Project report

On

Comparison of Mutual funds with other Investment options

Of Trinity Institute of Management and Research

Religare

Submitted By

Divya Gaikwad

Under the guidance of

CERTIFICATE

INDEX

Chapter I Introduction

1.1 Importance of the topic selected

1.2 Selection of the organization

1.3 Objectives of the project study

1.4 Research Methodology

II Theory related to the topic

2.1 Investments ( Investor’s Portfolio)

2.2 Concept of Mutual funds and its types

2.3 Process of Mutual funds

2.4 Portfolio management and its process

III Organization

3.1 History

3.2 Structure

3.3 Organizational Chart

VI Analysis & Interpretation of data

V Findings & Suggestions

DECLARATION

I, hereby, declare that the project titled “Comparison of Mutual funds with other

Investment options. “Is original to my best knowledge and has not published elsewhere. This is

for the purpose of partial fulfillment of Trinity Institute of management required for the award of

the degree of Master of Business Administration.

EXECUTIVE SUMMARY

As a part of my study curriculum it is necessary to undertake a project. This

project provides me an opportunity to understand particular topic in depth and get exposure

towards the emerging scenario. My topic for the project is titled as “Comparison of Mutual funds

with other Investment options” in which the emphasis is given on the study of different

investment options which are available and how mutual funds can prove a better option.

Awareness about different options of investments in India has gradually gone up in the last two

decades. General public or investors don’t have clarity about the various options of investment as

well as mutual fund. As we have started witnessing the concept of more saving now being

entrusted to the funds than to keeping it in banks. So it is very important to manage the savings

efficiently to earn good and high returns. By efficient we mean which reduces the risk of investor

on one hand and increases returns on the other hand.

This project is all about how Mutual fund can be a better option for investment’s as compared

other investment options. It really diversifies our risk and can offer a better return as compared to

other investment options. A Portfolio of Mutual fund is presented and shown how the risk has

been diversified in different sectors so as to diversify the risk factor and show how the returns

are affected.

At last, the report concludes the suggestions how Mutual funds can act as better investment

options than other investment options by taking a bit of risk so as to increase the rate of returns.

If the investment is diversified then it will reduce the risk but should be managed properly or

efficiently so as to give better returns.

This report actually gives a review about certain short term and long term investments options

and comparatively how Mutual funds acts as a better option to gain good returns with a

diversified risk.

INTRODUCTION

Economic liberalization and globalization of the Indian markets began in1991.

This meant that the Indian consumers had access to imported goods which resulted in fall in

prices of domestic goods due to increased competition. This meant that lower the interest rates

and more importantly transfer of risk from government to the individuals, forcing them to protect

their investments themselves.

Investors have plenty of option for investments. Some of them are providing fixed rate

of returns and some of them provide variable rate of return. Many of investment options like

Bank, Companies fixed deposits and UTI that were offering high returns are now falling after

globalization and liberalization.

There are some investors who are active. They are the ones who act promptly and make

informed decisions about market. They do their own research and understand the factors which

may affect their investments in future.

As every individual is different their objective behind investments also differs. Their

objective can be of different types like fixed return, capital appreciation, tax planning or current

income. The investment decision mainly depends upon the objective of the investors. Therefore,

it is necessary to understand the nature of the investor and his ability to take risk.

Mutual funds can act here as a better option for investments for an individual as the risk factor

can be minimized in this. It not only offers good returns but the management of mutual funds is

professional and experienced due to which it offers better returns compared to other investment

options.

IMPORTANCE OF THE TOPIC SELECTED

The money we earn is partly spent and the rest is saved for meeting future

expenses. Instead of keeping the saving idle we may like to earn some returns on it. So, we try to

invest the money to earn good returns along with to generate a specified sum of money for a

specific goal in life and also make a provision for uncertain future.

There are numbers of option for investing one’s saving which can give better returns for the

investments made in physical assets or financial assets which may be further divided into short

or long term options.

Investing money where the risk is less has always been risky to decide. The first factor, which an

investor would like to see before investing, is risk factor, which can be reduced through

diversification of investment. Diversification of risk gave birth to the phenomenon called Mutual

Fund.

Mutual fund is a vehicle for investing in stocks and bonds. It is an alternative investment option

to stocks and bonds. It pools the money of several investor’s and invest their savings in stocks,

bonds, money market instruments and other type of securities.

OBJECTIVES OF THE PROJECT

To provide basic knowledge about investments.

To find out the information about various investment options.

To study the nature of investment.

To study about Mutual funds.

To study whether Mutual funds are a better option.

To study how diversification can help in risk reduction.

To study how managing efficiently can lead to higher returns.

INVESTMENTS

What is an Investment?

In Finance, the purchase of a financial product, or other item of value

with an expectation of favorable future returns is termed as investment. In general terms

investment means the use of money to gain higher rate of returns against savings or the

investments.

In business, the purchase made by a producer of a physical goods, such

as durable equipment or inventory, in the hope of generating a back up for future business or

maintaining a balance position for future business is termed as Investment.

“An investment is the use of capital to create more money through the

acquisition of a security that promises the safety of the principal and generates a reasonable

return”.

Various Investment options:-

Saving plays an important role in every nation’s economy. The

money which is collected through savings acts as a driver for growth of the country. The saving

can be invested into two ways that is short term or long term investment options.

1. Short term investment option:-

Short term financial option is where the holding of the asset is

for a shorter period of time or where an asset is expected to be converted into cash in the next

year.

Broadly speaking, savings bank account, money market and fixed deposits can be considered as

short term financial investments options.

Short term

Long term

Savings bank accountCompany's Fixed

depositMoney market

1.1 Savings Bank account:-

An account maintained by a customer with a depository institution for

the purpose of accumulating funds over a period of time. Funds deposited in a savings account

may be withdrawn only by the account owner or a duly authorized agent, or on the owner's

nontransferable order. The account may be owned by one or more persons. Some accounts

require funds to be kept on deposit for a minimum length of time, while others permit unlimited

access to funds. Earnings may be in the form of dividends, as in the case of a share type savings

account, or interest as in the case of a deposit type account.

It is often the first option or the banking product which is preferred,

which offers low interest (4%- 5% p.a.), making them only marginally better than fixed deposits.

Savings account balance will carry interest on a daily basis. Saving bank account holders were

paid interest on average balances held between 10th and last day of the month. Savings Bank

account didn't fetch huge returns even if the balance on the beginning of the month was healthy.

Liquidity

Returns

Safety

1 .2. Money market or Liquid funds:-

The money market is a component of the financial markets for

assets involved in short-term borrowing and lending with original maturities of one year or

shorter time frames. Trading in the money markets involves Treasury bills, commercial paper,

bankers' acceptances, certificates of deposit, federal funds, and short-lived mortgage- and asset-

backed securities.

They are specialized form of mutual funds that invest in extremely short term fixed income

instruments and thereby provide easy liquidity. Unlike most mutual funds, money market funds

are primarily oriented towards protecting the capital and then, aim to maximize returns. Money

market funds usually yield better returns than savings accounts, but lower than bank fixed

deposits.

Liquidity

Returns

Safety

1.3 Fixed deposits with banks:-

Fixed deposits are loan arrangements where a specific amount of

funds is placed on deposit under the name of the account holder. The money placed on deposit

earns a fixed rate of interest, according to the terms and conditions that govern the account.

They are also referred to as term deposits and minimum investment period for bank FD’s is 15

days. Fixed be considered for 6 – 12 months investments period as normally interest on less than

6 months bank FD’s is likely to be lower than money market fund returns.

The most unusual characteristic of a fixed deposit is that the funds cannot be withdrawn for a

specified period of time. In most cases, fixed deposits carry duration of five years. During that

time, the money remains in the account and cannot be withdrawn for any reason. Individuals,

corporate entities, and even non-profit organizations that wish to set aside funds and limit their

access to the funds for a period of time often find that fixed deposits are a simple way to

accomplish this goal. As an added benefit, the monies in the account will earn a fixed rate of

interest regardless of any fluctuations in interest rates that apply to other types of accounts.

However, both these benefits can also turn into disadvantages under certain circumstances.

Because the money cannot be withdrawn until the duration is complete, the funds cannot be used

even in emergency situations. Changes in the going interest rate may also rise to a point above

and beyond the interest rate applied to existing deposits. This means account holders are actually

earning less interest with fixed deposits than with other types of loans and accounts.

Liquidity

Returns

Safety

2. Long term investment option:-

Long term investment can be referred as the holding an asset for

an extended period of time, depending upon the type of security. A long term asset can be held

for one year minimum or as long as for 30 years or more.

