Choosing the right funds—and trusting your decisions enough to back them with your money—is challenging. To keep from getting overwhelmed, be sure you understand what you want for your money (protection, income, growth), then look only at the funds that aim for the same thing. But where can you look for information?
Look at the fund prospectus
The prospectus is essentially the user's manual for a mutual fund. It has the reputation of being dense and complicated to read, but recent changes in regulations have required funds to make every prospectus much simpler, especially in the key areas of understanding performance and expenses. Simply looking at the charts and tables in the first few pages will tell you a lot you need to know.
What's in a prospectus? The SEBI requires every fund to publish a prospectus and update it annually. It covers all of the important elements, such as the history, management, financial condition, performance, expenses, goals, strategies, types of allowable investments, and policies.
Performance: Each fund must tell you how much it has increased or decreased in value in each of the past 10 years (or for every year of its existence, if shorter). This is labeled in the prospectus as "performance" or as "annual total return." Fund performance is required to be shown against a relevant industry benchmark, a performance measure used by the industry of how the market segment has performed as a whole compared to the investments in that segment held by the fund. Typically, the benchmark will be an "index" for that category.
Average annual return: While every fund has to show its annual performance, every fund also must to tell you its average return on a yearly basis. Average annual return is important because it keeps funds from promoting their best years and ignoring their worst years. It takes the total returns for each year and averages them across the number of years the fund has been in existence.
Fees and expenses: The prospectus will tell you if a fund charges a sales charge or is a "no-load" fund, meaning that there is no up-front sales charge. All funds charge management fees and expenses, which will be described in the prospectus.
Use independent rating services
Independent rating services: often provide a convenient way to find out information about a fund very quickly. These services typically provide you with a rating or ranking of a fund based on its performance relative to its broader peer group, as well an opinion about a fund's management team and operations. When you subscribe to a service, you may get access to a wide range of information and services, depending on your subscription level. Tools and resources typically include access to fund ratings or rankings, computer-based guides, educational materials, and monthly and quarterly newsletters.
Risks
Because mutual funds typically hold a large number of securities, their level of diversification provides them with a lower level of risk than investing in a single stock or bond.
However, investing in mutual funds still contains a number of risks that you should consider before investing, including:
You could lose money, Your money may lose buying power, You may not achieve your goal, Your investment may rise and fall in value Other risks You could lose money
Every mutual fund prospectus will highlight this point. It's the most obvious and feared risk of investing. There are, however, many strategies for managing this risk, particularly over the long term.
Your money may lose buying power
This risk is also known as inflation risk: as prices increase, your investments must increase in value at least at the same pace, or you'll lose purchasing power.
You may not achieve your goal:
Probably the biggest, yet most overlooked risk of investing, is the risk of not achieving your goal. It's probably overlooked so often because so few investors actually set goals, and many others set unrealistic goals. Furthermore, many investors don't buy the right investments to help them achieve their goals. This type of risk is often called shortfall risk (falling short of your goal). For example, if you are investing to pay for a future college education, a money market fund might feel safe. But it's highly unlikely that you'll reach your goal.
Your investment may rise and fall in value : Almost all investments have the potential to gain and lose value. This is known as market risk. In other words, the price of any investment, whether it's stocks, bonds, mutual funds, or any other, is likely to rise and fall over time. Seasoned investors tend to ignore the relatively small price movements in their investments, preferring to try and capture the more significant fluctuations they can better anticipate. If you invest for longer periods of time, market risk may become less dangerous to you. That's because, over the long-term, most investments tend to rise in price. Market risk, however, can place investors at a significant disadvantage if they are forced to sell at a time when prices happen to be down.
Foreign exchange or currency risk:
If you invest overseas, the exchange rate between your home currency and the foreign currency adds an extra layer of risk to your investment. The stock or bond you buy may go up, but the exchange rate may go down so far that it wipes out your gain.
The halo effect : When something wonderful happens to one stock in an industry, many of the others in that industry may also enjoy a rise. This is known as the Halo Effect. But it also occurs in reverse, taking value out of perfectly good investments just because they are linked in the minds of investors to another investment that is experiencing a problem.
Sunday, January 6, 2008
What are Mutual Funds?
A mutual fund is a pool of money that is professionally managed for the benefit of all shareholders. As an investor in a mutual fund, you own a portion of the fund, sharing in any increases or decreases in the value of the fund. A mutual fund may focus on stocks, bonds, cash, or a combination of these asset classes.
The beauty of mutual funds:
Mutual funds offer a number of advantages, including diversification, professional management, cost efficiency and liquidity.
Diversification : A mutual fund spreads your investment Rupees around better than you could do by yourself. This diversification tends to lower the risk of losing money. Diversification usually results in lower volatility, because when some investments are doing poorly, others may be doing well.
