. Not many of us are experienced in investing directly in the Equity market. Mutual funds are a boon to the investor who doesn't have enough knowledge to invest directly in the market but wants to take a risk and gain higher returns from the market. To know more about mutual funds click here
You can invest in Diversified Equity MF's or ELSS MF's or even Sector specific MF's.
A Sample Aggressive Portfolio:
This portfolio is for somebody who can invest Rs. 1 lac every year. You can adjust the amounts according to the amount you can invest.
Direct Share investment - 30% -> Rs. 25,000/-
This amount can be directly invested in Large Cap stocks that have been growing at a consistent pace over the year. Pls check the article on criteria to be considered before choosing stocks so that you can choose good stocks for your portfolio.
Do not invest the whole amount at one shot. Buy in a phased manner. Say for e.g., buy shares worth Rs. 5,000 every alternate month.
A Systematic Investment Plan (SIP) in a Diversified Equity Mutual fund for Rs. 2000/- per month which is Rs. 24,000/- per annum
A SIP in an ELSS Mutual fund for Rs. 2000/- per month which is Rs. 24,000/- per annum
Investing the SIP way is the best way to invest in Mutual funds because they average out the cost of purchase because we keep buying even when the maket is down.
Gold - 5% -> Rs, 5,000/-
Bank Fixed Deposits - 20% -> Rs. 20,000/-
Net amount invested = Rs. 98,000/-
What Returns can you Expect out of this portfolio?
Usually the returns of an aggressive portfolio would be exceptional during bull markets and the losses we suffer may also be extensive in case of economic crisis.
Lets say the Shares gave us a returns of 25% this year and the Diversified Equity fund a return of 30% and our ELSS fund a return of 23%. Gold a return of 15% and Bank Deposit a return of 10%
Share value at the end of one year - Rs. 32,500/-
Diversified Equity MF Value at the end of one year - Rs. 31,200/-
ELSS MF value at the end of one year - Rs. 29,520/-
Gold value at the end of one year - Rs. 5,750/-
Bank FD amount at the end of one year - Rs. 22,000/-
Net portfolio worth = 1,20,970/-
Returns on investment = 23.4%
An aggressive portfolio is one that has exposure to equity related components to the level of at least 70% or more. The remaining portion is invested in safe instruments like bank deposits, NSC, PPF etc. To check out the safe instruments available for investment check out the article on Conservative Portfolio.
Why is the Aggressive Portfolio High Risk?
Since we are investing at least 70% of our portfolio in Market related instruments the aggressive portfolio is considered high risk. The Market may go up or down based on the global economic conditions. We cannot always predict the direction of movement of the market. Under th current economic scenario, the market is going down drastically and a lot of people who have invested their money in market related instruments have lost a bulk of their investment. Hence investing in the aggressive portfolio would involve taking a huge risk which may not be apt for everybody.
Instruments that can be considered for the Equity component:
1. Equity Shares - If you watch any news channel or listen to any of your colleagues talking you would have invariably heard the term "Shares". The term shares used here refers to "Equity Shares". "Equity Shares" are the most common types of shares and are the most widely traded stock market instruments.
"Equity" means ownership. Anyone who holds one share of XYZ company owns a portion of the company. To know more about what equity shares are click here
2. Mutual Funds - A Mutual Fund is nothing but a common pool of money collected from a lot of people which is used by an experienced fund manager who invests the money in the Share market. Not many of us are experienced in investing directly in the Equity market. Mutual funds are a boon to the investor who doesn't have enough knowledge to invest directly in the market but wants to take a risk and gain higher returns from the market. To know more about mutual funds click here
You can invest in Diversified Equity MF's or ELSS MF's or even Sector specific MF's.
A Sample Aggressive Portfolio:
This portfolio is for somebody who can invest Rs. 1 lac every year. You can adjust the amounts according to the amount you can invest.
Direct Share investment - 30% -> Rs. 25,000/-
This amount can be directly invested in Large Cap stocks that have been growing at a consistent pace over the year. Pls check the article on criteria to be considered before choosing stocks so that you can choose good stocks for your portfolio.
Do not invest the whole amount at one shot. Buy in a phased manner. Say for e.g., buy shares worth Rs. 5,000 every alternate month.
A Systematic Investment Plan (SIP) in a Diversified Equity Mutual fund for Rs. 2000/- per month which is Rs. 24,000/- per annum
A SIP in an ELSS Mutual fund for Rs. 2000/- per month which is Rs. 24,000/- per annum
Investing the SIP way is the best way to invest in Mutual funds because they average out the cost of purchase because we keep buying even when the maket is down.
