Mutual fund

A mutual fund is a type of professionally managed collective investment vehicle that pools money from many investors to purchase securities. While there is no legal definition of the term "mutual fund", it is most commonly applied only to those collective investment vehicles that are regulated and sold to the general public. They are sometimes referred to as "investment companies" or "registered investment companies." Most mutual funds are "open-ended," meaning investors can buy or sell shares of the fund at any time. Hedge funds are not considered a type of mutual fund. The term mutual fund is less widely used outside of the United States and Canada. For collective investment vehicles outside of the United States, see articles on specific types of funds including open-ended investment companies, SICAVs, unitized insurance funds, unit trusts and Undertakings for Collective Investment in Transferable Securities, which are usually referred to by their acronym UCITS. In the United States, mutual funds must be registered with the Securities and Exchange Commission, overseen by a board of directors (or board of trustees if organized as a trust rather than a corporation or partnership) and managed by a registered investment adviser. Mutual funds are not taxed on their income and profits if they comply with certain requirements under the U.S. Internal Revenue Code. Mutual funds have both advantages and disadvantages compared to direct investing in individual securities. They have a long history in the United States. Today they play an important role in household finances, most notably in retirement planning. Mutual funds have both advantages and disadvantages compared to direct investing in individual securities. They have a long history in the United States. Today they play an important role in household finances, most notably in retirement planning. Mutual funds are generally classified by their principal investments. The four main categories of funds are money market funds, bond or fixed income funds, stock or equity funds and hybrid funds. Funds may also be categorized as index or actively managed. Investors in a mutual fund pay the funds expenses, which reduce the fund's returns/performance. There is controversy about the level of these expenses. A single mutual fund may give investors a choice of different combinations of

expenses (which may include sales commissions or loads) by offering several different types of share classes. Mutual funds are not taxed on their income and profits as long as they comply with requirements established in the U.S. Internal Revenue Code. Specifically, they must diversify their investments, limit ownership of voting securities, distribute a high percentage of their income and capital gains (net of capital losses) to their investors annually, and earn most of the income by investing in securities and currencies. Mutual funds pass taxable income on to their investors by paying out dividends and capital gains at least annually. The characterization of that income is unchanged as it passes through to the shareholders. For example, mutual fund distributions of dividend income are reported as dividend income by the investor. There is an exception: net losses incurred by a mutual fund are not distributed or passed through to fund investors but are retained by the fund to be able to offset future gains. Mutual funds may invest in many kinds of securities. The types of securities that a particular fund may invest in are set forth in the fund's prospectus, which describes the fund's investment objective, investment approach and permitted investments. The investment objective describes the type of income that the fund seeks. For example, a "capital appreciation" fund generally looks to earn most of its returns from increases in the prices of the securities it holds, rather than from dividend or interest income. The investment approach describes the criteria that the fund manager uses to select investments for the fund. A mutual fund's investment portfolio is continually monitored by the fund's portfolio manager or managers.

The Origins of Mutual Funds

The first mutual funds were established in Europe. One researcher credits a Dutch merchant with creating the first mutual fund in 1774. The first mutual fund outside the Netherlands was the Foreign & Colonial Government Trust, which was established in London in 1868. It is now the Foreign & Colonial Investment Trust and trades on the London stock exchange. Mutual funds were introduced into the United States in the 1890s. They became popular during the 1920s. These early funds were generally of the closed-end type with a fixed number of shares which often traded at prices above the value of the portfolio.

The first open-end mutual fund with redeemable shares was established on March 21, 1924. This fund, the Massachusetts Investors Trust, is now part of the MFS family of funds. However, closed-end funds remained more popular than open-end funds throughout the 1920s. By 1929, open-end funds accounted for only 5% of the industry's $27 billion in total assets. After the stock market crash of 1929, Congress passed a series of acts regulating the securities markets in general and mutual funds in particular. The Securities Act of 1933 requires that all investments sold to the public, including mutual funds, be registered with the Securities and Exchange Commission and that they provide prospective investors with a prospectus that discloses essential facts about the investment. The Securities and Exchange Act of 1934 requires that issuers of securities, including mutual funds, report regularly to their investors; this act also created the Securities and Exchange Commission, which is the principal regulator of mutual funds. The Revenue Act of 1936 established guidelines for the taxation of mutual funds, while the Investment Company Act of 1940 governs their structure. When confidence in the stock market returned in the 1950s, the mutual fund industry began to grow again. By 1970, there were approximately 360 funds with $48 billion in assets. The introduction of money market funds in the high interest rate environment of the late 1970s boosted industry growth dramatically. The first retail index fund, First Index Investment Trust, was formed in 1976 by The Vanguard Group, headed by John Bogle; it is now called the Vanguard 500 Index Fund and is one of the world's largest mutual funds, with more than $100 billion in assets as of January 31, 2011. Fund industry growth continued into the 1980s and 1990s, as a result of three factors: a bull market for both stocks and bonds, new product introductions (including tax-exempt bond, sector, international and target date funds) and wider distribution of fund shares. Among the new distribution channels were retirement plans. Mutual funds are now the preferred investment option in certain types of fast-growing retirement plans, specifically in 401(k) and other defined contribution plans and in individual retirement accounts (IRAs), all of which surged in popularity in the 1980s. Total mutual fund assets fell in 2008 as a result of the credit crisis of 2008. In 2003, the mutual fund industry was involved in a scandal involving unequal treatment of fund shareholders. Some fund management companies allowed favored investors to engage in late trading, which is illegal, or market timing, which is a practice prohibited by fund policy. The scandal was initially discovered by then-New York State Attorney General Eliot Spitzer and resulted in significantly increased regulation of the industry.