Professional management : Many people don't have the time or expertise to make investment decisions. A mutual fund's investment managers, however, are trained to search out the best possible returns, consistent with the fund's strategies and goals. In essence, your mutual fund investment brings you the services of a professional money manager.
Cost efficiency : Putting your money together with other investors creates collective buying power that may help you achieve more than you could on your own. As a group, mutual fund investors can buy a large variety and number of specific investments. They can also afford to pay for professional money managers and fund operating expenses, where they wouldn't be able to afford it on their own.
Liquidity : With most funds, you can easily sell your fund shares for cash. Some mutual fund shares are traded only once a day at a fixed price, while stocks and bonds can be bought or sold any time the markets are open at whatever price is then available.
Buying shares :
You can buy shares a few different ways, depending on the rules of the particular fund. Funds are often described as either being "no-load" or "load" funds, depending on whether or not they charge a sales commission.
No-load funds: Many funds are no-load funds that charge no (or a very low) sales fee or commission. Financial companies typically sell no-load funds directly to investors in places like newspapers and magazines. In this case, you complete all the paperwork yourself.
Load funds: These funds charge a sales fee or commission for purchases. Some funds charge the fee when you buy shares; others charge when you sell them. Brokerage firms and banks often sell load funds, and will help process any paperwork.
There are reputable, high-performing funds in both categories. Because sales charges reduce your return, we believe that investors should consider no-load funds whenever possible.
Funds typically give you two ways in which to invest:
Lump sum: You can invest any amount you want at one time, as long as you meet the minimum requirements of that fund. Some funds have no minimum for opening an account or no minimum for additional share purchases, while others do.
Automatic investment: Most funds offer plans that allow you to transfer set amounts on a regular basis automatically from your bank account or paycheck. This is a great way to save money on a routine basis.
With automatic investing, you get the benefits of rupee cost averaging. That is, when you make regular investments in a mutual fund, such as investing 1000 Rs/- every month, you can take advantage of both the ups and downs of the market. When the market is down, your monthly investment typically buys you more shares of the fund, helping to increase your ownership in the fund. When the market is up, your monthly investment typically buys you fewer shares of the fund, helping you avoid buying too many shares at higher prices. Over a long period of time, the end result is that the average cost of your fund shares is lower than the average price of the fund shares during the same period.
Exchanging and selling shares
Many funds allow you to make free exchanges of your shares for shares of another fund owned by the same fund company. Typically, there is a limit to the number of free exchanges you can make. Be aware that even though an exchange may be free, there may be tax consequences associated with it.
To sell shares, you either call the fund directly if you have a no-load fund, or have your broker or bank officer do it if you have a load fund. Typically, you are given the option to have the proceeds deposited into your account or sent directly to you by check or wire. Some funds will charge you a fee if you don't keep the fund shares for a minimum amount of time (e.g., 90 or 180 days).
Share price:
The value of a mutual fund share is calculated based on the value of the assets owned by the fund at the end of every trading day. Here is how it works:
The fund calculates the value: A share's value is called the Net Asset Value (NAV). The fund calculates the NAV by adding up the total value of all of the securities it owns, subtracting the expenses of the fund, and then dividing by the number of shares owned by shareholders like you.
Value changes daily: Since the value of the stocks or bonds owned by the fund can change daily, the value of the fund can also change daily. Therefore, a fund is required by law to adjust its price once every trading day to provide investors with the most current NAV.
How many shares you own: To see the value of your investment, you take the value of one share and multiply it by the number of shares you have in the fund. Or, if you are considering investing say 1,000 Rs/- in the fund, you would divide that money by the value of one share to see how many shares that 1,000 Rs/- would give you. While you cannot buy a fraction of a share of stock, you can own a fraction of a mutual fund share, if the amount you invest does not divide evenly by the NAV.
Earning money :
Once your money is in a fund, it can provide you with earnings in three ways. They are discussed in the following sections.
Appreciation: The value of a fund share can appreciate or go up in value. (Of course, it can also go down in value.) When the total value of the securities owned by the fund rises, the value of your fund shares rises with it. Again, the reverse is also true.
Dividends: If the fund receives dividends from stocks, interest from bonds, or other investment income, it distributes those earnings to shareholders as a dividend according to the terms outlined in its prospectus. Depending on the fund, these distributions can be monthly, quarterly, or annually.
Capital gain distributions: Every time the fund manager sells securities at a profit, the fund earns capital gains. Funds are required to distribute these gains to the shareholders at regular intervals, typically once or twice a year. You can choose to have the fund automatically reinvest the money in more fund shares, keep it as cash in your account, or send the money to you.
Please feel free to discuss about your question in the comments section.
The beauty of mutual funds:
Mutual funds offer a number of advantages, including diversification, professional management, cost efficiency and liquidity.
