Mutual Funds & Investment Products - Chapter 2

Mutual Funds & Investment Products - Chapter 2

Over the last few years, Mutual funds have emerged as a veritable and flexible product for people to achieve their long term goals. Here are some of the benefits that different types of mutual funds proffer on investors.

How Specific Mutual Fund Classes Can Meet Unique Needs

  • Equity funds assist in creating wealth in the long run with measured levels of risk undertaken.
  • Debt funds or income funds combine the stability of returns and lower risk to act as a good instrument of earning decent returns with lower risk.
  • Liquid funds are extremely popular for parking liquidity. They not only pay higher returns than bank deposits but are also tax efficient
  • Hybrid funds are a flexible solution where you can mix equity and debt in different combinations depending on your risk appetite and return requirements
  • ELSS funds are a superior method of planning your taxes under Section 80C, with higher wealth creation and a shorter lock in period.
  • Solution funds can be customized to your unique long term planning needs like retirement planning, child education etc. They are normally structured as FOFs
  • Index Funds are also called beta participation. It is an opportunity to participate in an index like Nifty or Sensex without taking on specific selection risk
  • Finally, there are also gold funds which can be a good hedge to your assets in times of economic and political uncertainty; domestically or globally.

Popular Concepts Pertaining To Mutual Funds

Investment Objective

A mutual fund scheme is defined by its investment objective. The investment objective will outline the theme of the fund. It also lays out the asset class that the fund will invest in, the type of securities selected and how the fund will be managed.


Mutual Fund Units

Like equity shares are a proportionate share of the company, the mutual fund unit is the proportional share of the portfolio of the fund. Each unit represents one share of the fund.

The net assets of the fund are divided by the number of units to arrive at NAV.


Net Assets

Net assets of a scheme are the sum of the current value of the portfolio plus current assets such as cash and receivables and reduced by any outside liabilities. The TER (total expense ratio) is reduced proportionately on a daily basis to arrive at net assets.


Net Asset Value (NAV)

NAV of a scheme is calculated as (Net assets / Number of outstanding units of the scheme). NAV of the scheme changes on a daily basis. The NAVs of dividend plans and growth plans of the same scheme will differ. Similarly NAVs of direct plans and regular plans will also differ.


Mark to Market

Mark to market (MTM) means that if the portfolio was to be liquidated, this would be the realized value. Portfolio has to reflect the current market price of equity and debt securities held. Marking to market of all mutual fund schemes is done on a daily basis.


Open- ended and Closed-end Schemes

Open- ended schemes allow investors to buy additional units and redeem continuously at current NAV. Unit capital of the scheme is not fixed but changes with every investment or redemption. Closed ended funds are only open during NFO period, post that they are listed.


Interval funds

They are a variant of closed-end funds which open for buying and redemption at specific intervals. Such funds also have to be mandatorily listed on the stock exchanges. They are a cross between closed ended funds and open ended funds.


Investing In Mutual Funds – Process Flow

Any resident individual, NRI, PIO, Foreign national, Institution or Trust meeting the basic conditions of investing in mutual funds is eligible to invest. Here are some pre-requisites to invest in mutual funds.


Permanent Account Number (PAN)

The income tax permanent account number (PAN) is a prerequisite for investment in a mutual fund for all categories of investors. This also applies to NRIs and guardians investing in mutual funds on behalf of minors. The original PAN card is verified against a self-attested photocopy at the time of making the first investment. Verification can also be done online on the website of the Income Tax department. There are some exceptions like micro-SIPs or investment below Rs.50,000 per year that do not require PAN.


Complete Know Your Customer (KYC) registration

An essential part of mutual fund investing is to complete the KYC compliance before initiating any transaction in mutual funds. Today there are centralized KYC agencies where you just need to go through your KYC once and then it gets recorded in the master database against your PAN number. KYC involves establishing the identity and address of the investor by collection of required information in a specified format and supported by stipulated documents. Electronic KYC is also possible these days.