Post office savings schemes, Public provident fund, Company fixed deposits, bonds and

debentures, Mutual funds etc.

2.1 Post office savings:-

It is a monthly income scheme which is low risk saving instrument, which

can be availed through any post office. It provides an return of 8% per annum, which is paid

monthly. Minimum amount which can be invested is Rs. 1,000 and additional investments in

multiples of 1,000.

Scheme Interest Payable, Rates ,

Periodicity etc.

Denominations &

Investment limits

Salient Features Including

Tax Rebate

Post

Office

Monthly

Income

Account

8% per annum payable

i.e. Rs. 80/- will be paid

every month on a deposit

of Rs 12000/-. In addition

10% bonus is also

payable on maturity i.e.

Rs. 1200/- will be paid as

bonus after 6 years for

deposit of Rs. 12000/-.

In multiple Rs.

1000/- Maximum Rs.

3 lakhs in Single

account and Rs. 6

lakhs in joint

account.

Maturity period is 6 years.

Can be prematurely encashed

after one year at 3.5%

discount. However, no such

deduction shall be made if the

account is closed after three

years from the date of opening

of such account. Interest &

bonus deductible under Sec.

80-L of I.T. Act.

Liquidity

Returns

Safety

2.2 Public Provident fund:-

A long term savings instrument with a maturity of 15 years and interest

at 8% per annum compounded annually. A PPF account can be opened through a nationalized

bank at anytime during the year and is open all through the year for depositing money. Tax

benefits can be availed for the amount invested and interest accrued is tax free. A withdrawal is

permissible every year from the seventh financial year of the date of opening. Up to 50% of the

balance at credit at the end of the 4th year immediately preceding year or current balance,

whichever is lower can be withdrawn.

Scheme Interest

Payable, Rates

, Periodicity

etc.

Denominations &

Investment limits

Salient Features Including

Tax Rebate

15 YEARS

PUBLIC

PROVIDENT

FUND

ACCOUNT

8% per annum

from 1.3.2003

compounded

yearly.

Minimum Rs. 500/-.

Maximum Rs. 70,000/-

in a financial year.

Deposits can be made in

lump sum or in 12

installments.

Deposits quality for Income

Tax Rebate under Sec. 88-of

I.T. Act. Interest is completely

tax free. Withdrawal is

permissible every year from 7th

financial year. Loan facility

available from 3rd financial

year. No attachment under

court decree order.

The Public Provident Fund Scheme is a statutory scheme of the Central

Government of India.

The Scheme is for 15 years.

The rate of interest is 8% compounded annually.

The minimum deposit is 500/- and maximum is Rs. 70,000/- in a financial year.

One deposit with a minimum amount of Rs.500/- is mandatory in each financial year.

The deposit can be in lump sum or in convenient installments, not more than 12

Installments in a year or two installments in a month subject to total deposit of

Rs.70,000/-.

It is not necessary to make a deposit in every month of the year. The amount of deposit

can be varied to suit the convenience of the account holders.

The account in which deposits are not made for any reasons is treated as discontinued

account and such account can not be closed before maturity.

The discontinued account can be activated by payment of minimum deposit of Rs.500/-

with default fee of Rs.50/- for each defaulted year.

Account can be opened by an individual or a minor through the guardian.

Joint account is not permissible.

A Power of attorney holder can neither open or operate a PPF account.

The grand father/mother cannot open a PPF behalf of their minor

grand son/daughter.

The deposits shall be in multiple of Rs.5/- subject to minimum amount of Rs.500/-.

The deposit in a minor account is clubbed with the deposit of the account of the Guardian

for the limit of Rs.70, 000/-.

No age is prescribed for opening a PPF account.

Interest is not contractual but rate is notified by Ministry of Finance, Govt. of India, at the

end of each year.

The facility of first withdrawal in the 7th year of the account subject to a limit of 50% of

the amount at credit preceding three year balance. Thereafter one Withdrawal in every

year is permissible.

Pre-mature closure of a PPF Account is not permissible except in case of death.

Nominee/legal heir of PPF Account holder on death of the account holder can not

continue the account, but account had to be closed.

The account holder has an option to extend the PPF account for any period in a block of 5

years on each time.

The account holder can retain the account after maturity for any period without making

any further deposits. The balance in the account will continue to earn interest at normal

rate as admissible on PPF account till the account is closed.

One withdrawal in each financial year is also admissible in such account.

The PPF scheme is operated through Post Office and Nationalized banks.

PPF account can be opened either in Post Office or in a Bank.

Account is transferable from one Post office to another and from Post office to Bank and

from Bank to Post office.

Account is transferable from one Bank to another bank as well as within the bank to any

branch.

Deposits in PPF qualify for rebate under section 80-C of Income Tax Act.

The interest on deposits is totally tax free.

Deposits are exempt from wealth tax.

The balance amount in PPF account is not subject to attachment under any order or

decree of court in respect of any debt or liability.

Nomination facility available.

Best for long term investment.

Liquidity

Returns

Safety

2.3 Company fixed deposit:-

Fixed Deposit is an amount of money on deposit with Financial Institutions

for a fixed term at a rate determined by the term and other factors. Fixed deposits in companies

that earn a fixed rate of return over a period of time are called Company Fixed Deposits.

Primarily, financial institutions and Non-Banking Finance Companies (NBFCs) also accept such

deposits. Deposits thus mobilized are governed by the Companies Act under Section 58A.

Company Fixed Deposits are adequate for regular income with the option to receive monthly,

quarterly, half-yearly, and annual interest income. Moreover, the interest rates offered are higher

than banks.

High Safety - since most of these instruments are rated

Attractive Returns

Stable and Fixed Source of Income

Better rates for Senior Citizens

High Service Standards

Nomination Facility

Potential to earn compounding interest by reinvesting the principal amount along

with the interest earned during the period

Flexible Tenure - most of the issuers offer various tenures ranging from 1 year to

7 years

Convenience of interest frequency - Most issuers offer monthly, quarterly, semi-

annual , annual or cumulative deposits

Simple operational process - no requirement of PAN

Direct ECS credit facility for interest payments or advance interest warrants for

the year issued by most of the companies

No TDS for interest payment upto Rs 5000/- per financial year

Liquidity Most of these issuers offer 75% of the investment amount as loan @

2% over the interest rate on the deposit as well as pre-mature

withdrawal

Returns

Safety

2.4 Bonds:-

It is a fixed income instrument issued for a period of more than one year with the

purpose of raising capital. The central or state government, corporations and similar institutions

sell bonds. A bond is a promise to repay the principal along with a fixed rate of interest on a

specified date, called the Maturity date.

Example:- Tax Saving Long Term Infrastructure Bonds

A popular reason to invest in long term infrastructure bonds is because they allow you to reduce

Rs.20, 000 from your taxable income over and above the Rs. 100,000 limit under Section 80 (C).

So, the most you can reduce your taxable income without using the long term infrastructure

bonds is Rs. 100,000, but investing money in these bonds gets you an extra Rs. 20,000 off your

taxable income, and you can reduce your taxable income by a total of Rs. 120,000 by investing

in these long term infrastructure bonds.

This increases your effective yield because along with the interest you earn on these

infrastructure bonds, you save on tax as well.

These bonds are good for a maximum of Rs. 20,000 as far as the tax saving aspect is concerned,

so if you buy bonds worth Rs. 30,000 and nothing else, even then the maximum you can reduce

from your taxable income is Rs. 20,000 because that is the cap on tax benefits on Infrastructure

bonds.

Interest Rate of 7.5% or 8.0%

These bonds are getting issued under two lock in options:

1. Ten year maturity: The bond will be issued with a ten year maturity and offer 8.0% interest

per annum.

2. Ten year maturity with an option for buy-back after 5 years: This bond will also be issued

with a ten year maturity, but there will be buy back option after 5 years. The interest rate on this

is 7.5% per annum.

Minimum Investment in the IDFC Long Term Infrastructure Bond

The face value of the infrastructure bond is Rs. 5,000, and you have to apply for a minimum of

two bonds, so the minimum investment in this infrastructure bond is Rs. 10,000.

Liquidity

Returns

Safety

2.5 Mutual funds:-

These are funds operated by an investment company which raises money from the

public and invests in a group of assets (shares, debentures etc). In accordance with a stated set of

objectives. It is a substitute for those who are unable to invest directly in equities or debt because

of resource, time or knowledge constraints.

Why Invest in Mutual Funds?

