amfi presentation slides 1

7/30/2019 AMFI Presentation Slides 1

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Welcometo

AMFI Mutual Fund Testing Program

Duration2 days


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Chapter 1

THE CONCEPT AND

ROLE OF MUTUAL

FUNDS


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MUTUAL FUNDS OPPOTUNITY

Most Appropriate investment opportunity for smallinvestors.

Birth of Mutual Funds U.S.A.Good Alternative to Direct Investing.

Size in USA > Bank Deposits.

Financial Intermediary.

UTI only player between 1964-87.

Helps in the growth of Capital Markets.


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A common pool of money into whichinvestors place their contributions to beinvested in accordance with a statedobjective.

The ownership of the fund is joint or mutual

The fund belongs to all investors

Ownership is proportionate to contributionmade by one

Concept of a Mutual Fund


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Portfolio Diversification

Professional Management

Reduction / Diversification of Risk

Liquidity

Flexibility & Convenience

Reduction in Transaction cost

Safety of regulated environment

Advantages of Investing through Mutual Funds

over Direct Investments


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Disadvantages of Investing through

Mutual Funds over Direct Investments

No Control over Cost

No Tailor-made Portfolios

Managing a Portfolio Funds


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Phase 1 (1964-87) : Growth of UTI.AUM FROM Rs 600 Crin 84 Grew To Rs6700 Cr in 88.

Phase 2 (1987-93) : Entry of PSU Banks and FinancialInstitutions MFs. AUM RS

47004 CRS.

Phase 3 (1993-96) : Emergence of Private Sector Mutual

Funds.

Joint Ventures between ForeignFunds & Indian Promoters

resulting in innovations in- Investment Management

Techniques, - Investor

ServicingTechniques

History of Mutual Funds


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Phase 4 (1996-99) : SEBI Regulations forInvestors Protection

Phase 5 (1999-2004) : UTI Act 1963 repealed in Feb 2003

UTI Mutual Fund becomes SEBIcompliant

Assured Return Schemes of UTItaken over by a specialundertaking administered by GOIEmergence of large & uniform

industry

Phase 6 (2004 onwards): Consolidation & Growth

29 Mutual Funds as at 31-03-06

History of Mutual Funds


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Industry Structure

Public Sector MFsPrivate Sector MFsUTI

Indian Private Sector

Funds

JV with Foreign Funds Foreign MFs

Industry Profile


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Assets under Management (Rs. in Crs)

As at UTI PublicSector

PrivateSector

Total

31/3/99 53,320 8,292 6,860 68,472

31/3/01 58,017 6,840 25,730 90,587

31/3/04 - 34,624 1,04,992 1,39,616

31/3/06 - 50,348 1,81,514 2,31,862


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Types of Mutual Fund

Mutual Funds can be classified as:

Close ended / Open-ended Funds

Load Fund / No-Load Funds

Tax-exempt / Non-Tax exempt Funds


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Close Ended FundsClose Ended Fund:

Initial Public Offer

Investor cannot buy units later on from MF

Get listed on the Stock ExchangeTraded on Stock exchange at a discount/premiumto NAV

Redemption of Units on expiry date

Unit Capital ConstantClose ended funds may allow buy back of unitsoption


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Open Ended Funds

Open Ended Fund:

Units available for sale / purchase at all times at

NAV based prices

Unit Capital variable

Fresh subscriptions may be discontinued

Any time redemptions always allowed, exceptwhen there is lock in period.


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Load FundsLoad is one time fee payable by the investor whenthey enter / exit an open-ended scheme.

Loads are charged to recover initial issue expenses

including marketing & selling expenses, brokerage,advertising costs. Such Expenses not to exceed 6%.

SEBI prescribes ceiling on Recurring Expenses.There can be Entry load or Exit load or bothEntry load is also called Front-end load.Exit load is also called Back-end load or Deferred load


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No Load Funds & Impact of Loads

In a No load fund, marketing and selling expenses areabsorbed by the AMC and the investor buys and sells unitsat NAV price

Return on investment to the investor is reduced becauseof the loads

When the investor buys a unit from the MFs, he paysmore than NAV

(NAV + entry load)

When the investor sells the unit to the MF, he gets less

than NAV

(NAV exit load)


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Example on Loads and ReturnsDate Action NAV (Rs) Entry Load Exit Load

1/1/1999

31/12/1999

Entry

Exit

11.00

12.00

2%

-

-

1%

ROI with Loads

Amount invested = 11 + 0.22 = 11.22 Rs.

Amount received = 12 0.12 = 11.88 Rs.

Gain = 0.66 Rs.ROI = (0.66 x 100) /11.22 = 5.88%


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ROI without loads

Amount invested = 11 Rs.

Amount received = 12 Rs.

Gain = 1 Rs.

ROI=(1 x 100) /11 = 9.09%

Example on Loads and Returns


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Contingent Deferred Sales Charge

(CDSC) Exit Charge may vary depending upon the holding period. If Exit Charge varies with the holding period it is called

Contingent Deferred Sales Charge (CDSC) and it may vary asshown under.

Redemption during the first five years from the date of purchase

First Year Maximum CDSC 4%

Second Year Maximum CDSC 3%

Third Year Maximum CDSC 2%

Fourth Year Maximum CDSC 1%Fifth Year Nil


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Mutual Funds classified as per

Class (Nature) of InvestmentsEquity Funds

Bond Funds

Money Market Funds


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Growth Funds

Income Funds

Value Funds

Mutual Funds classified as per Investment Objectives


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High Risk Funds

Moderate Risk Funds

Low Risk Funds

Mutual Funds classified as per Risk Profiles


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Risk Return Hierarchy of Different Funds

Risk High

Risk Low MMMF

Gilt Funds

Debt Funds

Balanced Funds

Index Funds

Diversified Equity Funds

Sector Funds

Low return High return


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Invest in securities of less than 1 yearmaturity

High liquidity &safety of principal

Low risk and low returns

Money Market Funds


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Gilt Funds

Invest only in Government Securities of over1 year maturity

Risk and return low but higher than that ofMMF

No default risk but carry interest rate risk

Fund values drop when interest rates go up &rise when interest rates go down


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Debt Funds & TypesInvest in Corporate Bonds and Government

Securities

Risk higher than that of Gilt Funds

Aims at regular income distribution and not at

capital appreciation

Types of Debt Funds:

- Diversified Debt Funds- Focused Debt Funds

- High yield Debt Funds

- Assured return Debt Funds

- Fixed Term Plan Series


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Equity Funds & TypesInvest in Equity and Equity relatedinstruments

High risk and aim at Capital appreciation

Types of Equity Funds Aggressive Growth Funds Growth Funds

Value Funds

Specialty Funds: Sector Funds, Foreign Securities Funds,

Mid-Cap or Small-Cap Equity Funds,


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Diversified Equity Funds

ELSS Funds

Equity Index Funds

Equity Income or Dividend Yield Fund

Equity Funds & Types


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Types of Hybrid Funds

Balanced Funds: Seek to provide regularincome & Capitalappreciation

Growth & Income Funds: Seek to provide

High dividend andCapital appreciation

Asset Allocation Funds: Flexible asset allocationbetween Debt, Equity &MM


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Other Funds

Commodity Funds : Invest in commodity stocks

Real Estate Funds : Invest in stocks of real estate

companies

Exchange Traded Funds : Trade like a single

stock on the stock

exchange

Fund of Funds : Invest in other Mutual

Fund Schemes


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EXCHANGE TRADED FUNDSIt tracks the market index & trades like a singlestock.

Unlike Index Funds, unit price varies during the dayas per market movements.

ETFS are bought & sold through market makers whogive a two way quote. (Ask & Bid ).

Benefit of holding a single share & diversification &cost efficiency of an index.

Market makers allow exchange of units for theunderlying shares.


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Fund of Funds.

Fund of Fund invest in other mutualfund schemes of the same AMC/other

AMCS.