Gold - 5% -> Rs, 5,000/-
Bank Fixed Deposits - 20% -> Rs. 20,000/-
Net amount invested = Rs. 98,000/-
What Returns can you Expect out of this portfolio?
Usually the returns of an aggressive portfolio would be exceptional during bull markets and the losses we suffer may also be extensive in case of economic crisis.
Lets say the Shares gave us a returns of 25% this year and the Diversified Equity fund a return of 30% and our ELSS fund a return of 23%. Gold a return of 15% and Bank Deposit a return of 10%
Share value at the end of one year - Rs. 32,500/-
Diversified Equity MF Value at the end of one year - Rs. 31,200/-
ELSS MF value at the end of one year - Rs. 29,520/-
Gold value at the end of one year - Rs. 5,750/-
Bank FD amount at the end of one year - Rs. 22,000/-
Net portfolio worth = 1,20,970/-
Returns on investment = 23.4%
Balanced Portfolio
A Balanced Portfolio is one that is designed to take care of capital preservation to an extent and at the same time to generate decent returns when compared to a Conservative Portfolio. A conservative portfolio can give a return of around 10% per annum and it may go up or down based on the returns generated by the 25% equity component. Otherwise our capital that we invested in it would remain almost intact. In a Balanced Portfolio we would invest around 50% in equities and the remaining 50% in safe investments like in the conservative portfolio.
A Balanced portfolio is ideal for people who are ready to take a medium risk by investing in stock market and at the same don't want to expose themselves to too much risk.
In a Balanced portfolio since half of our money is invested in safe instruments, even if the markets crash atleast half of our money would be safe. The equity exposure would give us decent total returns on our investment.
Pls refer to the Conservative Portfolio to find out the instruments that can be used for the safe investment part.
Pls refer to the Aggressive Portfolio to find out the instruments that can be used for the equity investment part.
A Sample Balanced Portfolio:
Direct Share investment - 10% -> Rs. 10,000/-
This amount can be directly invested in Large Cap stocks that have been growing at a consistent pace over the year. Pls check the article on criteria to be considered before choosing stocks so that you can choose good stocks for your portfolio.
Do not invest the whole amount at one shot. Buy in a phased manner. Say for e.g., buy shares worth Rs. 5,000 every 6 months
A Systematic Investment Plan (SIP) in a Diversified Equity Mutual fund for Rs. 2000/- per month which is Rs. 24,000/- per annum
A SIP in an ELSS Mutual fund for Rs. 1500/- per month which is Rs. 18,000/- per annum
Investing the SIP way is the best way to invest in Mutual funds because they average out the cost of purchase because we keep buying even when the market is down.
Gold - 10% -> Rs, 10,000/-
Bank Fixed Deposit - 20% - Rs. 20,000/-
PPF - 20% - Rs. 20,000/
Net amount invested = Rs. 1,02,000/-
What Returns can you Expect out of this portfolio?
As we know, PPF & PPF give us a return of 8% per annum and Banks give us returns of upto 10% per annum. We will assume that gold would give us a 15% return per annum. Lets say the Shares gave us a returns of 25% this year and the Diversified Equity fund a return of 30% and our ELSS fund a return of 23%.
Value of Shares at the end of one year - Rs. 12,500/-
Diversified Equity MF Value at the end of one year - Rs. 31,200/-
ELSS MF value at the end of one year - Rs. 22,140/-
Value of Gold at the end of one year - Rs. 11,500/-
Amount in Bank FD at the end of one year - Rs. 22,000/-
Amount in PPF at the end of one year - Rs. 21,600/-
Net portfolio worth at the end of one year = 1,20,940/-
Returns on Investment = 18.5%
A Balanced portfolio is ideal for people who are ready to take a medium risk by investing in stock market and at the same don't want to expose themselves to too much risk.
In a Balanced portfolio since half of our money is invested in safe instruments, even if the markets crash atleast half of our money would be safe. The equity exposure would give us decent total returns on our investment.
Pls refer to the Conservative Portfolio to find out the instruments that can be used for the safe investment part.
Pls refer to the Aggressive Portfolio to find out the instruments that can be used for the equity investment part.
A Sample Balanced Portfolio:
Direct Share investment - 10% -> Rs. 10,000/-
This amount can be directly invested in Large Cap stocks that have been growing at a consistent pace over the year. Pls check the article on criteria to be considered before choosing stocks so that you can choose good stocks for your portfolio.