In-Person-Verification (IPV)

KYC is incomplete unless the IPV is done. IPV can be done by authorized intermediaries. Either you can visit the office of the intermediary or the representative of the intermediary can also visit at your residence. Post valid IPV, the KRA sends the letter confirming the details to the investor within 10 days of receipt of the documents.


Purchase of Mutual Fund Units

Once your KYC is registered and the IPV is completed, you are all set to transact in mutual fund units. Initial investment in a mutual fund can be made either in the NFO or in open-ended fund open for transactions. A fresh purchase of units is made by submitting an application form in which mandatory information has to be provided such as name, date of birth, status, occupation of the first holder, PAN details, address and contact details, signature and bank account details of the holder. Based on this information, the registrar (CAMS or Karvy) creates a folio number for that AMC. You are ready to invest.


Additional Purchases in a Mutual Fund

When you invest in the AMC for the first time, a folio number is created in your name by the registrar. Once the folio is created, you can use the same folio for subsequent purchase of any other fund of the same AMC. You just need to fill up the folio number and enter your unit purchase details and all other details are pulled from the master database of the RTA.


Investment Modes

There are two choices that investors in mutual funds need to make. First is the choice of option (Growth, Dividend, Dividend reinvestment). The second is the choice of plan (Direct or Regular). Direct Plans were allowed in 2013, wherein investors could get the benefit of lower TER (total expense ratio) by opting to invest directly in the scheme without going through a broker. It saves customers the marketing and selling fees which reduces the TER by nearly 100-125 bps in case of equity funds.


Redemptions from a Mutual Fund

Investments in open-ended schemes of mutual funds can be realized at any time by giving an application to redeem the units. Such instruction can be given either online or even offline. The redemption request can be in terms of number of units or in terms of total amount to be redeemed. Normally it takes 3 days for redemption proceeds of equity funds to be credited whereas debt funds and liquid funds happen much sooner. Redemption of equity funds are subject to Securities Transaction Tax (STT). It can also entail exit load if the fund is exited before the minimum cut-off holding period.



Nomination is a facility offered to individual investors to choose the person(s) entitled to receive the benefits of the investment made in the event of the death of the investors. Such persons are called nominees. The nomination can be made at the time of making the investment or subsequently at any time. While nomination is optional, AMFI has mandated as best practice that all singly held folios should have nomination or the investor should declare the intention not to do so in the application form. In case of joint holders, even if there are nominees, the natural ownership automatically vests on the second joint holder.


Power of Attorney

Power of Attorney (POA) authorizes another person to operate the mutual fund account on your behalf. It can be a general POA or even a limited purpose POA. Both the original investor and the POA must get their KYC done under existing SEBI regulations. The certified copy of the POA must be registered with the mutual fund and the signature of the investor as well as the POA holder has to be recorded.


Transmission of mutual fund units

Unlike transfer, which is a voluntary action, transmission happens by operation of law. In the event of the death of a mutual fund investor, the units have to be passed on. The process followed is –

If the folio was jointly held, the order of holders’ moves up with second holder now becoming the first holder. If there was no joint holding but there is a nomination made in the folio, then the units are passed on to the nominee. The joint holder and the nominees are deemed to hold the units in trust for the heirs of the original holder till such time the legal entitlements are decided.


Statement of Account

It is one of the most important documents issued by the fund house signifying your holdings in the fund and the latest value. It is computer generated and unsigned and is not a certificate that can be traded. The statement is sent by the R&T agent to the investor. A consolidated account statement (CAS) has to be sent to investors every month there is a transaction in the folio before the 10th of the month. Any discrepancy in the statement of account must be immediately reported to the fund.