It does not invest directly in CapitalMarkets.

Greater Diversification.

Higher Expenses.


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Chapter 2

FUND STRUCTURE AND

CONSTITUTENTS


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Mutual Fund StructureMutual Funds in U.S are setup as investmentcompanies

Mutual Funds in U.K are either Unit Trusts (Trust)or Investment Trust (Companies)

Mutual Funds are Public Trusts under the IndianTrusts Act, 1882

Mutual Fund is a 3 tier structure:Sponsor,

Trustee and

AMC


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Mutual Funds investin Capital market instruments

on behalf of investors

All gains and losses of funds are shared bythe unit holders

MF is a pass-through structure and it hastax implications

Mutual Fund Structure


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Constituents of a Mutual Fund

1. Sponsor

2. Trustees

3. Asset Management Company

4. Custodian / Depository Participant

5. R & T Agent

6. Distributors

7. Banker


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Role of Sponsor

Sponsor is a person who sets up a Mutual FundSponsor settles the Trust and executes TrustDeed

Sponsor contributes to the initial capital of theTrust

Sponsor appoints the Board of Trustees

Sponsor appoints Asset Management Company

Sponsor contributes minimum 40% of networth of AMC


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Who can be a Sponsor?

Criteria of a Sponsor are

Positive net worth

Minimum 5 years track record

History of positive After Tax Profit for 3 out of 5 yearsincluding fifth year

Net Worth more than Contribution for AMC

Fit and Proper person


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Board of Trustees & RoleTrustees appointed by the Sponsor with SEBI approvalAt least two third Trustees must be Independent

The Trustees have a FIDUCIARY responsibilitytowards unit holders

Trustees not liable for acts done ingood faith and ifthey have exercised adequate due diligence

Trustees oversee the functioning of AMC

Trustees approve each MF scheme floated by AMC

The investments in MFs are held by the Trustees

Trustees receive fees for their services.

Obligation to undertake General & specific duediligence.


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Who can be a Trustee

Eligibility Conditions :

Person of high repute and integrity

Not guilty of moral turpitude

Not convicted for economic offence under

securities laws

Not a part of AMC eg. Director, Employee or

Officer of AMC

One can be Trustee of two MFs if approved

by Board of Trustees of both the Mutual

Funds.


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Asset Management Company

Constituted as a Company under the Indian

Companies Act

Minimum Net worth of Rs. 10 crores for AMCMinimum contribution of sponsor: 40% of share

capital of AMC

At least 50% of Directors of AMC to beindependent


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AMC can do only the following businesses

Asset Management Services

Portfolio Management Services

Portfolio Advisory Services

AMC can be terminated/changed with the

consent ofMajority of Trustees or

At least 75% majority of Unit holders

Asset Management Company


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Role of AMC

AMC is the Fund Manager for managing Mutual FundAssets

AMC floats different MF schemes

AMC accountable to the Trustees

AMC charges Asset Management Fees subject toceiling prescribed by SEBI.

Asset Management Agreement between AMC andTrustee


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Obligations of AMC

Limit of 5% of aggregate purchase and salesof Securities under all its scheme per brokerper quarter

As far as possible AMC to avoid services of

its sponsor.All Security transactions with a Sponsor andhis associates to be disclosed

Disclosure of transactions with a companywhich has invested more than 5% of NAV inany scheme


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Custodian / Depository

ParticipantCustodian / DP:

Appointed by Board of Trustees

Keep record & account of Securities /Investments

Collects benefits under Securities

Sponsor & Custodian / DP cannot be the

same entityRegistered with SEBI


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Registrar & Transfer Agent

Registrar & Transfer Agent:

Issues, redeems, transfers units of MF

schemes

Keeps Unit Holders A/cs upto date

Registered with SEBI


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Merger of two AMCs

Merger of 2 AMCs:

Approval of Trustees of both AMCs required

SEBI approval required

Approval of High Court also required

Unit holders are informed and given option to exitwithout load


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Take Over of AMC / Scheme of AMC

Take over of AMC by new SponsorTrustees approval required

SEBI clearance required

Unit holder to be informed

Merger of two schemes of different AMCs

Scheme of one Mutual Fund taken over by anotherMutual Fund

Trustees approval required

SEBIs approval required

Unit holders to be informed


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Chapter 3

LEGAL & REGULATORY

FRAMEWORKS


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Regulators in IndiaSEBI is Capital Market Regulator with legal powers

SEBI regulates Mutual Funds.

All Mutual Funds to be registered with SEBI

RBI is Money Market Regulator

SEBI is regulator for Liquid Funds Investing in MM instruments

MOF supervisory body for RBI & SEBI

Security Appellate Tribunal setup in 2003 to hear appeal against SEBI

decisions

Registrar of Companies(ROC) ensures compliance by AMC & by

Trustee Company with the Indian Companies Act 1956

ROC supervised by Department of Company Affairs (DCA)


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Regulators in India

DCA frames and modifies regulations relating to thecompanies

DCA is a part of Company Law Board

CLB is a part of Ministry of Law and JusticeCompany Law Board carries out judicial proceedings

for offences under Companies Act

Mutual Fund Trustees accountable to Public Trustees

Public Trustee reports to Charity Commissioner

UTI set up under UTI Act 1963


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Self Regulatory OrganisationsSROs are second tier in the regulatory structure

SRO is an association of Market Participants

Approval of SRO given by MOF

All Stock Exchanges are SROs and are supervised bySEBI

Close Ended Funds listed on SE observe listing

Agreement Requirements of SEs

AMFI was incorporated in 1995 and is not an SRO

Role of AMFI

To promote interest of MFs & Unit HoldersTo set ethical, commercial & professional standards

To increase public awareness of MF industry


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Role of AMFITo promote interest of MFS & unit holders.

Interact with the Regulator.

To create public awareness.To set ethical, commercial & business standards.

To promote best business practices and formulatecode of conduct for persons engaged in the activities

of MF and for the AMCS.To implement the certification programme.


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Investors Rights & Obligations

Right of proportionate beneficial ownership

Right to timely service

Right to information eg. NAV Calculation, Unit Pricing

Right to approve changes in fundamental attributes of

the scheme

Right to wind up a close ended scheme with 75%

majority of unit holdersRight to terminate the AMC with 75% majority of unit

holders


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Investor Rights to Services

Investor to be informed about change infundamental attributes of the scheme eg. from NoLoad fund to Load fund or change in Pricingnorms for purchase/sale of Units

Open ended Fund must reopen within 30 daysafter the Offer period

Nomination facility allowed

Redemption proceeds to be sent to investor within10 working days otherwise Penal interest at the

rate specified by SEBI for the full period


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Annual Holding statements and Transaction

statements to be sent to investors

Dividend Warrants to be dispatched within 30

days of dividend declaration by MF

Mandatory portfolio disclosure for half-yearly

period to unit holders within 1 month


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Investors right to inspect documents

such as

Trust deed,

AMC Agreement,

Balance Sheets of MF Schemes and

Balance Sheet of AMC



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Legal limitation to Investor

RightsInvestors cant sue the Trust

Investor can sue the Trustee

Sponsor of fund not responsible for shortfallin non assured scheme

Prospective investors cant sue thetrustees/AMC/ Custodians


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Investors Obligations & Complaint Redressal

Investor should:Read Offer Documents

Understand Risk factors

Monitor performance of investments.

To submit PAN/Bank details.

Complaint RedressalThrough SEBI intervention. Complaints can bemade to AMC/Trustees/SEBI.

Investors cannot seek redressal under Companies Act

since fund investors are neither share holders nor

depositors in AMC


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Chapter 4

OFFER DOCUMENT


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What is an Offer Document ?