Professional Management

Fund managers are professionals who track the market on an ongoing basis. With their mix of

professional qualification and market knowledge, they are better placed than the average investor

to understand the markets.

Diversification and Lowered Risks

Since a mutual fund is a trust that pools the savings of a number of investors sharing a common

financial goal, the associated risks are greatly reduced. This is also because a fund will invest

your money in different types of instruments like shares and bonds. Hence, loss in one sphere

will not greatly affect your overall investment status.

Low Costs

When compared to direct investments in the capital market, mutual funds cost less. This is due to

savings in brokerage costs, Demat costs, depository costs, etc.

Liquidity

Investments in mutual funds are quite liquid and hence can be redeemed at the Net Assets Value

(NAV)–related price on any working day.

Transparency

All that you invest in a scheme is made known to you and you are periodically informed about

all the updates and changes taking place

Flexibility

Mutual funds offer flexibility in their options and schemes to match individual needs. Also, with

features like regular withdrawal plans and systematic investment plans, you can withdraw or

invest funds according to your needs and convenience

Choice of Schemes

Mutual funds offer a vast variety of well-designed schemes and options that you can choose from

depending on your risk appetite.

Tax Benefits

In India, these funds become even more attractive because of the tax advantage, indexation

benefits, long term capital gains tax, tax free dividends and much more.

Liquidity

Returns

Safety

CONCEPT OF MUTUAL FUNDS

A mutual fund is just the connecting bridge or a financial intermediary that allows a

group of investors to pool their money together with a predetermined investment objective. The

mutual fund will have a fund manager who is responsible for investing the gathered money into

specific securities (stocks or bonds). When you invest in a mutual fund, you are buying units or

portions of the mutual fund and thus on investing becomes a shareholder or unit holder of the

fund.

Mutual funds are considered as one of the best available investments as compared to others.

They are very cost efficient and also easy to invest in, thus by pooling money together in a

mutual fund, investors can purchase stocks or bonds with much lower trading costs than if they

tried to do it on their own. But the biggest advantage to mutual funds is diversification, by

minimizing risk & maximizing returns.

Mutual fund is a vehicle for investing in stocks and bonds. It is an alternative investment option

to stocks and bonds; rather it pools the money of several investors and invests this in stocks,

bonds, money market instruments and other types of securities.

Stocks represent shares of ownership in a public company. Examples of public companies

include Reliance, ONGC and Infosys. Stocks are considered to be the most common owned

investment traded on the market.

Bonds are basically the money which you lend to the government or a company, and in return

you can receive interest on your invested amount, which is back over predetermined amounts of

time. Bonds are considered to be the most common lending investment traded on the market.

There are many other types of investments other than stocks and bonds (including annuities, real

estate, and precious metals), but the majority of mutual funds invest in stocks and/or bonds.

Buying a mutual fund is like buying a small slice of a big pizza. The owner of a mutual fund unit

gets a proportional share of the fund’s gains, losses, income and expenses.

The above diagram gives an idea on the structure of an Indian mutual fund.

Sponsor:

Sponsor is basically a promoter of the fund. For example Bank of Baroda, Punjab National Bank,

State Bank of India and Life Insurance Corporation of India (LIC) are the sponsors of UTI

Mutual Funds. Housing Development Finance Corporation Limited (HDFC)  and Standard Life

Investments Limited are the sponsors of HDFC mutual funds. The fund sponsor raises money

from public, who become fund shareholders. The pooled money is invested in the securities.

Sponsor appoints trustees.

Trustees:

Two third of the trustees are independent professionals who own the fund and supervises the

activities of the AMC. It has the authority to sack AMC employees for non-adherence to the

rules of the regulator. It safeguards the interests of the investors. They are legally appointed i.e.

approved by SEBI.

AMC:

Asset Management Company (AMC) is a set of financial professionals who manage the fund. It

takes decisions on when and where to invest the money. It doesn’t own the money. AMC is only

a fee-for-service provider.

The above 3 tier structure of Indian mutual funds is very strong and virtually no chance for fraud.

Custodian:

A Custodian keeps safe custody of the investments (related documents of securities invested). A

custodian should be a registered entity with SEBI. If the promoter holds 50% voting rights in the

custodian company it can’t be appointed as custodian for the fund. This is to avoid influence of

the promoter on the custodian. It may also provide fund accounting services and transfer agent

services. JP Morgan Chase is one of the leading custodians.

Transfer Agents:

Transfer Agent Company interfaces with the customers, issue a fund’s units, help investors

while redeeming units. Provides balance statements and fund performance fact sheets to the

investors. CAMS is a leading Transfer Agent in India.

TYPES OF MUTUAL FUNDS

Wide variety of Mutual Fund Schemes exists to cater to the needs such as financial position, risk

tolerance and return expectations etc. thus mutual funds has Variety of flavors, Being a

collection of many stocks, an investors can go for picking a mutual fund might be easy. There

are over hundreds of mutual funds scheme to choose from. It is easier to think of mutual funds in

categories:-

1. General Classification of Mutual Funds:-

1.1. Open-end Funds:-

Funds that can sell and purchase units at any point in time are classified as Open-end

Funds. The fund size (corpus) of an open-end fund is variable (keeps changing) because of

continuous selling (to investors) and repurchases (from the investors) by the fund. An open-end

fund is not required to keep selling new units to the investors at all times but is required to

always repurchase, when an investor wants to sell his units. The NAV of an open-end fund is

calculated every day.

1.2. Closed-end Funds:-

Funds that can sell a fixed number of units only during the New Fund Offer

(NFO) period are known as Closed-end Funds. The corpus of a Closed-end Fund remains

unchanged at all times. After the closure of the offer, buying and redemption of units by the

General classification

Broad

Classification

investors directly from the Funds is not allowed. However, to protect the interests of the

investors, SEBI provides investors with two avenues to liquidate their positions:

Closed-end Funds are listed on the stock exchanges where investors can buy/sell units from/to

each other. The trading is generally done at a discount to the NAV of the scheme. The NAV of a

closed-end fund is computed on a weekly basis (updated every Thursday).

Closed-end Funds may also offer "buy-back of units" to the unit holders. In this case, the corpus

of the Fund and its outstanding units do get changed.

1.3. Load Funds:-

Mutual Funds incur various expenses on marketing, distribution, advertising,

portfolio churning, fund manager's salary etc. Many funds recover these expenses from the

investors in the form of load. These funds are known as Load Funds. A load fund may impose

following types of loads on the investors:

1.3.1 Entry Load Funds:-

Also known as Front-end load, it refers to the load charged to an investor at the

time of his entry into a scheme. Entry load is deducted from the investor's contribution amount to

the fund.

1.3.2 Exit Load Funds:-

Also known as Back-end load, these charges are imposed on an investor when

he redeems his units (exits from the scheme). Exit load is deducted from the redemption

proceeds to an outgoing investor.

1.3.3 Deferred Load:-

Deferred load is charged to the scheme over a period of time.

1.3.4 Contingent Deferred Sales Charge (CDSC): -

In some schemes, the percentage of exit load reduces as the investor

stays longer with the fund. This type of load is known as Contingent Deferred Sales Charge.

1.4. No-load Funds:-

All those funds that do not charge any of the above mentioned loads are known as

No-load Funds.

1.5. Tax-exempt Funds:-

Funds that invest in securities free from tax are known as Tax-exempt Funds. All

open-end equity oriented funds are exempt from distribution tax (tax for distributing income to

investors). Long term capital gains and dividend income in the hands of investors are tax-free.

1.6. Non-Tax-exempt Funds:-

Funds that invest in taxable securities are known as Non-Tax-exempt Funds. In

India, all funds, except open-end equity oriented funds are liable to pay tax on distribution

income. Profits arising out of sale of units by an investor within 12 months of purchase are

categorized as short-term capital gains, which are taxable. Sale of units of an equity oriented

fund is subject to Securities Transaction Tax (STT). STT is deducted from the redemption

proceeds to an investor.

2. Broad Classification of Mutual funds:-

2.1 Equity Funds:-

Equity funds are considered to be the more risky funds as compared to other fund

types, but they also provide higher returns than other funds. It is advisable that an investor

looking to invest in an equity fund should invest for long term i.e. for 3 years or more. There are

different types of equity funds each falling into different risk bracket. In the order of decreasing

risk level, there are following types of equity funds:

2.1.1 Aggressive Growth Funds:-

In Aggressive Growth Funds, fund managers aspire for maximum

capital appreciation and invest in less researched shares of speculative nature. Because of these

speculative investments Aggressive Growth Funds become more volatile and thus, are prone to

higher risk than other equity funds.