Systematic Transactions

If you want to do a set of transactions on a regular and routine basis, you can give a mandate to the fund for systematic transactions. Investors may choose to invest periodically rather than in a lump sum to benefit from volatility in prices or they may choose to redeem periodically to generate regular payout from the investment. Systematic investment plans (SIP), systematic withdrawal plans (SWP), systematic transfer plans (STP) and switches are some of the popular systematic transactions provided by funds.


Benefits of Investing In Mutual Funds

Mutual funds offer a series of benefits like professional management, automatic diversification, flexibility, an array of choices. Let us look at some specific benefits of mutual funds as an asset class.

  • Mutual funds provide access to invest in an array of asset classes like equity, debt, gold and real estate. Mutual funds enable investors to become beneficial owners of a diversified asset portfolio created and managed by the fund.
  • The fund manager and the fund management ecosystem is another big advantage. Funds evaluate select securities, manage portfolios and also rebalance these portfolios regularly, based on changing conditions and opportunities.
  • Mutual funds give access to assets and asset classes that may otherwise be out of reach of retail investors. Fund managers create a large portfolio of diverse assets and that ensures diversification of risk.
  • Mutual funds give the flexibility to an investor to organize their investments according to their convenience. Mutual funds offer flexibility in terms of asset classes, asset mix, payouts, growth, TERs and also systematic investment and withdrawal options.
  • Mutual fund investing is a single relationship with the AMC unlike equities which require multiple relationships with the broking company and the DP. The process is also more elaborate and complex in direct equities.
  • Mutual funds actually provide an easier and more efficient way of investing in different asset classes and securities. You can have a one point access to assets ranging from equity to short term debt to long term debt to gold and realty.
  • Finally, mutual funds gel best with your overall financial planning exercise. The mutual fund SIPs are the best tools to tag to your medium term and long term goals. That gives a sense of purpose to your investments.


Small Saving Instruments

Indian government has a number of small saving schemes to encourage investors to save regularly. These schemes  are deliberately made attractive with higher than market rates of return or tax benefits or a combination of both.

Public Provident Fund (PPF)

The objective of the PPF is to provide a long term retirement planning option to those individuals who may not be covered by the provident funds of their employers or may be self-employed. Normally employees are covered under contributory provident funds (CPF) by their employers. The PPF is aimed at others, although this is open to everybody. Here are some of the salient features of PPF.

  • PPF is a 15-year deposit account and that can be opened with a designated bank or a post office. It can also be opened online with a few banks.
  • One person can hold only one PPF account in their name but each member of the family can have a PPF account opened in their name; including minors.
  • PPF account can be only opened by individuals while HUFs (Hindu Undivided Family) and NRIs are not allowed to open PPF accounts.
  • Minimum amount of Rs.500 per year needs to be deposited in the PPF account and the maximum annual limit is Rs.1,50,000.
  • Interest is calculated on the lowest balance in the account between 5th of the month and the last day of the month. Such interest is accrued and not paid out.
  • The PPF account matures after expiry of 15 years from the end of financial year in which the account was opened but loans can be taken after the fourth year.
  • In the event of the death of the PPF account holder during the term of the scheme, the balance in the account is paid to the nominee or the legal heir
  • Contribution to PPF is eligible for deduction under sec 80C within the overall limit of Rs.1.50 lakhs. Interest is also completely tax free. Redemptions are also tax free.


National Savings Certificate (NSC)

National Savings Certificates (NSC) is also issued by the government and available for purchase at the post office. The NSC is issued with a tenor of 5 years (NSC VIII issue amended as of December 1, 2011). Interest is compounded annually and accumulated and paid on maturity. However, such interest is taxable in the hands of the investor and the accrued interest needs to be disclosed in the tax return each and tax paid, although the interest is not actually received.