Offer Document of a MF scheme is like aProspectus issued by AMC inviting public to

subscribe to units of MF scheme

Discloses adequate information for investorsto take informed investment decisions


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Offer Document & KIMOffer Document

A Legal document

Issued by AMC on behalf of Trustees

Offer Document describes the Product/Scheme

Very important document for prospective investor

First time investors must read OD before deciding to invest

For Close Ended Fund issued at the time of launching ascheme

For Open Ended Fund revised every 2 years

KIMA abridged version of Offer DocumentA part of the Application Form

To be in the format as prescribed by SEBI


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Offer DocumentOffer Document prepared and issued by AMC

Offer Document to be approved by Trustees

Offer Document filed with SEBI with fees of

Rs. 25000/-

Modifications if any advised by SEBI within 21 days of itsfiling

SEBI neither approves nor disapproves an OD

Offer Document valid for 6 months for launching of

scheme from the date of receipt of by AMC of SEBI letter

containing observations. Thereafter fresh OD to be filled

with SEBI


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Contents of Offer Document

Summary information on Cover page: Names of Trustees, AMC, Scheme, Period of

Opening / Closing, Face value of unit , SEBIDisclaimer

Risk factors: Standard & Scheme Specific

Legal & Regulatory Compliance Certificate

Financial information on Schemes & Expenses for last3 years

Constitution of MF its Sponsors, Trustees, AMC &

their functionsInvestment objectives & policies

Management of Funds: Names of Fund Manager

Offer related information: Minimum Subscription

amount


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Financial Information in Offer

DocumentExpenses Sales load, Redemption load

Contingent Deferred Sales Charge

Initial Issue Expenses for the scheme and for

schemes launched during last one year

Estimated annual recurring expenses

Condensed financial information aboutschemes launched during last 3 years andtheir performance


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Constitution of Mutual Fund in Offer

DocumentName of Sponsor / AMC / Board ofTrustees

Powers of Trustee

Names & Background of Key PersonnelNames of Custodian / Registrar

Name, age, qualification & experience of

Fund ManagersDetails of Investor Relation Officer


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Investment Objectives and Policies as per OD

Short description of type of Securities forinvestment

Asset Allocation percentages

Policy of DiversificationPortfolio Turnover Policy

Investment Limitations

If Name suggests predominance of

investments in a particular asset class, theminimum exposure to be at least 65%.


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Borrowing Policy of the Scheme

as per ODFund not to borrow for making investments

Temporary borrowing allowed

For a maximum period of 6 months

Amount not exceeding 20% of NAV of the scheme

Borrowing for redemption of scheme only


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Other Contents in OD

Procedure for redemption

Disclosure of Valuation of Securities norms

and NAV calculation

Description of Accounting Policies

Tax treatment of Investments as perexisting laws


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Offer related Information in OD

Minimum subscription amount

Offer period : Calendar of opening, closing, allotment etc.

Name of SE where Close ended units will be listed

Procedure for transfer and transmission of units

Different plans under the scheme

Dividends and Distribution PolicyProcedure for winding up of the scheme


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Standard Risk factors in MF investing as per OD

NAV can go up and down depending uponCapital market movements

Past performance on AMC is not indicative of

future performance

Name of the scheme does not indicate itsquality or prospects

There is no guarantee that objectives of thescheme will be met


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Chapter 5

FUND DISTRIBUTION

&

SALES PRACTICES

h i i l


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Who can invest in a Mutual

Fund SchemeResidents Resident Individuals / HUF

Indian companies

Partnership Firms

Indian Trusts / Charitable Institutions

Insurance Companies

Banks

Financial Institutions

NBFCs

Provident Funds

Mutual Funds

Wh i i M l


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Who can invest in a Mutual

Fund SchemeNon Residents NRIs & Persons of Indian Origin

Overseas Corporate Bodies (OCBs)

Foreign Entities FIIs registered with SEBI

Foreign nationals cannot invest in MF


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Different Distribution Channels

1. Direct Marketing By Sales Officers through

Mailers

Call Centers

Branch networks


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Distribution Channels - Types

2. Individual Agents as Distributors andAdvisors

3. Institutional Intermediaries

Fund distribution companiesFinance CompaniesInvestment Advisory CompaniesBanks and Institutions

Post OfficesBrokers and Sub-brokers

Private Sector MF prefer established Funddistribution Cos as Fund Distributors


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AMFI Registration No. (ARN) card necessarybefore selling

As on 31/3/2005,

49837 candidates passed AMFI Certification Testout of which 30028 candidates registered withAMFI

Out of 30028 AMFI registered candidates,

Individuals are 24850Corporates are 1946

Corporate Employees are 3232

AMFI Registered Distributors


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Agents Commission

Commission can be paid upfront or trailcommissionMarket practice

1.5 to 2.5 % for Equity funds0.25 to 1.25% for Debt FundsStill lower for Liquid FundsHigher commission for ELSS

AMFI has prohibited parting / sharing ofcommission (see AMFI Guidelines & Norms

for Intermediaries [AGNI] ).SEBI CIR of 2002.SEBI does not prescribe any ceiling oncommission

Process of Effective Selling of M F


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Process of Effective Selling of M F

Schemes prescribed for Distributors

Know the important characteristics ofschemeKnow your client profile (age, risktolerance, income level, etc.)

Understand clients needs (investmentobjective, return expectation, cash flowrequirement, etc.)

Assist in making the right choice

Encourage regular investment &commitment to investPersonalised post sales service


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AMFI Code of Ethics for MFs

Funds to be managed in the interest of unit holders

Unit holders to be treated equally & fairly

Ensure meaningful disclosures

Avoid conflict of interest

Ensure segregate accounting

Stick to ethical standards and fairness in dealings

High standards of care, diligence, services anddisclosure announcements


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SEBI Advertisement Code for MFs

No promises in the future without resourcesbacked guarantee

Standard measures to compare such as AnnualYield, CAGR etc.

Annualised yields for at least one, three, five

years & since launchFor less than 1 year performance, Absolute Returnwithout annualisation

Past gains may not repeat in future

Risk factors prominently statedNo Celebrities

No add-ons during offer period

Appropriate benchmark to be chosen

Any ranking of fund to be explained


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Chapter 6

ACCOUNTING,VALUATION

& TAXATION


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ACCOUNTING


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Mutual Fund Accounting

Knowledge of MF accounting vitalSeparate Balance Sheet for each scheme of a MF

MFs to follow Accounting Policies laid down by SEBI

(Mutual Funds) Regulations, 1996

Unit holders subscriptions accounted

not as liabilities or deposits

but as Unit Capital at Face Value

Investments made by the fund appear on Asset side in the

Balance Sheet

All assets of the scheme belong to Investors


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NAV CalculationsNet Assets = Assets - Liabilities

Assets = Market value of Investments+ Receivables + Accruedincome + Other Assets

Liabilities = Accrued expenses +Payables + Liabilities

NAV of a Unit = Net Assets of the Scheme

Number of units outstanding


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Disclosing Net Asset Value of a Unit

Date on which NAV is calculated is calledValuation Date

Open ended Funds are required to computeand disclose NAV daily

Close ended Funds can compute NAVs

every week NAV Calculation has to considerup to date transactions


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All income, expenditure to be accounted upto date of valuation

Non accrual of small amounts not affecting NAV by more than1% permitted

Non-recorded transactions should not affect NAV calculation bymore than 1%

If NAV is more than 1% AMC to:-

-Pay excess difference.

- Recover excess paid.

Disclosing Net Asset Value of a Unit


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Allocation / De-Allocation of Units

For all valid applications received before the Cut-

off time, units are allotted / cancelled based on

NAV at the end of the same day

For valid application received after the cut-off

time, units are allotted / cancelled based upon

NAV of the next business day.

The above rule does not apply to liquid fund

schemes


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Cut-off Time

The cut-off time for all Mutual Fund schemes except liquidfund schemes is 3 pm

For liquid fund schemes valid application received upto 1

p.m. are allotted units based on NAV of the previous day

For liquid fund schemes valid application received upto 1p.m. are allotted units based on NAV of the same day

For repurchases under liquid funds the cut-off time is 10

a.m instead of 1 p.m.