2.1.2 Growth Funds:-

Growth Funds also invest for capital appreciation (with time horizon of 3 to 5

years) but they are different from Aggressive Growth Funds in the sense that they invest in

companies that are expected to outperform the market in the future. Without entirely adopting

speculative strategies, Growth Funds invest in those companies that are expected to post above

average earnings in the future.

2.1.3 Specialty Funds: -

Specialty Funds have stated criteria for investments and their portfolio comprises of

only those companies that meet their criteria. Criteria for some specialty funds could be to

invest/not to invest in particular regions/companies. Specialty funds are concentrated and thus, are

comparatively riskier than diversified funds.. There are following types of specialty funds:

a. Sector Funds:-

Equity funds that invest in a particular sector/industry of the market are known as

Sector Funds. The exposure of these funds is limited to a particular sector (say Information

Technology, Auto, Banking, Pharmaceuticals or Fast Moving Consumer Goods) which is why they

are more risky than equity funds that invest in multiple sectors.

b. Foreign Securities Funds:-

Foreign Securities Equity Funds have the option to invest in one or more

foreign companies. Foreign securities funds achieve international diversification and hence they are

less risky than sector funds. However, foreign securities funds are exposed to foreign exchange rate

risk and country risk.

c. Mid-Cap or Small-Cap Funds:-

Funds that invest in companies having lower market capitalization than

large capitalization companies are called Mid-Cap or Small-Cap Funds. Market capitalization of

Mid-Cap companies is less than that of big, blue chip companies (less than Rs. 2500 crores but more

than Rs. 500 crores) and Small-Cap companies have market capitalization of less than Rs. 500

crores. Market Capitalization of a company can be calculated by multiplying the market price of the

company's share by the total number of its outstanding shares in the market. The shares of Mid-Cap

or Small-Cap Companies are not as liquid as of Large-Cap Companies which gives rise to volatility

in share prices of these companies and consequently, investment gets risky.

d. Option Income Funds:-

While not yet available in India, Option Income Funds write options on a large

fraction of their portfolio. Proper use of options can help to reduce volatility, which is otherwise

considered as a risky instrument. These funds invest in big, high dividend yielding companies, and

then sell options against their stock positions, which generate stable income for investors.

2.1.4 Diversified Equity Funds:-

Except for a small portion of investment in liquid money market, diversified

equity funds invest mainly in equities without any concentration on a particular sector(s). These

funds are well diversified and reduce sector-specific or company-specific risk. However, like all

other funds diversified equity funds too are exposed to equity market risk. One prominent type of

diversified equity fund in India is Equity Linked Savings Schemes (ELSS). As per the mandate, a

minimum of 90% of investments by ELSS should be in equities at all times. ELSS investors are

eligible to claim deduction from taxable income (up to Rs 1 lakh) at the time of filing the income

tax return. ELSS usually has a lock-in period and in case of any redemption by the investor before

the expiry of the lock-in period makes him liable to pay income tax on such income(s) for which he

may have received any tax exemption(s) in the past.

2.1.5 Equity Index Funds:-

Equity Index Funds have the objective to match the performance of a specific

stock market index. The portfolio of these funds comprises of the same companies that form the

index and is constituted in the same proportion as the index. Equity index funds that follow broad

indices (like S&P CNX Nifty, Sensex) are less risky than equity index funds that follow narrow sect

oral indices (like BSEBANKEX or CNX Bank Index etc). Narrow indices are less diversified and

therefore, are more risky.

2.1.6 Value Funds:-

Value Funds invest in those companies that have sound fundamentals and whose

share prices are currently under-valued. The portfolio of these funds comprises of shares that are

trading at a low Price to Earnings Ratio (Market Price per Share / Earning per Share) and a low

Market to Book Value (Fundamental Value) Ratio. Value Funds may select companies from

diversified sectors and are exposed to lower risk level as compared to growth funds or specialty

funds. Value stocks are generally from cyclical industries (such as cement, steel, sugar etc.) which

make them volatile in the short-term. Therefore, it is advisable to invest in Value funds with a long-

term time horizon as risk in the long term, to a large extent, is reduced.

2.1.7 Equity Income or Dividend Yield Funds:-

The objective of Equity Income or Dividend Yield Equity Funds is to

generate high recurring income and steady capital appreciation for investors by investing in those

companies which issue high dividends (such as Power or Utility companies whose share prices

fluctuate comparatively lesser than other companies' share prices). Equity Income or Dividend

Yield Equity Funds are generally exposed to the lowest risk level as compared to other equity funds.

2.2 Debt Income Funds:-

Funds that invest in medium to long-term debt instruments issued by private

companies, banks, financial institutions, governments and other entities belonging to various

sectors (like infrastructure companies etc.) are known as Debt / Income Funds. Debt funds are

low risk profile funds that seek to generate fixed current income (and not capital appreciation) to

investors. In order to ensure regular income to investors, debt (or income) funds distribute large

fraction of their surplus to investors. Although debt securities are generally less risky than

equities, they are subject to credit risk (risk of default) by the issuer at the time of interest or

principal payment. To minimize the risk of default, debt funds usually invest in securities from

issuers who are rated by credit rating agencies and are considered to be of "Investment Grade".

Debt funds that target high returns are more risky. Based on different investment objectives,

there can be following types of debt funds:

2.2.1 Diversified Debt Funds –

Debt funds that invest in all securities issued by entities belonging to all

sectors of the market are known as diversified debt funds. The best feature of diversified debt

funds is that investments are properly diversified into all sectors which results in risk reduction.

Any loss incurred, on account of default by a debt issuer, is shared by all investors which further

reduces risk for an individual investor.

2.2.2 Focused Debt Funds –

Unlike diversified debt funds, focused debt funds are narrow focus funds

that are confined to investments in selective debt securities, issued by companies of a specific

sector or industry or origin. Some examples of focused debt funds are sector, specialized and

offshore debt funds, funds that invest only in Tax Free Infrastructure or Municipal Bonds.

Because of their narrow orientation, focused debt funds are more risky as compared to diversified

debt funds. Although not yet available in India, these funds are conceivable and may be offered to

investors very soon.

2.2.3 High Yield Debt funds –

As we now understand that risk of default is present in all debt funds, and

therefore, debt funds generally try to minimize the risk of default by investing in securities issued

by only those borrowers who are considered to be of "investment grade". But, High Yield Debt

Funds adopt a different strategy and prefer securities issued by those issuers who are considered

to be of "below investment grade". The motive behind adopting this sort of risky strategy is to

earn higher interest returns from these issuers. These funds are more volatile and bear higher

default risk, although they may earn at times higher returns for investors.

2.2.4 Fixed Term Plan Series –

Fixed Term Plan Series usually are closed-end schemes having short term

maturity period (of less than one year) that offer a series of plans and issue units to investors at

regular intervals. Unlike closed-end funds, fixed term plans are not listed on the exchanges. Fixed

term plan series usually invest in debt / income schemes and target short-term investors. The

objective of fixed term plan schemes is to gratify investors by generating some expected returns

in a short period.

2.3 Gilt Funds:-

Also known as Government Securities in India, Gilt Funds invest in government

papers (named dated securities) having medium to long term maturity period. Issued by the

Government of India, these investments have little credit risk (risk of default) and provide safety

of principal to the investors. However, like all debt funds, gilt funds too are exposed to interest

rate risk. Interest rates and prices of debt securities are inversely related and any change in the

interest rates results in a change in the NAV of debt/gilt funds in an opposite direction.

2.4 Money Market / Liquid Funds:-

Money market / liquid funds invest in short-term (maturing within one year) interest

bearing debt instruments. These securities are highly liquid and provide safety of investment,

thus making money market / liquid funds the safest investment option when compared with other

mutual fund types. However, even money market / liquid funds are exposed to the interest rate

risk. The typical investment options for liquid funds include Treasury Bills (issued by

governments), Commercial papers (issued by companies) and Certificates of Deposit (issued by

banks).

2.5 Hybrid Funds:-

As the name suggests, hybrid funds are those funds whose portfolio includes a

blend of equities, debts and money market securities. Hybrid funds have an equal proportion of

debt and equity in their portfolio. There are following types of hybrid funds in India:

2.5.1 Balanced Funds:-

The portfolio of balanced funds include assets like debt securities, convertible

securities, and equity and preference shares held in a relatively equal proportion. The objectives

of balanced funds are to reward investors with a regular income, moderate capital appreciation

and at the same time minimizing the risk of capital erosion. Balanced funds are appropriate for

conservative investors having a long term investment horizon.