NSC can be purchased by individuals on their own account or on behalf of minors. NSC cannot be bought and owned by NRI, HUF, Companies, trusts, societies, or other institutions. Joint holding is allowed and the certificate can be held jointly by up to two joint holders on joint basis or either or survivor basis. Certificates are available in denominations of Rs.100, 500, 1000, 5000, and 10000. The minimum investment is Rs.100 and there is no maximum limit. The certificates can be bought by cash or through cheques or demand drafts, which is one of the reasons it has been extremely popular. Investments in NSC are eligible for deduction under Section 80C of the Income Tax Act within the overall limit of Rs.150,000. NSC can be held in physical or demat form and are eligible collateral for loans.

Senior Citizens’ Saving Scheme (SCSS)

The Senior Citizens’ Saving Scheme (SCSS) is available only to senior citizens who are 60 or above on the date of opening the account. The limit stands reduced to 55 years in case of an individual retiring on superannuation or under VRS / special VRS. The SCSS account can be opened at any post office undertaking savings bank work and a branch of a bank authorized to do so. The scheme can be held in individual capacity or jointly with the spouse. SCSS is not open to NRIs, PIOs and HUFs.

SCSS has a default term period of 5 years and a one-time extension of 3 years is allowed. SCSS has a maximum investment limit of Rs.15 lakhs. The deposit can be made in cash if the amount is less than Rs. 1 lakh, or cheques or demand draft. The benefit of section 80C is available on investment but interest is fully taxable.

Post Office Schemes and Deposits

The post office offers a number of savings schemes for individuals and these are guaranteed by the government of India so they are absolutely safe for investment in terms of repayment of principal and timely payment of interest. Here are some of the popular post office savings schemes available.

  • The Post Office Monthly Income Scheme (POMIS) offers regular monthly income to the depositors and has a term of 5 years. Minimum amount of investment in the scheme is Rs.1500, and the maximum amount is Rs.4.5 lakhs for a single account and Rs.9 lakhs if the account is held jointly. The deposit can be made in cash, cheque or demand draft. Applicable interest rate is announced each quarter and payable on a monthly basis with no bonus on maturity. Nomination facility is available
  • Post Office Time Deposits (POTD) are like the FDs offered by banks. POTDs are accepted by the post office with terms of one year, two years, three years and five years. The account can be held singly in individual capacity or jointly by two holders. It entails a minimum deposit amount is Rs.200 and there is no maximum limit. The interest rates on these deposits vary every quarter as announced by the government. Interest rates are compounded quarterly and are subject to tax. POTDs are eligible for tax benefits under Section 80C of the Income Tax Act
  • Post Office Recurring Deposit (PORD) accounts can be opened by resident individuals or two people can hold an account jointly or on either or survivor basis. Minimum amount of investment is Rs.10 per month and in multiples of Rs.5 thereafter for every calendar month. There is no maximum investment limit. Interest is payable on a quarterly compounded basis. The maturity amount with interest is paid at the end of the term. Interest is taxable.


Kisan Vikas Patra (KVP)

Resident Indians are eligible to buy KVP but NRIs, HUFs and other entities are not eligible to invest in KVP. It can be purchased from any departmental post office or bank through cash, local cheque or demand draft. KVP is available in denomination of Rs.1000, Rs.5000, Rs.10,000 and Rs.50,000 and minimum investment is Rs.1000 with no maximum investment. KVP can be prematurely cashed 2½ years from the date of issue. There are no tax benefits; either on the investment or on the interest.

Sukanya Samriddhi Account Scheme (SSAS)

The Sukanya Samriddhi Account is a scheme launched for the benefit of girl children. The account has to be opened in the name of the girl child by a natural or legal guardian. The account can be opened with an authorized list of banks but only one account can be opened in the name of a girl child. The age of the girl child cannot be more than 10 years at the time of opening the account. The minimum investment is Rs.1000 in a financial year and the maximum investment in a year cannot exceed Rs.1,50,000.

Sovereign Gold Bond Scheme, 2015

Sovereign Gold Bond Scheme (SGB) was launched in 2015 to provide an alternative way for investors to take exposure to gold as an investment. SGBs are government securities denominated in grams of gold. The bonds are issued in denomination of one gram of gold and in multiples thereof. The tenor of the bond is 8 years.