NAVs are required to be rounded off upto 4 decimal places

for liquid funds & upto 2 decimal places for other funds


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Factors affecting Net Asset Value of a Unit

NAV is affected by 4 set of factors:

Purchase & sale of investment securities

Valuation of all investment securities held

Other assets and liabilities

Units sold or redeemed


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Pricing of a Fund Unit

SEBI Regulations on pricing of Mutual Fundunits

For Open Ended Funds

Repurchase price not lower than 93% of NAV

Sale price cannot be more than 107% of NAV

Difference between the repurchase and sale price of a

Unit cannot be more than 7%


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Charges in a MF

Mutual Funds can recover two types ofExpenses

a. Initial issue expenses

b. Recurring Expenses

Initial Issue Expenseseffective April 04 2006 allowed up to 6% for

Close Ended Funds onlyClose Ended Funds cannot charge Entry Loads

Open Ended Funds can recover initial expenses

through Entry Load


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Maximum Recurring Expenses

Average Weekly Assets For Equity Funds For Bond Funds

For first Rs.100 crs 2.50% 2.25%

For next Rs.300 crs 2.25% 2.00%

For next Rs.300 crs 2.0% 1.75%

On the Balance AverageWeekly Assets

1.75% 1.50%

Fund of Funds Max-0.75%

Recurring Expenses cannot exceed the followingregulatory limits


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Asset Management Fees

AMC charges Asset Management FeesLimits on AMC Fees as per SEBI Regulations:

1.25% of the 1st Rs. 100 crs of weekly Average Net Assets

1.00% of the weekly Average Net Assets in excess of Rs. 100crs

AMC may charge additional 1% of weekly Average Net Assets forNo Load Funds

Asset Management Fees are not in addition to but apart of Recurring Expenses

Asset Management fees are usually lower for DebtFunds as compared to Equity Funds and aredisclosed in OD


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Amortization of Initial Expenses

Close Ended Funds do not charge initial expenses offund but amortize the same over a period of years

Initial Expenses amortized on a weekly basis over theperiod of the scheme. e.g for a 5 yr scheme,amortized over 260 weeks

Investor exiting before expiry of period of schemewill be charged unrecovered initial issue expenses

Conversion of close ended funds into open endedfunds allowed only after recovery of unrecovered

initial expensesUn-amortized portion added for NAV calculation asOther Asset but no AMC fee on this amount


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Amortisation An Example

Assume close ended fund of five years

collects Rs 100 Crores and incurs initial issue expensesof Rs 5 Crores.

Units issued = 10 Crores.Investment = 95 Crores

Initial NAV= 95+((260/260)*5) 10

10

After 4 weeks let the market value of investments-98 CrNAV = 98+((256/260)*5)

10 =10.29


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Initial Issue expenses impact on NAV

Open ended fund collects Rs 100 Crores

Entry load 2.25%

Initial issue expenses Rs 5 Crores

Impact on NAV

Initial NAV 10As No of Units allotted would be

9.775 crores.


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Disclosure and Reporting Requirements

AMC to prepare Annual Report and AnnualStatement of Account for each schemeAnnual Statement of Account to be audited byan Auditor independent of the Auditor of AMCWithin 6 months of Accounting year, Fund

shallPublish scheme wise abridged summary ofreport in newspapersMail summary of report to all unit holdersForward to SEBI Annual Audited Accounts,

Half yearly Unaudited Accounts, QuarterlyPortfolio StatementDisplay the scheme wise annual reports ontheir website & on AMFI websiteMail Annual Reports to all unit holders


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Accounting Policies

Investments to be marked to market

Unrealized appreciation cant be distributed

Dividend/Bonus recognized on the date shareis quoted ex-dividend/ ex-bonus

Average cost considered for determininggain/loss on sale of shares


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Purchase / sale of investments recognized

on the trade date,

not on settlement date

Debt Investments to be taken as NPA

if interest or Principal amount remains unpaid formore than 3 months.

e.g. If Interest due 30th June 2000 remains unpaidon 1/10/2000 it becomes NPA on 1/10/2000

Accounting Policies


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Provisioning of NPADebt SecuritiesIf interest remain unpaidfor 6 months

10% of Book Value

If interest remain unpaidfor 9 months

20% of Book Value


Another 20% of Book Value


Another 25% of Book Value


Balance 25% of Book Value


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101

VALUATION NORMS

FOR

MUTUAL FUNDS


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Valuation Norms for Mutual Funds

Valuation Norms prescribed by SEBI toprotect investors interests

Valuation NormsBased upon fair portfolio valuation

Uniform across all funds

SEBIPrescribes detailed valuation methodologies in itsfund regulations

Mandates disclosure of valuation methods used forinvestors information


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Valuation Norms for Shares

Valuation of traded sharesdone on the basis of traded price

if not more than 30 days old

Valuation of thinly traded sharesless than 50,000 shares or Rs. 5 lacs or less

amount and

Done as per SEBI approved Norms

Valuation of not traded shares

done as per SEBI approved valuation norms


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If Thinly traded & Non traded EquitySecurities exceed 5% of the total assets of

the scheme,

independent valuer should be appointed for valuationIf Illiquid Securities exceed

15% of net assets for open ended funds

20% of net assets for close ended funds

value is taken zero for Securities in excess of 15% 20%

Valuation Norms for Shares


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Limit on Illiquid Shares

Illiquid Share (Non traded, Thinly Traded &Unlisted Equity Shares)

not to exceed 15% for Open Ended Fund Assets

not to exceed 20% for Close Ended Fund Assets

Valuation Norms for Thinly traded and Non traded Shares


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Valuation Norms for Thinly-traded and Non-traded Shares

Equity InstrumentsCalculate book value per share

Calculate earning value per share based upon

Average capitalization rate of industry P/E and

discount it by 75%.( Latest audited EPS be taken

for this purpose)

Calculate Fair value per share taking 90% of

average of book value and earning value per shareIf EPS is negative or not available for within

previous nine months, it should be taken as zero


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Capitalisation of Earnings - An Example

Assume Net worth/share Rs 8

Audited EPS Rs 2

Industry P/E 12Discounted P/E for comp (25%of 12)=3

Value of share (2*3) = 6

Average value (8+6)/2 = 7

Value to be taken discounted by 10%=90% of Average value(7)= Rs 6.30


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Valuation of Traded Debt Securities

A Debt Security is treated as traded if tradedany day during the last 15 days

Trading can be on a stock exchange orbetween institutions

Publicly traded price or private placementprice if private placement is within last 15days is taken as valuation price

Market lot for trading in debt securities is 5Crores

A Debt Security if not traded in last 15 days iscalled Not Traded or Thinly Traded Debt

Security

Valuation of Thinly-traded and


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Non-traded Debt Securities

Debt InstrumentsLess than 182 days maturity

Valued at Cost plus accrued interest and

Difference between redemption value and cost uniformlyspread over remaining life of instrument

More than 182 days maturityGovernment Securities valued at prices released byCRISIL

Investment Grade debt securities valued on the basisof YTM derived from CRISIL Valuation Matrix

Non Investment Grade Performing Asset valued at 25% discount to their

face value

NPA valued as per valuation norms for NPAs

Valuation of Thinly and Non-


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traded Debt Securities

Calculating Yields for pricing Debt Securities

A risk free benchmark Yield curve is built on GOIsecurities as the base.

A Matrix of spreads (based on the credit risk) arebuilt for marking up the benchmark Yields

Marked Yields are adjusted for liquidity risk

The yields so arrived are used to price debtportfolios

G R d i Yi ld (GRY)


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Gross Redemption Yield (GRY)

Gross Redemption Yield (GRY) is also calledYield to Maturity (YTM)

YTM is the Internal Rate of Return oninvestment in Bond.

Internal Rate of return is computed based on

:i. Coupon Rate

ii. Purchase Price

iii. Period to Maturity

G R d i Yi ld (GRY)


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Gross Redemption Yield (GRY)

If purchase price is the same as Face Value ofBond,

YTM will be the same as Coupon Rate.