Do not invest the whole amount at one shot. Buy in a phased manner. Say for e.g., buy shares worth Rs. 5,000 every 6 months
A Systematic Investment Plan (SIP) in a Diversified Equity Mutual fund for Rs. 2000/- per month which is Rs. 24,000/- per annum
A SIP in an ELSS Mutual fund for Rs. 1500/- per month which is Rs. 18,000/- per annum
Investing the SIP way is the best way to invest in Mutual funds because they average out the cost of purchase because we keep buying even when the market is down.
Gold - 10% -> Rs, 10,000/-
Bank Fixed Deposit - 20% - Rs. 20,000/-
PPF - 20% - Rs. 20,000/
Net amount invested = Rs. 1,02,000/-
What Returns can you Expect out of this portfolio?
As we know, PPF & PPF give us a return of 8% per annum and Banks give us returns of upto 10% per annum. We will assume that gold would give us a 15% return per annum. Lets say the Shares gave us a returns of 25% this year and the Diversified Equity fund a return of 30% and our ELSS fund a return of 23%.
Value of Shares at the end of one year - Rs. 12,500/-
Diversified Equity MF Value at the end of one year - Rs. 31,200/-
ELSS MF value at the end of one year - Rs. 22,140/-
Value of Gold at the end of one year - Rs. 11,500/-
Amount in Bank FD at the end of one year - Rs. 22,000/-
Amount in PPF at the end of one year - Rs. 21,600/-
Net portfolio worth at the end of one year = 1,20,940/-
Returns on Investment = 18.5%
Thursday, 8 July 2010
Mutual funds
A Mutual Fund is nothing but a common pool of money collected from a lot of people which is used by an experienced fund manager who invests the money in the Share market. Not many of us are experienced in investing directly in the Equity market. Mutual funds are a boon to the investor who doesnt have enough knowledge to invest directly in the market but wants to take a risk and gain higher returns from the market.
A Mutual fund works as follows. (I am not getting into the technical terms. This is a very simple explanation)
Mr. X who has a lot of experience in the share market decides to start a MF. He calls for prospective investors. Say investors A, B, C, D & E decide to invest Rs. 10000/- each, Mr. X would be starting his MF with a corpus of Rs. 50000/- X would be creating MF units of face value Rs. 10/- each and distribute it to all the investors. So each A, B, C, D & E would get 1000 units each.
Inv amount = 10000 & Unit Face Value (NAV) = 10
==> No. of units given = 1000 (I have not taken into account the entry load since this is only a theoritical example)
Using this Rs. 50000/- X would buy/sell shares and make profit. At the end of each trading day X would calcuate the total net worth of the initial investment. Say after 1 month of trading, the total value of the investment is Rs. 58000/- then the current NAV of the fund would be Rs. 11.60/- which means each of the investors has made a profit of Rs. 1.60 per unit they bought from Mr. X.
Note: This 58000 would be the amount that is arrived at after subtracting the profit margin that Mr. X would take for using his expertise in forming this MF and making profit. This profit margin would vary from fund to fund but has an upper cut off set by SEBI.
Say after one succesful year of operation the Net assets in the MF stands at Rs. 1,00,000/- then the NAV on that day would be Rs. 20/-
There are three different ways in which MF houses share their profit.
1. Dividend scheme - At the end of the year the MF house has posted a brilliant return of 100%. So the MF house would decide to declare a dividend of say 50% per unit. Which means the investors A, B, C, D and E would be getting Rs. 5000/- each for staying invested with the fund. Plus each of their 1000 units is still invested with the fund and would continue to earn income for them. The most important point to note here is that once a MF house declares a dividend, the funds NAV drops by an equivalent amount. Here since the MF house has declared a 50% dividend the NAV would fall from Rs. 20/- to Rs. 15/-
2. Growth scheme - Unlike the Dividend scheme, there are no intermittent payments in the growth scheme. The 1000 units held by the investors would stay intact and would continue to grow for as long as they want.
3. Dividend Re-investment - In the Dividend Re-investment scheme, once the MF house declares a dividend say 50% in our example, each investor is eligible for Rs. 5000/- The MF house would allocate extra units to the investors at the current market NAV of the fund. In our example our investors would be getting approximately 250 units extra. So at the end of the first year the investors make a gain of 250 units. In the Dividend Re-investment scheme also the NAV would drop in accordance to the declared dividend units. In spite of the drop in NAV the investors dont stand to lose because they have got extra units.