The value of the bond will reflect the price of gold. The SGB currently bears an interest rate of 2.50% and is paid semi-annually to the account of the bond holder. Each issue of SGB has to be mandatorily listed after 6 months of the issue and that provides secondary market liquidity. However, the exemption from capital gains tax is available to the investors only if the bond is held till maturity period; which is 8 years. The bonds can be held in physical form or in demat form and early redemption is allowed after the fifth year from the date of issue. There is a maximum investment limit of 4 kg for individuals and HUFs and 20kgs for trusts


Gold Monetisation Scheme, 2015

Gold Monetisation Scheme (GMS) is a scheme that allows resident investors including individuals, HUFs, Trusts and companies to monetise the gold held by them into interest earning deposits with Scheduled Commercial Banks. The gold  can be in the form of coins, bars or jewellery. The gold deposited under the scheme should be assayed by the Central Purity Testing Centre (CPTC) and converted in tradable gold bars of 995-purity after refining. The minimum gold deposited must be 30 grams and there is no maximum limit. The gold can be converted into short term bank deposits (1-3 years). The interest will be credited periodically to the account and can be either withdrawn or allowed to accumulate till maturity. However, the gold monetization scheme failed to gain popularity like the Gold Bond Scheme as people in India are a lot more wary of getting their gold converted, especially when it looked upon as family heirlooms.


Fixed Income Instruments (Debt Instruments)

The Indian debt markets are essentially wholesale markets dominated by institutional investors. The following are the four categories available.

  • Government securities
  • Corporate bonds
  • Company deposits
  • Structured Finance


Government Securities

Government securities (G-Secs) are issued by the RBI on behalf of the government and it represents the borrowing of the government to meet the deficit. India has traditionally run a large fiscal deficit and has had to borrow to meet the gap. That gap is made up by issue of government securities. G-Secs are issued through auctions announced by RBI from time to time. Banks, mutual funds, insurance companies, provident fund trusts and such institutional investors are large and regular buyers of G-Secs. Most retail investors don’t participate directly in G-Secs but they do participate indirectly through debt mutual funds.


Inflation-Indexed Bonds

Inflation-Indexed Bonds (IIB) are government securities issued by RBI which gives inflation-protected returns to investors. These bonds have a fixed real coupon rate (real rate = nominal rate – inflation rate). On maturity, the higher of the face value and the inflation-adjusted principal is paid out to the investor. This is a very sound instrument at a time when the inflation is rising but interest rates are not rising. It gives them protection against rising inflation as it is inflation that compresses real returns.


Corporate Bonds

Corporate bonds are debt instruments issued by private and public sector companies. They are issued for tenors ranging from two years to 15 years but the most popular tenors are 5- year and 7-year bonds. Corporate bonds carry default risk, unlike government securities that are free of default risk. That is why the yields on corporate bonds are higher than on G-Secs. Corporate bonds are either privately placed or issued through the IPO route. The preferred route for issuers is the private placement route.


Infrastructure Bonds

The government announces from time to time, a list of infrastructure bonds that are eligible for deduction under Section 80C of the Income Tax Act. Such issuers typically included SIDBI, NABARD, IIFCL, IREDA etc.

 Apart from tax-exempt bonds above, there are also tax-free bonds issued by the likes of NHAI and REC where the interest income is totally tax-free in the hands of the investor. These are preferred by HNIs. Infrastructure bonds are mandatorily credit rated and can also be issued in the Demat form.


Bank Deposits

A bank fixed deposit (FD) is also called as a term or time deposit, as it is a deposit account with a bank for a fixed period of time. It entitles the investor to pre-determined interest payments and return of the deposited sum on maturity.



These are recent innovations that issue pass-through certificates against a portfolio of real estate assets or infrastructure assets.