If purchase price is more than the FaceValue,

YTM will be lower than the Coupon Rate.

If purchase price is less than the Face Value,YTM will be more than the Coupon Rate.

Calculating Price of Bond with given YTMAn


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ExampleGiven data:

Face Value : Rs.1000

Coupon : 10%

Tenure : 5 Years

Interest Payment : Yearly

Yield : 8.72%

Calculate price of the bond

Cash flows under the bond and their present values are as under :

100 + 100 + 100 + 100 + (100+1000)(1+8.72%) (1+8.72%)2 (1+8.72%)3 (1+8.72%)4 (1+8.72)5

Price of the bond = Rs.1050 ( By solving the above equation)


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TAXATION OF MUTUALFUNDS

T i f MF d I


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Taxation of MFs and Investors

Finance Act 1999 radically changed taxation of Dividendsreceived by investors in Mutual Funds

Mutual Fund as an entity is not taxed since it is a Pass ThroughEntity. Section 10(23d)of the IT Act.

Finance Act 1999 made income (dividends) from UNITS totallyEXEMPT from tax u/s 10(33) in the hands of all investors

Income (dividends) distributed by a Debt Fund was made liableto Dividend Distribution Tax at applicable rate

Open Ended Funds with more than 50% invested in Equity do

not pay any DDT ( since changed to 65% in FY 06-07)Individuals 14.02%. Companies 22.44%.

T i f MF d I


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Security Transaction Tax (STT) is charged asapplicable

80 C benefit under ELSS upto Rs. 1 Lac

Restriction on dividend stripping (Sec 94(7))Within 3 months prior to record date of dividenddistribution and

within 3 months after record date for dividenddistribution

Taxation of MFs and Investors

I f Di id d Di ib i T


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Impact of Dividend Distribution Tax

Investor pays the tax indirectly, since NAVcomes down to the extent of tax paid by theFund.

DD Tax bears no relationship to the investors

tax bracket.Dividend reinvested is also subject toDividend Distribution Tax.

In Growth Plans, Dividend Distribution Taxnot applied, since no dividend is distributed.

Sh / L T C i l G i T


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Short / Long Term Capital Gains Tax

Short Term Capital GainIf units held for less than 12 months

Long Term Capital GainIf units held for more than 12 months

Short Term Capital Gains at normal tax ratesas applicable to investor

Long Term Capital Gains taxed at 20% withindexation or at 10% without indexation of

cost + Applicable Surcharge & EducationalCess


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Short/Long Term Capital Gains Tax

Under Section 111(a) of I.T.Act

- No Long Term Gains Tax on Equity

oriented schemes if STT charged.

- Short Term Gains Tax atGovernment specified rate if STT is

charged for equity oriented schemescurrently the rate is 10%.

C it l G i T


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Capital Gains Tax

Option to pay 20% or 10% lies with investor for eachand every security

2% surcharge also payable

Indexation Benefit on Unlisted Bonds not available

No Capital Gain tax payable if entire Capital gain

invested in Capital Gain Bonds of NABARD, NHAI,

REC under sec 54 EC with a lock in of 3 years.

Long Term capital gains exempt u/s 54 ED if investedwithin 6 months in shares of companies formed and

registered in india with a lock in of 1 year.

Calculating Capital Gain Tax - An


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g p

Example

Mr. H Invests Rs.2 lacs in MF units during FY97-98After 2 years, he sells units and gets Rs.2.4 lacs

His tax liability will be:

CII 99-00 : 389, CII 97-98 : 331 , Ratio : 389/331=1.18Indexed Cost (2,00,000 x 1.18) = Rs.2,36,000

Capital Gains Rs.4,000

Long Term Capital Gain tax of Mr. H:

Rs.4,000* 20%=Rs.800 or 10% of Rs. 40,000/- i.e.

Rs. 4,000/-

Obviously he will select the option of paying Rs. 800/-

W lth T


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Wealth Tax

Ownership of Units not included in

Net Wealth

Hence no Wealth Tax Payable on

Mutual Fund units


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Chapter 7

INVESTOR SERVICES

Investor Services


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Investor ServicesApplication Procedure as per Offer

DocumentWide Distribution of Application Forms

Downloadable Application Forms

Application through Internet

The Procedure for NRIs/ OCB provided in theOD/KIM

Bank details to be given in the ApplicationForm

PAN no. to be given if investment is Rs.50,000/- or more

Joint Account can be operated jointly by all

Application Procedure for Purchase of


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MF UnitsThe Application Form is an importantagreement on the part of the investor ofhaving read and understood the OD

The various modes of payment specified in

the OD

NRIs can pay

from FCNR/NRE accounts by demand drafts or

cheques in case of repatriation benefits.for non repatriation benefits payment can bemade from NRO/NRNR A/c.

Application Procedure for


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FIIs can remit directly from abroad or payfrom their NRE A/c.

Offer Documents contains procedurepurchasing and redeeming of units

Introduction ofMulti purpose Application

Formdispenses with the need for existing Investors tofill up full Application Form

for making further investments

pp f

Purchase of MF Units

Investment Plans and Services


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Investment Plans and Services

Investment PlansSystematic Investment plan (SIP)

Regular Investment of fixed amount periodically (Rupee CostAveraging Advantage)

Automatic Reinvestment Plan (ARP)Reinvestment of Dividend at Ex dividend NAV

Systematic Withdrawal plans (SWP)

Regular withdrawals at periodical intervals

Systematic Transfer Plans (STP)Selling units of one scheme & buying units of another schemeat regular periodical intervals of the same AMC

O h S i il bl d M l F d


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Phone Transactions

Internet / Email transactions

Cheque writing facility for Liquid Funds

Periodic statements of holdings

Periodic statement of Investment Portfoliodisclosures

Other Services available under Mutual Funds



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Mutual Funds cannot give loan against unitsBanks can give loan against MF units

Nomination facility allowed

Units of Close End Schemes can be

transferred to another personTransfer in Open Ended Fund happens upon

death of unit-holder or

when units are pledged or

by operation of law i.e insolvency or

winding up of the corporate investor


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Chapter 8

INVESTMENT

MANAGEMENT:

EQUITY AND DEBT

PORTFOLIOS

Investment Management


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Fund Management Style impactsinvestment performance

Magnitude of returns vary across funds

Time horizon of investments impactsInvestors Returns

Investment Management


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Part I : Managing Equity

Portfolios

Types of Equity Instruments


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Types of Equity Instruments

Equity Shares

Preference Shares

Equity Warrants

Convertible Debentures

2 Major Task of Equity Portfolio


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ManagerConstruction of a portfolio of equity shares

consistent with the objectives of the fund

Constantly rebalance the portfolio

to produce Capital Appreciation & Earnings

rewarding the Investors with superior returns

Management of Equity


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PortfoliosAsset Allocation

Stock Selection

Market timingMonitoring of performance

Portfolio re-balancing

Evaluation of performance

Risk assessment and Risk management

Equity Markets : Positive


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FeaturesLargest number of listed stocks (9400companies listed on all stock exchanges as at

31/3/04 out of which 7200 listed at BSE with

a market cap of over 13 Lac Crores)

Industrial diversity> (50 Industries / Sectors

represented

Electronic Trading and Settlement System

Growing number of Institutional Players

Lower Transactions Cost

Lower Settlement Risks

Equity Markets : Issues of


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ConcernConcentration of market cap and liquidity(Group A shares at BSE 140, B1 1100, B24500)

High levels of volatility

Information inadequacies Disclosure of information

Insider trading

Lack of depth for large volumes

Market Capitalisation based Classification of Shares


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Market Capitalisation based Classification of Shares

Large cap companies High Liquidity

Low Transaction costs

Mid cap companies Moderate Liquidity

More transaction cost

Small cap companies High Profit potential

High Transactions costs

High Volatility

Different Indices and Benchmarks for Large /Mid / Small Cap

Earning based Classification of


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Shares

Price/Earnings Ratios

Higher the P/E, greater the growth potential

Dividend yield

Lower the dividend yield, Higher the growth

potential

Cyclical Growth Value Stocks


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Cyclical, Growth, Value Stocks

Cyclical StocksEarnings linked with market cycles

Growth StocksLow Asset baseHigh growth potentialHigh P/E - low dividend yields

Value Stocks

Large Asset baseLong term good track recordModerate P/E & Moderate Dividend Yield


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Active Fund Management


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StrategiesGrowth Investment Strategy

Fund Manager selects stocks of companies

having potential of above average rate ofgrowth in earnings.