2.5.2 Growth-and-Income Funds:-

Funds that combine features of growth funds and income funds are known

as Growth-and-Income Funds. These funds invest in companies having potential for capital

appreciation and those known for issuing high dividends. The level of risks involved in these

funds is lower than growth funds and higher than income funds.

2.5.3 Asset Allocation Funds:-

Mutual funds may invest in financial assets like equity, debt, money

market or non-financial (physical) assets like real estate, commodities etc.. Asset allocation funds

adopt a variable asset allocation strategy that allows fund managers to switch over from one asset

class to another at any time depending upon their outlook for specific markets. In other words,

fund managers may switch over to equity if they expect equity market to provide good returns

and switch over to debt if they expect debt market to provide better returns. It should be noted

that switching over from one asset class to another is a decision taken by the fund manager on the

basis of his own judgment and understanding of specific markets, and therefore, the success of

these funds depends upon the skill of a fund manager in anticipating market trends.

2.6 Commodity Funds:-

Those funds that focus on investing in different commodities (like

metals, food grains, crude oil etc.) or commodity companies or commodity futures contracts are

termed as Commodity Funds. A commodity fund that invests in a single commodity or a group

of commodities is a specialized commodity fund and a commodity fund that invests in all

available commodities is a diversified commodity fund and bears less risk than a specialized

commodity fund. "Precious Metals Fund" and Gold Funds (that invest in gold, gold futures or

shares of gold mines) are common examples of commodity funds.

2.7.RealEstateFunds:- :-

Funds that invest directly in real estate or lend to real estate developers or invest in

shares/securitized assets of housing finance companies, are known as Specialized Real Estate

Funds. The objective of these funds may be to generate regular income for investors or capital

appreciation.

8.ExchangeTradedFunds(ETF):-

Exchange Traded Funds provide investors with combined benefits of a closed-

end and an open-end mutual fund. Exchange Traded Funds follow stock market indices and are

traded on stock exchanges like a single stock at index linked prices. The biggest advantage

offered by these funds is that they offer diversification, flexibility of holding a single share

(tradable at index linked prices) at the same time. Recently introduced in India, these funds are

quite popular abroad.

9.FundofFunds:-

Mutual funds that do not invest in financial or physical assets, but do invest in

other mutual fund schemes offered by different AMCs, are known as Fund of Funds. Fund of

Funds maintain a portfolio comprising of units of other mutual fund schemes, just like

conventional mutual funds maintain a portfolio comprising of equity/debt/money market

instruments or non financial assets. Fund of Funds provide investors with an added advantage of

diversifying into different mutual fund schemes with even a small amount of investment, which

further helps in diversification of risks. However, the expenses of Fund of Funds are quite high

on account of compounding expenses of investments into different mutual fund schemes.

PROCESS OF MUTUAL FUND

In the above graph shows how Mutual Fund works and how investor earns money by investing in

the Mutual Fund. Investors put their saving as an investment in Mutual Fund. The Fund Manager

who is a person who takes the decisions where the money should be invested in securities

according to the scheme’s objective. Securities include Equities, Debentures, Govt. Securities

Bonds, and Commercial Paper etc. These Securities generates returns to the Fund Manager. The

Fund Manager passes back return to the investor.

MUTUAL FUNDS COMPANIES IN INDIA

   

     

     

     

     

     

   

     

     

     

     

     

     

     

   

     

PORTFOLIO MANAGEMENT

People have different investment objective and risk appetite so to get the highest returns asset

allocation through active portfolio management is the key element.

Asset allocation is a method that determines how you divide your portfolio among different

investment instruments and provides you with the proper blend of various asset classes.

It is based on the theory that the type or class of security you own equity, debt or money market-

is more important than the particular security itself. In other words asset allocation is way to

control risk in your portfolio. Different asset class will react differently to market conditions like

inflation, rising or falling interest rates or a market segment coming into or falling out of favor.

Asset allocation is different from simple diversification. Suppose you diversify your equity

portfolio by investing in five or ten equity funds. You really have not done much to control risk

in your portfolio if all these funds come from only one particular segment of the market say large

cap stocks or mid cap stocks. In case of an adverse reaction for that segment, all the funds will

react similarly means they will go down.

If you build your portfolio with various top performing growth funds without really bothering to

analyze their portfolio allocation, you may end up with over-exposure to a particular segment.

Another point you need to remember is that growth funds are highly correlated- they tend to

move in the same direction in response to a given market force.

The advantage of asset allocation lies in achieves superior returns when markets are down while

minimizing the exposure of the portfolio to volatility. In fact, asset allocation is based on certain

dimensions that, when combined tend to control the volatility while achieving targeted returns.

PORTFOLIO MANAGEMENT PROCESS

Portfolio management is a complex activity, which may be broken down into the following

steps:

Specification of investment objectives and constraints:

The typical objectives sought by an investor are current income, capital appreciation, safety,

fixed returns on principal investment.

Choice of asset mix:

The most important decision in portfolio management is the asset mix decision. This is

concerned with the proportions of “Stock” or “Units” of mutual fund or “Bond” in the portfolio.

The appropriate mix of Stock and Bonds will depend upon the risk tolerance and investment

horizon of the investor.

Formulation of portfolio strategy:

Once the certain asset mix has been chosen an appropriate portfolio strategy has to be decided

out. Two broad portfolio choices are available An active portfolio management: it strive to earn

superior risk adjusted returns by resorting to market timing, or sector rotation or security

selection or some combination of these.

A passive portfolio management involves holding a broadly diversified portfolio and maintaining

a pre-determined level of risk exposure.

Designing a model Portfolio

There are certain objectives that should keep in mind while designing a portfolio these are:

Higher absolute rate of return and high real rate of return

Maximization current income

High post tax returns

Positive real return

Preservation of capital

Growth in capital

ANALYSIS & INTERPRETATION OF DATA

“An investment is the use of capital to create more money through the acquisition of a

security that promises the safety of the principal and generates a reasonable return”.

As savings have become an initial part of the economy’s growth through which not only the

investor benefits but also the economy of a country can be raised which really helps to achieve a

growth rate or to meet the cost of Inflation. Inflation is the rate at which the cost of living

increases. The cost of living is simply what it costs to buy the goods and services you need to

live. Inflation causes money to lose value because it will not buy the same amount of good or a

service in the future as it does now or did in the past.

Therefore, it is important to consider inflation as a factor in any long term investment strategy.

The real rate of return on the investment is when the rate of returns achieved after inflation. The

aim of investments should be to provide a return above the inflation rate to ensure that the

investment does not decrease in value. So, there are financial options provided for investment

into two terms i.e. short and long term investment options.

MUTUAL FUNDS:-

Mutual fund is a divided investment where there is a risk diversification is

been done, some are pure equity schemes; others are a mix of equity and bonds. Investors are

also given the option of getting dividends, which are declared periodically by the mutual fund, or

to participate only in the capital appreciation of the scheme.

Portfolio of Mutual fund investment

HDFC PRUDENCE FUND – GROWTH

Fund Features

Type of Scheme    Open Ended

Nature    Equity & Debt

Option    Growth

Inception Date    Feb 1, 1994

Face Value

(Rs/Unit)

   10

Fund Size in Rs.

Cr.

   5078.31 as on Aug

31, 2010

Fund Manager Prashant Jain,

Anand Laddha .

SIP

STP

SWP

Expense ratio(%) 1.84

Portfolio Turnover

Ratio(%)

33.1

As open ended is a scheme where the funds sell and purchase units at any point of time.

The fund size (corpus) of an open-end fund is variable (keeps changing) because of continuous

selling (to investors) and repurchases (from the investors) by the fund.

Fund size Amount ( in crores)

As on 31st Aug 2010 5078.31

As on 30th Sep 2010 5438.04

Last Dividend Declared 12 % as on Sep 28, 1998

Minimum Investment

(Rs)

5000

Purchase /Redemptions Daily

NAV Calculation Daily

Entry Load Entry Load is 0%.

Exit Load If redeemed bet. 0 Year to 1 Year; Exit load is 1%.

   An open-end fund is not required to keep selling new units to the investors at all times but is

required to always repurchase, when an investor wants to sell his units. The NAV of an open-end

fund is calculated every day.