At the end of 2011, there were over 14,000 mutual funds in the United States with combined assets of $13 trillion, according to the Investment Company Institute (ICI), a trade association of investment companies in the United States. The ICI reports that worldwide mutual fund assets were $23.8 trillion on the same date. Mutual funds play an important role in U.S. household finances and retirement planning. At the end of 2011, funds accounted for 23% of household financial assets. Their role in retirement planning is particularly significant. Roughly half of assets in 401(k) plans and individual retirement accounts were invested in mutual funds.

Advantages and disadvantages

Mutual funds have advantages compared to direct investing in individual securities. These include:

Increased diversification Daily liquidity Professional investment management Ability to participate in investments that may be available only to larger investors Service and convenience Government oversight Ease of comparison

Mutual funds have disadvantages as well, which include:

Fees Less control over timing of recognition of gains Less predictable income No opportunity to customize

Types

There are 3 principal types of mutual funds in the United States: open-end funds, unit investment trusts (UITs); and closed-end funds. Exchange-traded funds (ETFs) are open-end funds or unit investment trusts that trade on an exchange; they have gained in popularity recently. While the term "mutual fund" may refer to all three types of registered investment companies, it is more commonly used to refer exclusively to the open-end type.

Open-end funds
Open-end mutual funds must be willing to buy back their shares from their investors at the end of every business day at the net asset value computed that day. Most open-end funds also sell shares to the public every business day; these shares are also priced at net asset value. A professional investment manager oversees the portfolio, buying and selling securities as appropriate. The total investment in the fund will vary based on share purchases, share redemptions and fluctuation in market valuation. There is no legal limit on the number of shares that can be issued. Open-end funds are the most common type of mutual fund. At the end of 2011, there were 7,581 open-end mutual funds in the United States with combined assets of $11.6 trillion.

Closed-end funds
Closed-end funds generally issue shares to the public only once, when they are created through an initial public offering. Their shares are then listed for trading on a stock exchange. Investors who no longer wish to invest in the fund cannot sell their shares back to the fund (as they can with an open-end fund). Instead, they must sell their shares to another investor in the market; the price they receive may be significantly different from net asset value. It

may be at a "premium" to net asset value (meaning that it is higher than net asset value) or, more commonly, at a "discount" to net asset value (meaning that it is lower than net asset value). A professional investment manager oversees the portfolio, buying and selling securities as appropriate. At the end of 2011, there were 634 closed-end funds in the United States with combined assets of $239 billion.

Unit investment trusts

Unit investment trusts or UITs issue shares to the public only once, when they are created. UITs generally have a limited life span, established at creation. Investors can redeem shares directly with the fund at any time (as with an open-end fund) or wait to redeem upon termination of the trust. Less commonly, they can sell their shares in the open market. Unit investment trusts do not have a professional investment manager. Their portfolio of securities is established at the creation of the UIT and does not change. At the end of 2011, there were 6,022 UITs in the United States with combined assets of $60 billion.

Exchange-traded funds
A relatively recent innovation, the exchange-traded fund or ETF is often structured as an open-end investment company, though ETFs may also be structured as unit investment trusts, partnerships, investments trust, grantor trusts or bonds (as an exchange-traded note). ETFs combine characteristics of both closed-end funds and open-end funds. Like closed-end funds, ETFs are traded throughout the day on a stock exchange at a price determined by the market. However, as with open-end funds, investors normally receive a price that is close to net asset value. To keep the market price close to net asset value, ETFs issue and redeem large blocks of their shares with institutional investors.