Each scheme has its own pro's and con's. If you want a regular income on your MF investments go for Dividend option. If you do not want to disturb your investment for a long time and allow it to grow go for the Growth option.
Each MF would have its own locking period after which the investors can surrender their units and get cash. We will check the returns of 2 investors A & B. A was invested in Dividend scheme and B was invested in Growth Scheme.
NAV on date - Dividend Plan - Rs. 25.
NAV on date - Growth Plan - Rs. 30. (The NAV of growth plans are always more than that of Dividend plans)
No. of Units held by both A & B = 1000
Surrender Value for A = 25000 (He would have got a dividend of Rs. 5000 at the end of his first year in staying invested)
Surrender Value for B = 30000 (He hasnt got any dividend and the entire corpus he invested had grown to this amount)
Usually the returns of the Dividend plan and the Growth plan are not exactly the SAME. I have taken an ideal scenario and explanined so the returns work out to be the same.
A Mutual fund works as follows. (I am not getting into the technical terms. This is a very simple explanation)
Mr. X who has a lot of experience in the share market decides to start a MF. He calls for prospective investors. Say investors A, B, C, D & E decide to invest Rs. 10000/- each, Mr. X would be starting his MF with a corpus of Rs. 50000/- X would be creating MF units of face value Rs. 10/- each and distribute it to all the investors. So each A, B, C, D & E would get 1000 units each.
Inv amount = 10000 & Unit Face Value (NAV) = 10
==> No. of units given = 1000 (I have not taken into account the entry load since this is only a theoritical example)
Using this Rs. 50000/- X would buy/sell shares and make profit. At the end of each trading day X would calcuate the total net worth of the initial investment. Say after 1 month of trading, the total value of the investment is Rs. 58000/- then the current NAV of the fund would be Rs. 11.60/- which means each of the investors has made a profit of Rs. 1.60 per unit they bought from Mr. X.
Note: This 58000 would be the amount that is arrived at after subtracting the profit margin that Mr. X would take for using his expertise in forming this MF and making profit. This profit margin would vary from fund to fund but has an upper cut off set by SEBI.
Say after one succesful year of operation the Net assets in the MF stands at Rs. 1,00,000/- then the NAV on that day would be Rs. 20/-
There are three different ways in which MF houses share their profit.
1. Dividend scheme - At the end of the year the MF house has posted a brilliant return of 100%. So the MF house would decide to declare a dividend of say 50% per unit. Which means the investors A, B, C, D and E would be getting Rs. 5000/- each for staying invested with the fund. Plus each of their 1000 units is still invested with the fund and would continue to earn income for them. The most important point to note here is that once a MF house declares a dividend, the funds NAV drops by an equivalent amount. Here since the MF house has declared a 50% dividend the NAV would fall from Rs. 20/- to Rs. 15/-
2. Growth scheme - Unlike the Dividend scheme, there are no intermittent payments in the growth scheme. The 1000 units held by the investors would stay intact and would continue to grow for as long as they want.
3. Dividend Re-investment - In the Dividend Re-investment scheme, once the MF house declares a dividend say 50% in our example, each investor is eligible for Rs. 5000/- The MF house would allocate extra units to the investors at the current market NAV of the fund. In our example our investors would be getting approximately 250 units extra. So at the end of the first year the investors make a gain of 250 units. In the Dividend Re-investment scheme also the NAV would drop in accordance to the declared dividend units. In spite of the drop in NAV the investors dont stand to lose because they have got extra units.
Each scheme has its own pro's and con's. If you want a regular income on your MF investments go for Dividend option. If you do not want to disturb your investment for a long time and allow it to grow go for the Growth option.
Each MF would have its own locking period after which the investors can surrender their units and get cash. We will check the returns of 2 investors A & B. A was invested in Dividend scheme and B was invested in Growth Scheme.
NAV on date - Dividend Plan - Rs. 25.
NAV on date - Growth Plan - Rs. 30. (The NAV of growth plans are always more than that of Dividend plans)
No. of Units held by both A & B = 1000
Surrender Value for A = 25000 (He would have got a dividend of Rs. 5000 at the end of his first year in staying invested)
Surrender Value for B = 30000 (He hasnt got any dividend and the entire corpus he invested had grown to this amount)
Usually the returns of the Dividend plan and the Growth plan are not exactly the SAME. I have taken an ideal scenario and explanined so the returns work out to be the same.
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