NET ASSET VALUE

Latest NAV 221.70 as on Oct

1, 2010

Benchmark Index -

Crisil Balanced Fund

Index

3,633.64 as on Sep

30, 2010

52 - Week High 221.70 as on Oct 1,

2010

52 - Week Low 157.27 as on Nov

3, 2009

Latest NAV 222.67 as on Oct 7,

2010

Benchmark Index -

Crisil Balanced Fund

Index

3,669.36 as on Oct 7,

2010

52 - Week High 222.84 as on Oct 6

52 - Week Low 157.27 as on Nov 3,

2009

 

As there is a daily NAV calculations so there is a change in the graph.

RISK & RETURNS

Scheme performance as on October 2010

1 Month 3 Months 6 Months 1 yr 3 yrs 5 yrs Since

Inception

5.71 13.54 20.52 37.73 17.34 23.20 20.52

The calculation of the returns is been dependent on the Net asset value which keeps changing on

daily basis and it is most probably affected by the Sensex too. Due to which the nature of mutual

funds differ and the risk is been diversified. The returns are divided periodically.

PORTFOLIO

 

P/E 24.61 as on  Aug - 2010

P/B 5.95 as on  Aug - 2010

Dividend Yield 1.22 as on  Aug - 2010

Market Cap (Rs. in crores) 53,321.78 as on  Aug - 2010

Large 37.20 as on Aug - 2010

Mid 28.21 as on Aug - 2010

Small 5.78 as on Aug - 2010

Top 5 Holding (%) 20.16 as on Aug - 2010

No. of Stocks 103

Expense Ratio (%) 1.84

Large caps:

A term used by the investment community to refer to companies with a market

capitalization value of more than $10 billion. Large cap is an abbreviation of the term "large

market capitalization". Market capitalization is calculated by multiplying the number of a

company's shares outstanding by its stock price per share.

Mid caps:

A type of stock fund that invests in mid-sized companies. A company's size is

determined by its market capitalization, with mid-sized firms generally ranging from $2 billion

to $10 billion in market cap. Most stocks held in a mid-cap fund are firms with established

businesses that are still considered developing companies. These funds tend to offer more growth

than large-cap stocks and less volatility than the small-cap segment.

Small cap:

Generally it is a company with a market capitalization of between $300 million and $2

billion. One of the biggest advantages of investing in small-cap stocks is the opportunity to beat

institutional investors. Because mutual funds have restrictions that limit them from buying large

portions of any one issuer's outstanding shares, some mutual funds would not be able to give the

small cap a meaningful position in the fund. To overcome these limitations, the fund would

usually have to file with the SEC, which means tipping its hand and inflating the previously

attractive price.

Stock Sector P/E Percentage

of Net

Assets

Qty Value Percentage

of Change

with last

month

State Bank of

India

Banks 21.0

6

4.74 870,000 240.68 274.38

Cash Current Assets NA 4.70 NA 239.59 -1.79

Oil & Natural

Gas Corps Ltd

Petroleum, Gas

and petrochemical

products

19.2

4

3.49 1,325,000 177.23 21.57

Bank of Baroda Banks 10.0

9

3.18 2,003,290 161.25 6.99

Titan Industries

Ltd

Consumer

Durables and

Electronics

50.9

7

2.79 483,424 141.72 4.48

Indian Railway

Finance

Corporation Ltd

FI NA 2.51 1,150 127.46 0.08

Tata

Consultancy

Services Ltd.

Software and

Consultancy

Services

30.6

1

2.16 1,300,000 109.69 0.47

3M India Ltd. Industrial

Products

47.8

7

2.13 326,225 108.15 -4.95

ICICI BANK

LTD.

Banks 30.5

5

2.12 1,098,900 107.44 1,251.51

GOI Sovereign NA 1.99 10,000,000 100.86 164.31

Airliners 0.08

Auto & Auto Ancillaries 4.92

Banks 16.30

Chemicals 2.55

Construction and Infrastructure 1.23

Consumer Durables and Electronics 3.68

Current Assets 4.70

Custodial, Depository, Exchanges and rating agencies 0.45

Engineering and Capital Goods 1.60

FI 4.97

FMCG 1.87

Food & Food Processing, Beverages 3.05

Garments, Fashion wear, Lifestyle 1.92

Green Transportation 0.20

Healthcare and related equipment manufacturers 1.48

HFC 2.24

Industrial Products 2.71

Leather & Leather Products 1.39

Media and Entertainment 4.25

NBFC 0.72

Paper and Natural fibre 1.13

Petroleum, Gas and petrochemical products 10.26

Pharmaceuticals & Biotechnology 5.28

Power & Control equipment Manufacturer 1.30

Power Generation 1.52

Power Transmission 0.89

Realty 0.29

Retailers 0.20

Software and Consultancy Services 3.44

Sovereign 11.72

Steel and Ferrous Metal 1.04

Telecom Services 1.93

Textiles 0.69

The market share of the stocks, bonds etc keeps on changing as there is a change in the Sensex

the valuation changes so the sector which yields in that duration is given more preference, and

Sector mutual funds promote themselves as helping to spread the risk of investing. Instead of

buying shares of a few companies in the same line of business, you buy a mutual fund that only

invests in companies belonging to that sector. With the pool of money brought in from different

investors, the mutual fund is able to buy shares of many companies. Thus, you have spread your

risk from a few companies to hundreds of companies. For example as in the above chart there is

a sector allocation is high in Banks than other that is 16.30 rather other fetch a bit lesser

compared to it. Here, the risk is been diversified so as to yield higher returns.

 

Equity Debt Cash & Equivalent

71.60 23.70 4.70

Equity or Stocks are ownership shares investors buy in a

corporation. When you make equity investments, you become part-owner (to the extent of your

shareholding) of the company you have invested in. However, there is no particular rate of return

indicated while investing. The current value of your holding is reflected in the price at which the

stock/share is traded in the stock markets. Hence, these constitute a relatively riskier form of

investment.

Debt instruments or Bonds are loans investors make to

corporations or the government. They promise a fixed return at the time of making the

investment. Also the promise of getting the money back is dependent on who is making the

promise. In case of the Government, the promise will certainly get fulfilled, but if the issuer of

debt is a company or an institution, the quality of the issuer needs to be adjudged, to ascertain its

ability to keep the promise. Debt investments, therefore, provide you with the promise that your

principal will be returned along with the interest payable thereon.

Cash includes money in bank savings accounts and other liquid investment options.

Balance fund like HDFC Prudence Fund –

This Mutual Fund invests in both equity (71%) , debt

(27%) instruments and cash instrument (4%). This is one of the safest funds with a great track

record of over 14 years, and has been giving a compounding return of around 20-25% per year.

This fund has one important virtue: it manages to lose less than the category average in periods

of downside. Couple this with its tendency to top charts & you get a safe & sure fund in HDFC

Prudence. Invest 30% of the funds in HDFC Prudence. This was an example of Systematic

Investment Planning (SIP).

Systematic Investment Planning is a form of Mutual fund which probably can be invested by any

class of people, it has a lower investment rates. Now we will compare PPF with Mutual funds.

Public Provident fund:-

It is a long term investment savings with a maturity of 15 years and interest

payable at 8% per annum compounded annually.

In case of PPF’s where the returns are fixed and most probably guaranteed but it is been for a

longer duration then the returns are enjoyed but in case of Mutual funds offer different time

periods as well as it is also important to know that it has a diversified portfolio which has a better

potential.

Example:-

a. If you play completely safe and say invest all your money in PPF @8% compounding, your Rs

2000 invested every month or RS. 24,000 invested annually will grow to 11, 86, 150. This

amount is guaranteed by the way, unless the government tinkers with the PPF rate. You can do

this calc simply in excel by multiplying 24k * 1.08, and adding 24K to the previous year’s value

and again multiplying by 1.08. Do this for 20 yrs and you will see the above value of Rs. 11, 86,

150.

2. If you can take slightly higher risk and split the available 24,000 equally between PPF and a

reputed mutual fund like HDFC Prudence for example. You will get 8% compounding with your

PPF and say 15% compounding with HDFC Prudence. PPF will grow to Rs.5, 93,075 and HDFC

Prudence may grow to Rs.14, 13,721; totally, a nice sounding Rs. 20, 06,796!!

Most of us leave a good amount of our income in the savings account. According to a RBI

report, the savings deposits comprise almost 20-25% of total deposits in scheduled commercial

banks. Clearly, the savings account works well as a vehicle for personal fiscal management

especially, as our utility bill payments, household expenses and impulsive shopping depends on

it.  Also, an emergency fund equivalent to 3-6 months of earnings protects you from any

unforeseen and immediate requirement.

Here, we look at some of the short-term savings instrument and how wise allocation to different

assets can grow your money. 