Value Investment Strategy

Fund Manger selects stocks of companies

with good track record,stability of earnings

and are undervalued

Role of Security Research in Active Fund Management


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Role of Security Research in Active Fund Management

Fundamental AnalysisResearch inputs based upon Fundamentals of thecompany and its profit potential

Technical Analysis

Analysis of market price and volumes based upondemand and supply position & past trend charts

Quantitative Analysis

Analysis of Sectors and Industries based uponmacroeconomic factors

Equity Portfolio Management Organisation Structure


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Equity Portfolio Management Organisation Structure

Fund ManagerFocuses on a certain locationSelects stocks &Fixes price range for purchase & sale

Analystresearches companies andrecommends buy & sell

DealerCollects market intelligencePlaces buy and sell orders with brokers

For Successful Equity Portfolio Management


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For Successful Equity Portfolio Management

Set realistic returns based on aBenchmarkBe aware of the flexibility in managing aportfolio

Decide on investment philosophyDevelop an investment strategy basedupon objectives & time horizons

Avoid over diversification of portfolio &

have well diversified portfolioDevelop a flexible approach to investing

Use of Equity Derivatives


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Use of Equity Derivatives

Mutual Funds have been allowed to make useof Futures & Option contracts in Equities forPortfolio risk management

Portfolio Rebalancing

Since September 2005 SEBI has also allowedMutual Funds to trade in Derivative Contracts.

To enhance portfolio returns

To launch schemes which invest mainly in Futures& Options

What are Equity Derivatives?


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Equity derivatives instruments are speciallydesigned contracts

They derive their value from an underlying

asset

They are traded separately in F & O segmentof Exchange

Main derivative instruments areFutures,

Options



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In a future contractyou can buy & sell the underlying equity

at a specified future date

at agreed price

In option contract

the buyer of option contract gets the right to buy or sellthe underlying equity

at agreed price

on a future date

only if he exercises the option &

for this right he pays a price called Premium.

Option contracts are of two types


Using Derivatives for Hedging Portfolio Risk


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If Fund manager expects the equity marketto decline

he may not sell the equity in the Cash Market.

But can sell the Index Future at the current future

price for future delivery.If markets fall the equity portfolio will decline,

but future contract will show a correspondingprofit,

since fund manager have sold future contract at ahigher price.

This is called Hedging Portfolio Risk

g f g g f

Using Derivatives for Hedging Portfolio Risk


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If markets rise, instead of declining, the fundwill not gain out of rise in the market prices.

Other method of hedging investment portfolio

risk is by buying a Put Option (an option tosell the underlying equity at an agreed price)by paying premium.

A fund manager has to decide whether to sella future contract or to buy a put optiondepending upon the relative merits of each.

g f g g f


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151

Part II : Managing Debt

Portfolios

Debt Securities: Types


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Debt Securities: Types

Debt SecuritiesCentral Government Securities

State Government Securities

Government Guaranteed Bonds

PSU Bonds

FI Bonds

Bank Bonds

Corporate Debentures

Debt Securities: Features


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Other Features

Fixed rate / Floating rate Debt Securities

Coupon Bonds / Cumulative Bonds

Listed / Un-listed Debt Securities

Rated / Un-rated Debt Securities

Secured / Unsecured Bonds

Debt Securities: Features

Money Market Securities


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Money Ma ket Secu ities

All Debt Securities maturing within oneyear are called Money Market Securities

Money Market Securities (Instruments) are:

T-BillsCDs

CPs

Call MoneyRepos

Indian Debt Market Size as at 31/3/2004


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Type of security Market Capitalisation(Rs. In Crores)

Central GovernmentSecurities

959301

Treasury Bills 32692

State GovernmentSecurities

79340

PSU Bonds 56831

Others (FI, Bank,Corporate Bonds, CD, CP)

87697

Total 1215861

Basic Characteristics of a Debt

S it / B d


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Security / Bond

Face Value, Par Value

Coupon

Maturity Date

Put/Call options

Risks of Investing in Debt Securities / Bonds


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Interest rate risk

Re-investment risk

Call riskDefault risk

Inflation risk

Liquidity risk

Measures of Bond Yields, Yields Spreads

& Credit Risk


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Measures of Bond yields areCurrent YieldYield to maturity (YTM)

Yield curve of GOI Securities of differentMaturities is constructed

Yield Spread is the premium over G-sec ratepaid by borrowers according to their credit riskqualityCredit risk is priced using the ratings of credit

rating agencies.Higher the credit rating, lower the spreadDebt portfolios have credit quality objectivesstated in OD

Duration of a BondA

Measure of Interest Rate Risk


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Measure of Interest Rate Risk

Duration of a Bond is the average maturityperiod of a Bond as distinguished from theterm of the Bond

Duration helps to measure the interest rate

risk of a Bond Higher the duration of a Debt Portfolio,

higher the risk of loss of value of the Portfolio ifthe rates of interest go up & vice-versa

Duration of Bond is less than its term,except for zero coupon bonds

Debt Management Strategies


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g g

Passive Debt Management StyleBuy and Hold Strategy exposing the portfolio to

Interest rate risk

Credit risk

Active Debt Management StyleDuration Management Strategy

Duration increased/reduced based upon interest ratesexpectations

Credit Selection Strategy

Factors affecting Interest Rate

M t


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Movements

Inflation Rate Changes

Exchange Rate Changes

Monitory Policy Changes by R.B.I

Using Derivatives for Debt Portfolio

Management


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Management

Debt Portfolio Risk arising out of InterestRate increase can be hedged through interestrate derivatives.

Interest rate derivatives are either exchange

traded or privately traded in OTC marketA Debt Portfolio Manager can sell interestrate futures or buy interest rate put optionson an exchange to protect Debt Portfolio

ValueHe can also buy and sell Forward Contracts orSwaps bilaterally with other market players inOTC.

Using Derivatives for Debt

Portfolio Management


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In India interest rate futures are available atOTC since 2004

Interest rate options are not introduced in

India in the ExchangeThrough Swaps fund managers can hedgeinterest rate risk to Debt Portfolios

Since June 2003 SEBI has permitted MutualFunds to trade in Exchange Traded DebtDerivatives

Portfolio Management

Organisation Structure of Debt

Fund Management


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Fund ManagementInterest Rate Forecasting Unit

Fund Manager

Security Dealer

Risk Management System in a

Mutual Fund


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Mutual Fund

SEBI has prescribed guidelines for RiskManagement in a M.F

Risk Management system Covers

Risks in Fund ManagementRisks in Operations

Risks in Marketing & Distribution

Other Business Risk

Internal Report on its adequacy to be placed

before AMC & Trustee Board


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Part III : InvestmentPolicy and Restrictions

Investment Policy of a Fund


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Investment policy of a fund scheme is statedin O.D

For Equity FundSee kind of Sectoral Allocation & companies toinvest

For Debt FundSee types of instruments,credit rating,proposed average maturity,minimum & maximum MM instruments percentage

Investment Policy of a Fund


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For Balanced FundSee equity & debt proportions

For Money Market FundSee types of instruments preferred & theirrating profile

Regulatory Restrictions on

Investments by Funds


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Investments by FundsMinimum no. of investors in a scheme

20 & no single investor to hold over 25% of thecorpus

Minimum portfolio diversification

Investment in equity of a single company Max 10%of the NAV (Except index funds, sector funds)

All non government debt to be mandatorily rated byat least one rating company

Investment in rated debt instrument of a Company Max 15% of Net Assets

Max 20% of Net Assets with approval of Board of Trustees

Regulatory Restrictions on



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Investment in unrated/below investmentgrade securities

Not exceeding 10% of Net Assets in a single

company

Not exceeding 25% of Net Assets of the fund in allthe companies

Prior approval of Trustees mandatory forinvestments in unrated debt instruments


Regulatory Restrictions on Investments by Funds


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Investment in unlisted shares of companies

Close Ended Fund : Not more than 10% of Net AssetsOpen Ended Fund: Not more than 5% of Net Assets

Investments in Equity shares under all schemes of a MF

Not more than 10% of Paid up capital of a company

Investment by a Mutual Fund in ADRs / GDRs allowed

Investment by a M.F. in Equities of listed overseascompanies having share holding of at least 10% allowed

Overall limit of U.S. $ 1 Billion for such overseas investmentfor entire M.F. industry

Overall limit per M.F.