The Mutual Funds Industry in India

The beginning of mutual funds in India was laid by the enactment of the Unit Trust of India (UTI) Act in 1963. The objective was to provide investors from the middle and lower income groups with a route to invest in the equity market. It was also meant to encourage savings. UTI brought out its first fund, Unit Scheme (US) 64 in 1964. It called an amount of Rs.246.7 millionS. UTI remained a monopoly in the mutual fund industry till 1987. By then US 64 had grown to Rs.32.69 billion and the overall asset base of UTI was RS.67.38 billion with 25 different schemes. In 1987 other public sector banks were allowed to offer mutual funds. The State Bank of India (SBI) set up the SBI Mutual Fund and Canara Bank Mutual Fund. Other public sector banks such as Bank of India, Punjab National Bank, Indian Bank entered the fray by 1990. Two public sector insurance companies Life Insurance Corporation of India (LlC) and General Insurance Corporation of India (GIC) also started their own mutual fund companies. But during this period only public sector companies were permitted to enter the mutual fund market. The collective assets under management continued to grow and by the end of 1993 it was Rs.470 billion with UTI alone accounting for RS.390 billion>' There were 44.7 million investors in mutual funds". 1992-93 saw the beginning of economic reforms in India. The reforms aimed at reducing government control over the economy and allowing for greater play for the private sector besides others. In keeping with tihis direction the private sector was allowed to enter the mutual fund industry in 1993. In keeping with this direction the private sector was allowed to enter the mutual fund industry in 1993. In the same year the first mutual fund regulations 1993 SEBI (mutual fund) Regulations came into being. This was later substituted by a more comprehensive set of regulations - SEBI (mutual fund) Regulations 1996. However, UTI did not come under these regulations and continued to be governed under the UTI Act of 1963. By 2003 the total assets under management (AUM) had increased to Rs.1 ,218 billion w~h 33 mutual fund families and 401 funds. UTI alone accounted for Rs.445 billion of the total AUM9. In 2003 the public sector UTI, which had faced serious problems in the late 90's and again during 2002, was spl~ into two entities. One was the specified undertaking of UTI which managed US 64, assured retum schemes and others which totaled to Rs.298.4 billion and the other was UTI Mutual Fund

Ltd'o. The latter came under the regulations of SEBI. Since 2003 the mutual fund industry has also seen a spate of mergers. Hence this period was marked by consolidation. By March 2007 the total AUM excluding UTI touched Rs.3,591 billion showing a phenomenal growth of 47 percent yearon-year since 2003". During this period only Russia and China did better than India w~h AUM growth rates of 97 percent and 67 percent, respectively

Index fund
An index fund or index tracker is a collective investment scheme (usually a mutual fund or exchange-traded fund that aims to replicate the movements of an index of a specific financial market, or a set of rules of ownership that are held constant, regardless of market conditions. As of 2007, index funds made up over 11% of equity mutual fund assets in the US.

Tracking
Tracking can be achieved by trying to hold all of the securities in the index, in the same proportions as the index. Other methods include statistically sampling the market and holding "representative" securities. Many index funds rely on a computer model with little or no human input in the decision as to which securities are purchased or sold and are thus subject to a form of passive management.

Fees
The lack of active management generally gives the advantage of lower fees (which otherwise reduce the investor's return) and, in taxable accounts, lower taxes. In addition it is usually impossible to precisely mirror the index as the models for sampling and mirroring, by their nature, cannot be 100% accurate. The difference between the index performance and the fund performance is called the "tracking error", or, colloquially, "jitter".

Index funds are available from many investment managers. Some common indices include the S&P 500, the Nikkei 225, and the FTSE 100. Less common indexes come from academics like Eugene Fama and Kenneth French, who created "research indexes" in order to develop asset pricing models, such as their Three Factor Model. The Fama-French three-factor model is used by Dimensional Fund Advisors to design their index funds. Robert Arnott and Professor Jeremy Siegel have also created new competing fundamentally based indexes based on such criteria as dividends, earnings, book value, and sales.

Origins
In 1973, Burton Malkiel wrote A Random Walk Down Wall Street, which presented academic findings for the lay public. It was becoming well known in the lay financial press that most mutual funds were not beating the market indices. Malkiel wrote What we need is a no-load, minimum management-fee mutual fund that simply buys the hundreds of stocks making up the broad stockmarket averages and does no trading from security to security in an attempt to catch the winners. Whenever below-average performance on the part of any mutual fund is noticed, fund spokesmen are quick to point out "You can't buy the averages." It's time the public could. ....there is no greater service [the New York Stock Exchange] could provide than to sponsor such a fund and run it on a nonprofit basis.... Such a fund is much needed, and if the New York Stock Exchange (which, incidentally has considered such a fund) is unwilling to do it, I hope some other institution will.