Interest from savings account

The savings rate currently stands at 3.5%.  Good news is that from 1 April 2010, the interest on

your savings account will be calculated on daily basis. So, you may wonder how it was

calculated in first place.

In 1997, the interest rates on banks were de-regulated which means different banks could then fix

rates depending the size and tenure of deposits.  As a result, banks became more competitive in

terms of deposit rates and services rendered to consumers. However, the savings account rate

being the only rate pre-decided by the central bank was calculated on the basis of minimum

balance of the account holder for the period between 10th and end of the month. Even if your

account balance reflected thousands during the month, if the balance in your account was zero,

even for a single day between the tenth and last day of the month, you would earn no interest.

Due to this method, the effective yield is lower than 3.5%. Interestingly, banks follow the

method of daily calculation of interest against loans extended to you.

Going ahead, the money lying in your savings account will earn interest using the daily method

of computation wherein the average of the account balance at the end of the day will be taken.

So, the closing balance every day will be added up and divided by no. of days and thereafter,

multiplied with savings rate.   Thus, this practice is expected to remove the anomaly in

calculation.

Mutual funds

Considering that the savings account forms an important part of your finances, we intend to

evaluate it along side some of the debt mutual fund products. Liquid, liquid plus, short term

income funds, floater funds are the different types of mutual funds which cater to a short-term

investment horizon. These funds typically invest in short maturity fixed income instruments

whose returns depend on prevailing as well as anticipated rise/fall in interest rates and supply of

money in the banking system. Also, the extent of government borrowing determines the demand

for the stated fixed income instruments in the market. Large borrowing programmed of the

government means huge issuances of debt paper in the market, thereby restricting increase in

bond prices and hence, reduced returns. 

Apart from fixed coupon papers, there are also floating rate papers which have a facility to reset

the coupon rate periodically. So these papers are protected against hike in interest rates but also,

when interest rates fall, such papers are more likely to be affected.  An ultra short-term or liquid

fund invests in Treasury Bills issued by the government as well as money market instruments

issued by financial institutions and corporate such as certificates of deposits and commercial

papers. The treasury bills and most money market instruments are not linked to the market and

hence, have low volatility. The taxation for non-equity schemes of mutual funds if the period of

holding is less than a year is as per your income slab. In case of long-term, the tax is 10%

without indexation and 20% with indexation so the net yield works out better than a fixed

deposit. Table 1 shows the historical performance of recommended funds.

Table 1: Annualized Performance of Recommended Funds

Fund Name Fund Class 1

year

2

year

s

3

year

s

5 years

HDFC FLOATING RATE

INCOME FUND LONG TERM

PLAN- GROWTH 

Debt - Floater  7.09 8.47 8.54 7.52

BSL FLOATING RATE LONG

TERM- GROWTH 

Debt - Floater  7.69 8.29       

8.41

7.58

TEMPLETON INDIA ULTRA

SHORT BOND FUND-

GROWTH 

Debt - Liquid

Plus / Ultra Short

Term 

4.66 6.73 - -

JM SHORT TERM FUND-

GROWTH 

Debt - Short

Term Plan 

5.04 10.6

9

10.3

5

8.61

RELIANCE SHORT TERM

FUND- GROWTH 

Debt - Short

Term Plan 

5.80 10.1

6

10.0

6

8.71

Inflation erodes Cash

During the crisis of 2008, investors moved out of equity into cash as they feared massive losses.

Cash as a part of overall asset allocation is good but biggest threat to cash holding is inflation.

RBI has termed the period of low inflation and robust growth - an almost “nirvana” like

situation. Table 2 shows that the inflation in India has been quite high over years. WPI stands for

Wholesale Price Index and CPI represents Consumer Price Index. Both indices are used as a

measure to understand the level of price rise in the economy.

For investors who are approaching retirement or a big expense such as marriage or home

purchase, rebalancing from equity to cash or fixed income is a prudent approach. However, if

you are unlikely to use the cash in the near future, then it is better to invest in one or the other

instrument. Or else, inflation will end up drastically reducing the value of money held as cash.

The actual return on your investment should be considered after taking into account the effect of

inflation.  On an average inflation rate of 7.5%, the impact of inflation can be negated only by

ensuring that your returns from investments give an average growth greater than 7.5%.

This information tries to share some trends which can impact your financial goals. Since a good

cash position is very comforting, you can invest wisely so that the investments mature in time to

supplement your financial needs. Also, one can en-cash the portfolio to book profits or rebalance

it for better yield.  The ideal scenario would be managing your short-term savings and aligning it

with your long-term investments.

Table 2: Inflation in India: Medium to Long-term

(%)

Decades  WPI CPI

1951-52 to 1960-61   1.9 2.1

1961-62 to 1970-71  6.2 6.5

1971-72 to 1980-81   10.3 8.3

1981-82 to 1990-91 7.1 9

1991-92 to 2000-01   7.8 8.7

2001-02 to 2008-09  5.2 5.3

Long-term Trend (1971-72 to

2008-09)

7.7 8.0

NSC/ FD VS Equity/ MF Comparison table

Investments

( Fixed Deposit/

National Savings

Certificate Vs

Diversified Mutual

Fund)

Amount in Rs

Investment F.D./ NSC Diversified Equity MF

Amount 10000 10000

Period 6 years 6 years

Maturity Value 15868.74 29859.84

Tax on Income/

Capital gains

1573.68 0

Inflation 4185.19 4185.19

Value of Inv after 5

Years

10109.87 25674.65

(post tax post inflation)

Difference (15564.78)

Rates Per annum

Inflation 6%

Rate of Interest on

F.D./NSC

8%

Rate of Return on MF 20% (Last five years average

40%)

Income Tax rate 30%

An old Axiom :

“It is not wise to put all eggs into one basket

……… was probably in

the minds of those who formed the first mutual fund.

Investing in equity also gives good returns, but the risk of losing the money is also very

high. To be on the safer side, it is good to invest in Mutual funds instead of investing in equities.

Before investing in mutual funds, we should analyze the performance of the mutual funds

through the ratings awarded by the mutual funds rating agencies.

Mutual fund investments can go on to fetch you the highest rates of returns and sometimes as

high as 20% to 40 %. The interest rates for all the mutual funds are quoted on a three month

basis. When you plan to invest in mutual funds, then you should analyze how they were

performing in the market for the past five years. This will give you a fair enough idea about the

way the mutual fund is being maintained and the profits that they have been posting. This will

also give an idea of the fund managers profile and level of expertise in generating returns.

The moment you are able to judge the best mutual funds and be in league with them, you will

certainly be able to diminish the risk that is involved with the mutual fund markets.

The Mutual funds that are performing well are floated by companies that have high profile fund

managers. They have enough cutting edges to be ranked right on top performing funds and are

doing well in the spheres of certain well defined criteria that have been preset to judge their

performance.

FINDINGS & SUGGESTIONS

Mutual funds are conglomerations of stocks and bonds and therefore

their prospectus depends on how well the individual investments are doing. Fees can of course

also make a difference and all related charges associated with a mutual fund must also be

considered. Fees for mutual funds are classified as end load, front load and no load. Through

proper research, you will become informed of what types of fees are involved and whether or not

they are worth what you can expect out of the investment.

At the very minimum, when investing in a mutual fund you should know the category of

investments it focuses on, the asset value, the management strategy, the risk level of the assets

involved, and the funds relationship with the overall stock market outlook. As long as you are

well versed in these areas, the rest is just icing on the cake as long as you have chosen a well

managed fund.

Considerations for mutual fund categories include goals and objectives, classification of

securities in the fund and likely return expected for each category. Of all the important factors

when choosing a mutual fund, category is likely the most important.

Research should be conducted using as long a history as is available. All financial instruments

fluctuate greatly from one day to another but the important thing is how they perform over the

long term. Try to couple this history with the time period you plan on investing since trends seem

to run ii n cycles. Just because a fund isn’t currently in the top 10% of earners doesn’t mean that

it’s not an extremely lucrative fund over the long term. Don’t forget to also check the individual

histories of the stocks or other instruments in which the fund is invested.

Like any investment, mutual funds require careful planning. Overall, the strategy is pretty much

the same regardless of what type of investment you are making, but due to their nature mutual

funds require a slightly different form of research.

There are several factors that distinguish mutual funds from other types of funds. Those factors

are:

The shares are purchased from the actual fund instead of from other investors via such

avenues as NSE or BSE.

The purchase price is the price per share plus any fees imposed by the fund at the time.

These are commonly referred to as shareholder fees.

When selling the shares, you are selling them back to the fund.