Not exceeding 10% of Net Assets subject to maximum50 Million



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A Mutual fund can investmaximum 5% of Net Assets under all its schemesinto different fund schemes of the same AMC or ofany other AMC except Fund of Funds Scheme

The above limit does not apply to Fund ofFunds

Securities are to be bought or sold only ondelivery basis No short selling allowed

Securities to be bought and sold for arelevant scheme.

Purchases/Sales cannot be aggregated andallocated later



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MFs can lend securities under the SEBIapproved Stock Lending scheme

A Mutual Fund can invest only in MarketableSecurities

A Mutual Fund cannot invest in unlistedsecurities of Sponsor or Sponsor GroupCompanies

A Mutual Fund can invest in listed securities

of the sponsor / Sponsor Group Companiesupto 25% of Net Assets of the Fund



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A Mutual fund can transfer Securities from one scheme to

another scheme at market prices and on spot deliverybasisInter-scheme transfers allowed if objectives of both theschemes are sameA Mutual fund can park its money in deposits of

Scheduled Commercial Banks pending deployment intoregular investmentsBorrowing by MFs restricted upto 20% of Net Assets formaximum 6 months for paying dividend/redeeming unitsRecord of investment decisions to be maintained.

A FOF cant invest in other FOF schemeA liquid fund cannot have mark to marketcomponent>10% . Maximum Re pricing tenure 1year.


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MEASRUING ANDEVALUATING MUTUALFUND PERFORMANCE

Chapter 9

Measuring MF Performance


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Major sources of return to investors areDividends and Capital Gains

Investor should track the value of his

investments in terms of

Return on such investments

Decide whether he needs to switch to anotherfund.

Methods of Measuring / Evaluating MF Performance


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Absolute Return Method

Simple Annual Return Method

Total Return Method

Total Return Method when Dividend is Reinvested

Compounded Annual Average Rate Method (CAGR)

Expense Ratio Method

Income Ratio Method

Portfolio Turn over Ratio Method

Transaction Cost Method

Fund Size

Cash Holding Percentage

Absolute Return Method


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Absolute returns are returns for a specificperiod

Absolute returns are calculated for less than 1year period

If NAV Changes from 20 to 22 in 6 months,Absolute return is 2/20*100=10%

Simple Annual Return Method


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Simple Annual Return Method computesreturns as follows

Lets take the previous example

NAV changed from 20 to 22 in 6 months period

Annual return is

(22-20) x 12 x 100 = 20%

20 6


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Total Return Method when Dividend not

reinvested at NAV - An Example


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Assume Units are purchased when NAV is 20Assume that Dividend of Rs. 4/- is distributed

when NAV Ex Dividend is 21

Assume NAV at the end of the year is Rs.22/-

Simple Total returns for the year will be asunder

(22-20) + 4 x 100 = 30%

20

Total Return or ROI or CAGR Method

Compounded Average Annual Return


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Compounded Average Annual Return

Method

Formula

A = P x (1+R/100) N

P = Principal invested

A = Maturity Value

N = Period of Investment in years

R = Annualised compound interest rate in %

R = [ (Nth Root of A/P) 1] x 100

Compounded Average Annual Return Method

An Example

B i NAV 100


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Begin NAV 100

End NAV 200 Period of Investment 10 years

Average Annual Compound Return - Is it 10% orlower ?

200 = 100 x (1+R/100)10 Solving for R gives Annualised compound rate of

7.1773% or 7.2%

Apply thumb rule of 72

SEBI prescribes Average Annual Compound ReturnMethod to be followed for advertising Returns forover 1 year Period.

Returns impacted by Loads


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The above example assumes a No LoadFund.

If there is an Entry Load, you will be allottedlesser number of units since you will paymore than NAV.

If there is Exit Load, you will get lesseramount per unit than NAV.

Expense Ratio / Income Ratio

Method of Fund Evaluation


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Funds can be evaluated based on Expense ratio and Income

ratio

Expense Ratio: It is the ratio of total expenses to Average NetAssets of the fund.

This ratio is important for evaluating Bond Funds

Expenses do not include brokerage paid since it is capitalizedand therefore expenses may be understated

Income Ratio = Net Investment IncomeNet Assets

Income ratio is important for evaluating Bond Funds

Portfolio Turn Over Rate

Method of Fund Evaluation

A th M f F d E l ti i P tf li T O R t


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Another Measure of Fund Evaluation is Portfolio Turn Over Rate

Portfolio Turnover Rate = Total Sales & Purchases

Net Assets of the Fund.

Higher Turn Over Rate indicatesMore churning of Portfolio

More transaction costs

Portfolio turn over ratio relevant for actively managed

funds

Importance of Bench Marking in

Evaluating Fund Performance


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Three methods of evaluating FundPerformance

Evaluating Fund Performance against Bench Marks

Evaluating Fund Performance against other PeerGroup Mutual Fund Schemes

Evaluating Fund Performance against otherFinancial Products

Fund Evaluation against Benchmarks

d f b l d


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Funds Performance can be evaluated against some

PerformanceIndicatorscalled BenchmarksMutual Funds are required by regulations to state thebenchmark in the OD against which schemeperformance will be compared

Investors expect Fund Performance better than thebenchmark

3 Types of Benchmarks :

Relative to Market as a whole. Relative to other Mutual Funds

Relative to other comparable financial products.


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Benchmarks For Debt Funds

& Money Market Funds


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Type of DebtFund Name of Benchmark

Gilt Fund Government Security Index

Debt Fund Corporate Bond Index

MoneyMarket Fund

Mibor reflecting inter bankcall money market interestrates.

Bond Funds with over 60% in Bonds to use Bond Market IndexBalanced Funds should use Tailor made Index

Benchmarks For Debt Funds

& Money Market Funds


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There are various Indicies for benchmarkingof Debt Funds

I-Bex Index of I-SEC is used for tracking

Govt. Security performance

CRISIL has 8 Debt Indices for trackingperformance of Corporate Bond Market &Money Market

NSE has Govt. Security Index & Treasury Bill

I d

Benchmarking against other Mutual Funds.


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Peer Group Comparisons :

Performance of Fund can be compared with similarschemes of other Mutual funds.

Criteria for Peer Group Comparison would be similarityin

Investment objectives and rating profile of portfolios

Average maturity of debt portfolios

Size of fund ( big or small)

Higher Expense Ratio of a Debt Fund hurts long termdebt investors

Benchmarking with other

Financial Products


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a c a od c sComparison with other comparableFinancial Products

Risk Return Relationship to be considered

Liquidity factors to be considered

Average Annualised compound returns to becompared.


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Chapter 10

HELPING INVESTORSWITH FINANCIALPLANNING

What is Financial Planning ?


