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Drumbeat: Ad Buzzaar
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Monday, August 17, 1998
Investigate before investing in a mutual fund
Shailendra Saxena
``Mutual funds cast their nets wide by investing in various companies across diverse industries. Thus, by not putting all eggs in one basket, they aim to maximise returns while minimising risk.... They offer the advantage of professionals managing your money; and the funds are usually liquid. Additionally, you benefit from the convenience of not having to bother about paperwork or repeated transactions. Mutual funds vary in their investment objectives, thus providing you the flexibility to create an investment plan.'' -- From a Templeton Mutual Fund advertisement It is indeed true that mutual funds offer several advantages to individual investors and that's why they have been gaining in popularity in recent years. But it is also true that several, in fact lakhs, of investors have lost money in the country by investing in some mutual funds -- especially in Equity linked tax saving schemes, apart from some other schemes like the Taurus Mutual Fund and the Morgan Stanley Growth Fund, etc. To thoseinvestors who have lost money seemingly cogent explanations of out performing different stock market indices do not mean much. Nevertheless, to get a complete perspective we should examine the merits and demerits of mutual funds with an open mind. For example, equity research by professionals working for mutual funds is indeed quite useful but after a point the law of diminishing returns sets in. This is quite expected as stock investing has not yet become a science. It remains a combination of art and science. Some other points pertaining to mutual funds are given below: Nowadays, dividends on shares are exempt from any income tax liability in the hands of shareholders. Unlike shares, dividends paid by mutual fund schemes are not completely free from income tax liability Mutual fund schemes do achieve a good deal of diversification and consequently downside risk gets reduced. For individual investors -- particularly small investors with small investible resources at their disposal -- it isdifficult to match the level of diversification which mutual funds can achieve for small investors. For instance, investors in UTI's UGS 10000 Scheme will be investing, through this scheme, in a diversified portfolio of multinational stocks. Multinationals stocks, it is pertinent to note, are often expensive which makes it very difficult for individual investors to build a diversified portfolio of such stocks. Diversified portfolio is good from the point of view of reducing the risk element. Diversification also means that returns at best can be moderate and spectacular returns should not be expected. Returns can, however, be enhanced by buying closed ended mutual fund units which are available at a discount to their Net Asset values (NAVs) in the market. For example, UTI Mastershare, Mastergrowth and Conbonus (till recently) present such opportunities before investors. Equity oriented close ended growth funds launched at a time when markets are heated may not do well. In the absence ofan effective exit route, mutual fund units may trade at discounts to their NAVs (e.g. Mastershare, Masterplus, Mastergrowth and possibly UTI Master Value in future). In the case of open ended funds ``sales load'' may be there while repurchases may be at a discount to NAV. Mutual funds are often able to economise on their transaction costs, their transactions being in bulk. But they charge fund management fees. This reduces NAV. Certain other charges may also be levied. For example, in some UTI schemes, some of the funds (very small percentage) are diverted to UT's ``Development Reserve Fund'' and also a nominal percentage to a fund meant for its employees' welfare. In India the individual fund managers and their track records are not well known to investors. This, too, poses some problems before investors in anticipating performance of a fund as fund managers play an important role in managing mutual funds. Apart from diversification and professional management, problems of bad deliveryare not faced if one invests in mutual funds. Open ended mutual funds also enable investors to buy and sell units any time, thereby increasing liquidity. Problems associated with odd lot trading are also reduced considerably for mutual fund investors.Thus we find that mutual funds, on the whole, offer several advantages to investors in general, and small investors in particular. But there are some limitations of mutual funds, too. Just as investors should be choosy and discerning while buying scrip of any particular company directly from the market, they should not think that all mutual funds and their schemes are alike. Investors should look at the track record of the mutual fund under consideration, track record of the fund manager (if possible) and objectives of the particular scheme. Other aspects like availability of an exit route, state of the market at the time of launch of the scheme and specific service standards promised (like maximum time to be taken in mailing repurchase/redemption proceed)should be looked at carefully before deciding to invest in any particular scheme of any mutual fund. Copyright © 1998 Indian Express Newspapers (Bombay) Ltd.
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