New investors are accommodated through the creation of new funds that can be sold to

them.

Investment advisors that are registered with the SEC are typically who takes care of

mutual funds.

Advantages and disadvantages to mutual funds:-

Diversification of your portfolio - This is important in investing because a diversified

portfolio has better earning potential.

They are affordable - There is a high degree of affordability when it comes to mutual

funds. Dollar amounts can be set low for purchases, giving lower income individuals the

ability to invest.

Managed professionally - There are professionals who are constantly monitoring the

performance of these mutual funds and always looking for the best investments for the

fund in order to maximize its return to its investors.

Liquidity - Investors are able to redeem their shares at the current NAV. This is in

addition to any fees or charges assessed at that time.

The advantages make it clear that a mutual fund can be a great investment, but like any type of

investment there are some disadvantages that come along with them as well. Those

disadvantages include:

There are annual fees, charges for sales, and other fees associated with them. It doesn't

matter how the fund performs. These costs still apply. Taxes also have to be paid on

gains. This refers to any distributions received even if the fund performed poorly.

Investors do not control their shares. The make-up of the portfolio is decided by the

manager of the fund.

There is uncertainty that surrounds the price of shares. It isn't like how you can follow

regular shares of stock in real-time during trading hours. There is a delay in you finding

out what your share is within a mutual fund since you are sharing the fund with other

investors.

If a investor opts for bank FD, which provide moderate return with minimal risk. But as he

moves ahead to invest in capital protected funds and the profit-bonds that give out more return

which is slightly higher as compared to the bank deposits but the risk involved also increases in

the same proportion.

Thus investors choose mutual funds as their primary means of investing, as Mutual funds

provide professional management, diversification, convenience and liquidity. That doesn’t mean

mutual fund investments risk free. This is because the money that is pooled in are not invested

only in debts funds which are less riskier but are also invested in the stock markets which

involves a higher risk but can expect better returns.

The Post offices provide a number of savings schemes like the Savings Account Schemes,

Recurring Deposit Schemes, Time Deposit Schemes, Public Provident Fund Schemes, Monthly

Income Schemes, National Savings Certificates, Kisan Vikas Patras, and Senior Citizens’

Savings Scheme. A brief of the various schemes is as follows:

SCHEME INTEREST PAYABLE,

RATES, PERIODICITY

ETC.

INVESTMENT

LIMITS AND

DENOMINATIONS

SALIENT FEATURES

INCLUDING TAX

REBATE

Post Office

Savings

Account

 

3.5% per annum on

individual/ joint accounts.

Minimum INR 50/-.

Maximum INR

1,00,000/- for an

individual account.

INR 2,00,000/- for

joint account.

Cheque facility

available.  Interest Tax

Free.

5-YearPost

Office

Recurring

Deposit

Account

Money doubles in 8 years & 7

months. Facility for premature

encashment.

Rate of interest 8.4%

(compounded yearly)

Minimum INR 10/-

per month or any

amount in multiples

of INR 5/-. No

maximum limit.

One withdrawal upto

50% of the balance

allowed after one year.

Full maturity value

allowed on R.D.

Accounts restricted to

that of INR. 50/-

denomination in case of

death of depositor

subject to fulfillment of

certain conditions. 6 &

12 months advance

deposits earn rebate.

KisanVikas

Patra

Money doubles in 8 years & 7

months. Facility for premature

encashment.

Rate of interest 8.4%

(compounded yearly)

No limit on

investment. Available

in denominations of

INR. 100/-, INR.

500/-, INR. 1000/-,

INR. 5000/-, INR.

10,000/-, in all Post

Offices and INR.

50,000/- in all Head

Post Offices.

A single holder type

certificate may be issued

to an adult for himself or

on behalf of a minor or

to a minor, can also be

purchased jointly by two

adults.

Post Office

Time

Deposit

Account

Interest payable annually but

calculated quarterly.

Period          Rate

1 yr. A/c      6.25%

2 yr. A/c      6.50%

3 yr. A/c      7.25%

5 yr. A/c      7.50%

Minimum INR 200/-

and in multiple

thereof. No

maximum limit.

Account may be opened

by individual. 2,3 & 5

year account can be

closed after 1 year at

discount. Account can

also be closed after six

months but before one

year without interest.

The investment under

this scheme qualifies for

the benefit of Section

80C of the Income Tax

Act, 1961 from 1.4.2007.

Post Office

Monthly

Income

Account

8% per annum payable i.e.

INR 80/- will be paid every

month on a deposit of INR

12000/-.

In multiples of INR

1500/- Maximum

INR 4.5 lakhs in

single account and

INR 9 lakhs in joint

account.

Maturity period is 6

years. Can be

prematurely encashed

after one year but before

3 years at the discount of

2% of the deposit and

after 3 years at the

discount of 1% of the

deposit. (Discount means

deduction from the

deposit.) A bonus of 5%

on principal amount is

admissible on maturity in

respect of MIS accounts

opened on or after

8.12.07.

National

Savings

Certificate

(VIII issue)

8% Interest compounded six

monthly but payable at

maturity. INR. 100/- grows to

INR 160.10 after 6 years.

 

Minimum INR. 100/-

No maximum limit

available in

denominations of

INR. 100/-, 500/-,

1000/-, 5000/- &

INR. 10,000/-.

A single holder type

certificate can be

purchased by an adult for

himself or on behalf of a

minor or to a minor.

Deposits quality for tax

rebate under Sec. 80C of

IT Act.

The interest accruing

annually but deemed to

be reinvested will also

qualify for deduction

under Section 80C of IT

Act

Senior

Citizens

Savings

Scheme

9% per annum, payable from

the date of deposit of 31st

March/30th Sept/31st

December in the first instance

& thereafter, interest shall be

payable on 31st March, 30th

June, 30th Sept and 31st

December.

There shall be only

one deposit in the

account in multiple

of INR.1000/-

maximum not

exceeding rupees

fifteen lakhs.

Maturity period is 5

years. A depositor may

operate more than a

account in individual

capacity or jointly with

spouse.  Age should be

60 years or more, and 55

years or more but less

than 60 years who has

retired on

superannuation or

otherwise on the date of

opening of account

subject to the condition

that the account is

opened within one month

of receipt of retirement

benefits. Premature

closure is allowed after

one year on deduction of

1.5% interest & after 2

years 1% interest. TDS is

deducted at source on

interest if the interest

amount is more than INR

10,000/- p.a.  The

investment under this

scheme qualifies for the

benefit of Section 80C of

the Income Tax Act,

1961 from 1.4.2007.

Sec 80C benefit: Investments up to INR 1 lakhs in specified securities (maximum of INR 70,000

in PPF) qualify for deduction

         Compounded half-yearly

         Compounded yearly

         Compounded quarterly

         Payable quarterly 

There is a great option to put your money into and have liquidity as

well as earn good returns too also. Best choice is a liquid mutual fund.

Liquid mutual funds are open ended debt mutual funds. There is zero entry or exit load. They are

safe options as they are not invested into equity or markets. These are best place to invest for

short periods of time (even for 1-2 days). Also they give better returns than FDs and savings

bank account.

Whenever, you need money back, just redeem the funds and amount will be back in your account

in max 2 business days.

How much income tax one need to pay on returns from liquid mutual fund: In case of a liquid

fund with dividend option, dividends declared by mutual funds units are exempt from tax in the

hands of recipients. Dividend distribution tax of 22.06% is paid by the fund and is adjusted in the

net asset value (NAV) of fund.

Some best performing Liquid mutual fund:

LIC LIQUID FUND – GROWTH PLAN

HDFC Liquid Fund – Growth

Birla Cash Plus – Retail – Growth

HDFC Cash Management Fund – Saving Plus – Growth

Magnum Insta Cash Fund Liquid Floater Plan – Growth

HDFC Cash Management Fund-Savings-Growth

There are two types of these short terms debt funds available, Liquid and Liquid Plus.

Now question come to mind, how they differ and when to invest in which one.

Liquid plus funds holds investments for a longer period than liquid funds. So people investing in

liquid plus should hold for longer duration than liquid ones. Investors who need liquidity should

go for liquid funds. Some of the liquid plus funds may have an exit load. But there is no entry

load on liquid funds. Liquid Plus funds are a bit riskier than liquid funds as they hold

investments for a longer duration and also there is no limit on market-to-market components but

liquid funds has 10% limit on it. A dividend distribution tax of 28.33% is charged on liquid

funds, whereas 14.16% is charged for liquid plus funds.

BIBILIOGRAPHY