Diversification : A mutual fund spreads your investment Rupees around better than you could do by yourself. This diversification tends to lower the risk of losing money. Diversification usually results in lower volatility, because when some investments are doing poorly, others may be doing well.
Professional management : Many people don't have the time or expertise to make investment decisions. A mutual fund's investment managers, however, are trained to search out the best possible returns, consistent with the fund's strategies and goals. In essence, your mutual fund investment brings you the services of a professional money manager.
Cost efficiency : Putting your money together with other investors creates collective buying power that may help you achieve more than you could on your own. As a group, mutual fund investors can buy a large variety and number of specific investments. They can also afford to pay for professional money managers and fund operating expenses, where they wouldn't be able to afford it on their own.
Liquidity : With most funds, you can easily sell your fund shares for cash. Some mutual fund shares are traded only once a day at a fixed price, while stocks and bonds can be bought or sold any time the markets are open at whatever price is then available.
Buying shares :
You can buy shares a few different ways, depending on the rules of the particular fund. Funds are often described as either being "no-load" or "load" funds, depending on whether or not they charge a sales commission.
No-load funds: Many funds are no-load funds that charge no (or a very low) sales fee or commission. Financial companies typically sell no-load funds directly to investors in places like newspapers and magazines. In this case, you complete all the paperwork yourself.
Load funds: These funds charge a sales fee or commission for purchases. Some funds charge the fee when you buy shares; others charge when you sell them. Brokerage firms and banks often sell load funds, and will help process any paperwork.
There are reputable, high-performing funds in both categories. Because sales charges reduce your return, we believe that investors should consider no-load funds whenever possible.
Funds typically give you two ways in which to invest:
Lump sum: You can invest any amount you want at one time, as long as you meet the minimum requirements of that fund. Some funds have no minimum for opening an account or no minimum for additional share purchases, while others do.
Automatic investment: Most funds offer plans that allow you to transfer set amounts on a regular basis automatically from your bank account or paycheck. This is a great way to save money on a routine basis.
With automatic investing, you get the benefits of rupee cost averaging. That is, when you make regular investments in a mutual fund, such as investing 1000 Rs/- every month, you can take advantage of both the ups and downs of the market. When the market is down, your monthly investment typically buys you more shares of the fund, helping to increase your ownership in the fund. When the market is up, your monthly investment typically buys you fewer shares of the fund, helping you avoid buying too many shares at higher prices. Over a long period of time, the end result is that the average cost of your fund shares is lower than the average price of the fund shares during the same period.
Exchanging and selling shares
Many funds allow you to make free exchanges of your shares for shares of another fund owned by the same fund company. Typically, there is a limit to the number of free exchanges you can make. Be aware that even though an exchange may be free, there may be tax consequences associated with it.
To sell shares, you either call the fund directly if you have a no-load fund, or have your broker or bank officer do it if you have a load fund. Typically, you are given the option to have the proceeds deposited into your account or sent directly to you by check or wire. Some funds will charge you a fee if you don't keep the fund shares for a minimum amount of time (e.g., 90 or 180 days).
Share price:
The value of a mutual fund share is calculated based on the value of the assets owned by the fund at the end of every trading day. Here is how it works:
The fund calculates the value: A share's value is called the Net Asset Value (NAV). The fund calculates the NAV by adding up the total value of all of the securities it owns, subtracting the expenses of the fund, and then dividing by the number of shares owned by shareholders like you.
Value changes daily: Since the value of the stocks or bonds owned by the fund can change daily, the value of the fund can also change daily. Therefore, a fund is required by law to adjust its price once every trading day to provide investors with the most current NAV.
How many shares you own: To see the value of your investment, you take the value of one share and multiply it by the number of shares you have in the fund. Or, if you are considering investing say 1,000 Rs/- in the fund, you would divide that money by the value of one share to see how many shares that 1,000 Rs/- would give you. While you cannot buy a fraction of a share of stock, you can own a fraction of a mutual fund share, if the amount you invest does not divide evenly by the NAV.
Earning money :
Once your money is in a fund, it can provide you with earnings in three ways. They are discussed in the following sections.
Appreciation: The value of a fund share can appreciate or go up in value. (Of course, it can also go down in value.) When the total value of the securities owned by the fund rises, the value of your fund shares rises with it. Again, the reverse is also true.
Dividends: If the fund receives dividends from stocks, interest from bonds, or other investment income, it distributes those earnings to shareholders as a dividend according to the terms outlined in its prospectus. Depending on the fund, these distributions can be monthly, quarterly, or annually.
Capital gain distributions: Every time the fund manager sells securities at a profit, the fund earns capital gains. Funds are required to distribute these gains to the shareholders at regular intervals, typically once or twice a year. You can choose to have the fund automatically reinvest the money in more fund shares, keep it as cash in your account, or send the money to you.
Please feel free to discuss about your question in the comments section.
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