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Financial Planning includesIdentifying all financial needs of an individualTranslating the needs into monetary goals atdifferent times in the future

Planning the financial investments to provide andsatisfy future financial needs to achieve goals

Objective of financial planningRight amount of money

Right hands

Right time in future

Need of Professional Financial

Planners


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Professional Financial Planners are need incase the investor:

Lacks expertise to do financial planning

Lacks time to do financial planning

Does not know where to startFeels there will be an improvement in the presentsituation

Has an immediate need

Wants professional opinion on self developed plan

Who is a Financial Planner?


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A Financial Planner

Uses the financial planning process

Help in determining the goals of the investor

Identify

Financial planning needs of the customer

Present priorities

Products that suit their needs

Advantages of a Distributor

becoming a Financial Planner


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Strong Potential for such servicesHigh saving habit

Low awareness of various investment options

Complexity of various investments

Limited supply of financial planners in India

Benefit of establishing long-term relationships

with clients

Benefit of building a profitable business

What makes a good Financial Planner?


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Building TrustGood Knowledge of Financial products / options

Familiarity with Taxation & Estate planning issues

Understanding of various Life stages in a clients lifeIndependent judgment and balanced thinking

Organized way of working

Regular contact with clients

Clear focus on the overall financial well-being of client

Roles of Each Participant


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Client FinancialPlanner

FundManager

PortfolioInvestments

Discussion of goals &

Asset allocationChoice of Schemes

& Fund Manager

Analysis of Markets

& Choice of

Individual Securities

Basic Terms used in Financial Planning

Financial Planning: Advising clients on how to


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Financial Planning: Advising clients on how to

achieve their financial goals

Financial Goals and Objectives: Needs ofclients which have a monetary aspect

Asset Allocation: Allocation of clientsinvestment across various asset classes

Risk Tolerance: Extent of loss a client cantolerate, psychologically and financially and forhow long they can withstand such declines invalue

Basic Terms used in Financial Planning

Financial Plan: Document that details clearly


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Financial Plan: Document that details clearly

in writingfinancial goals

available resources

time frame for investment

asset allocationspecific investments

clear action plan towards implementation

Portfolio Rebalancing: Process of makingchanges to asset allocation and specificinvestment to ensure the clients investmentstrategy stays consistent

Financial Planning Process


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Establishing & Defining the Client-Planner Relationship

Gathering Client Data, Defining Client Goals

Analyzing and Evaluating a Clients Financial Status

Developing & Presenting Financial Planning Recommendations

Implementing the Financial Planning Recommendations

Monitoring the Financial Planning Recommendations

Steps in Financial Planning Process

1. Establishing & defining relationship with client


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1. Establishing & defining relationship with client

2. Defining clients goals

3. Assessing current resources in future Incomepotential of the client

4. Determining &Shaping the risk tolerance levelof the client

5. Ascertaining Tax situation of the client

6. Recommending appropriate asset allocation &

specific investment7. Executing the plan & making the client invest

8. Reveal the progress & portfolio rebalancing

Common Mistakes in Financial Planning(FP)

Measurable financial goals are not set


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Measurable financial goals are not set

Financial decisions made in isolation

FP is confused with investing

Financial plans are not re-evaluatedperiodically

Considered relevant only for wealthy

FP required only when clients get older

FP is considered same as retirement planning

Only after a crisis FP is started

Expectation of unrealistic returns oninvestments

Belief of loss of control when Financial Planner

FP is primarily tax planning

Key Issues in Financial Planning

A Financial Planner should make the client


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A Financial Planner should make the client

understand the following key issues:

To set Measurable Financial Goals

To understand the Effect of each Financial Decision

To re-evaluate Financial Situation Periodically

To start Planning As Soon As Possible

To be Realistic in Expectations

To realize that the Client is in Charge

Life Cycle Stages of an Individual

Childhood Stage


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Childhood Stage

Young Unmarried Stage

Young Married Stage

Young Married with Children Stage

Married with Older Children Stage

Post-family/ Pre-retirement Stage

Retirement Stage

Life Cycle StagesI


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Birth &

EducationEarning Years Retirement

I

N

C

O

M

E

22 yrs 38 yrsOver 25-30 yrs

EXPENSESMARRIAGE

CHILDS BIRTH

CHILDS

EDUCATION

CHILDSMARRIAGE

Constraints to Financial Planning


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Insufficient investible resources

Dearth of financial planning products

Time factor and Risk factor of investments:Time is important to benefit from the power ofcompounding by starting early

Basic principle of investing is Greater the Risk,

Greater the Reward

Assumptions of life cycle needs

Financial Planning & Mutual Funds

Individuals have 2 types of needs


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Individuals have 2 types of needs

Protection Needs

Investment Needs

For protection needs,

Pure Risk Plan of a Life Insurance company is therecommended option

For investment needs,Mutual Fund schemes are the recommended

optionsUnit Linked Insurance is a new optionsatisfying both protection & investmentneeds

Wealth Cycle Stages of Investors

Another method of classifying investors is Wealth


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Another method of classifying investors is Wealth

Cycle Stage (as against Life Cycle Stage

There are 3 Wealth Cycle Stages for Investors

Accumulation Stage : Choose Equity FundsTransition Stage : Choose Balanced Funds

Reaping Stage : Choose Debt Funds

Intergenerational Transfer Stage refers to transferring wealth.

Investment avenue will be linked with life cycle stage of the

beneficiary

The Sudden Wealth Stage refers to winning lotteries. Park in MM

Funds

Categories of Affluent InvestorsAffluent investors do not need financial


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Affluent investors do not need financialplanning for life goals. They can be classifiedinto 2 categories

Wealth-Creating Affluent InvestorsBuild further wealthWilling to take a risk of Equity Investments tomake net worth grow

Wealth-Preserving Affluent InvestorsPreserving the created wealth

Risk averse, prefer to invest in Debt Funds


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Chapter 11

RECOMMENDINGFINANCIAL PLANNINGSTRATEGIES TO

INVESTORS.

Investment Strategies for InvestorsStart planning & investing early and regularly. Use SIP


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Invest for long term.Have realistic expectation of returns on Investments

Harness the power of compounding by choosing Growthoption.

Choose an investment strategy to maximise returns on

investments.Buy and Hold strategy

can be adopted for good mutual fund schemes butnot for individual stocks.

Rupee Cost Averaging strategy for investment.

Value Averaging strategy for investment.

Rupee Cost Averaging strategy of Investment

Rupee Cost Averaging (RCA) involves the


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Rupee Cost Averaging (RCA) involves thefollowing

A fixed amount is invested at regular intervals

More units are bought when NAV is low

Fewer units are bought when NAV is high

Over a period, average purchase price per unit islower than average NAV

This strategy does not tell you when to sell andswitch

Investor use SIP to implement RCA

Value Averaging Strategy of Investment

Value Averaging Strategy involves the following


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Value Averaging Strategy involves the following

A fixed amount is targeted as a desired value of theportfolio at regular intervals

If market values go up units are sold to restore target value

If market values go down More investments are made to maintain target value

Over a period,

Average Purchase Price per unit is lower than if one tries to guess the highs and lows of market

Value Averaging Strategy


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Value Averaging Strategy is superior to RCA

It enables you to book profits and rebalanceportfolios

Investors can use SWP to implement ValueAveraging Strategy

Investors can use MM Funds and EquityFunds to implement Value Averaging Strategy


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Model Portfolio for Investors Benjamin Grahams

50/50 Balance Strategy for Asset Allocation


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50/50 split between Equities and Bonds

A common sense approach

Conservative investment approach

When value of equity goes up, balance restoredby liquidating part of equity portfolio or vice versa.

Good to get half the returns of a rising market andavoid the full losses of a falling market.

Model Portfolio for Investors Suggested By

BogleBogle suggests the following combinations:


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1. A Basic Managed Portfolio50% in Diversified Equity & Value Funds.

25% in a Govt.Securities Funds.

25% in High Grade Corporate Bond Funds.2. A Basic Indexed