John Bogle graduated from Princeton University in 1951, where his senior thesis was titled: "Mutual Funds can make no claims to superiority over the Market Averages." Bogle wrote that his inspiration for starting an index fund came from three sources, all of which confirmed his 1951 research: Paul Samuelson's 1974 paper, "Challenge to Judgment", Charles Ellis' 1975 study, "The Loser's Game", and Al Ehrbar's 1975Fortune magazine article on indexing. Bogle founded The Vanguard Group in 1974; it is now the largest mutual fund company in the United States as of 2009.

Bogle started the First Index Investment Trust on December 31, 1975. At the time, it was heavily derided by competitors as being "un-American" and the fund itself was seen as "Bogle's folly". Fidelity Investments Chairman Edward Johnson was quoted as saying that he "[couldn't] believe that the great mass of investors are going to be satisfied with receiving just average returns". Bogle's fund was later renamed the Vanguard 500 Index Fund, which tracks the Standard and Poor's 500 Index. It started with comparatively meager assets of $11 million but crossed the $100 billion milestone in November 1999; this astonishing increase was funded by the market's increasing willingness to invest in such a product. Bogle predicted in January 1992 that it would very likely surpass the Magellan Fund before 2001, which it did in 2000. John McQuown and David G. Booth at Wells Fargo and Rex Sinquefield at American National Bank in Chicago both established the first Standard and Poor's Composite Index Funds in 1973. Both of these funds were established for institutional clients; individual investors were excluded. Wells Fargo started with $5 million from their own pension fund, while Illinois Bell put in $5 million of their pension funds at American National Bank. In 1971, Jeremy Grantham and Dean LeBaron at Batterymarch Financial Management "described the idea at a Harvard Business School seminar in 1971, but found no takers until 1973. For its efforts, Batterymarch won the "Dubious Achievement Award" from Pensions & Investments magazine in 1972. Two years later, in December 1974, the firm finally attracted its first index client. In 1981, David Booth and Rex Sinquefield started Dimensional Fund Advisors (DFA), and McQuown joined its Board of Directors many years later. DFA further developed indexed based investment strategies. Frederick L.A. Grauer at Wells Fargo harnessed McQuown and Booth's indexing theories such that Wells Fargo's pension funds managed over $69 billion in 1989 and over $565 billion in 1998. Wells Fargo sold its indexing operation to Barclay's Bank of London, and it now operates as Barclays Global Investors; it is one of the world's largest money managers.

Indexing methods
Traditional indexing
Indexing is traditionally known as the practice of owning a representative collection of securities, in the same ratios as the target index. Modification of security holdings happens only when companies periodically enter or leave the target index.

Synthetic indexing
Synthetic indexing is a modern technique of using a combination of equity index futures contracts and investments in low risk bonds to replicate the performance of a similar overall investment in the equities making up the index. Although maintaining the future position has a slightly higher cost structure than traditional passive sampling, synthetic indexing can result in more favourable tax treatment, particularly for international investors who are subject to U.S. dividend withholding taxes. The bond portion can hold higher yielding instruments, with a trade-off of corresponding higher risk, a technique referred to as enhanced indexing.

Enhanced indexing
Enhanced indexing is a catch-all term referring to improvements to index fund management that emphasize performance, possibly using active management. Enhanced index funds employ a variety of enhancement techniques, including customized indexes (instead of relying on commercial indexes), trading strategies, exclusion rules, and timing strategies. The cost advantage of indexing could be reduced or eliminated by employing active management. Enhanced indexing strategies help in offsetting the proportion of tracking error that would come from expenses and transaction costs. These enhancement strategies can be:

lower cost, issue selection, yield curve positioning, sector and quality positioning and call exposure positioning.

Advantages
Low costs Because the composition of a target index is a known quantity, it costs less to run an index fund. No highly paid stock pickers or analysts are needed. Typically expense ratios of an index fund range from 0.15% for U.S. Large Company Indexes to 0.97% for Emerging Market Indexes. The expense ratio of the average large cap actively managed mutual fund as of 2005 is 1.36%. If a mutual fund produces 10% return before expenses, taking account of the expense ratio difference would result in an after expense return of 9.85% for the large cap index fund versus 8.64% for the actively managed large cap fund.

Simplicity The investment objectives of index funds are easy to understand. Once an investor knows the target index of an index fund, what securities the index fund will hold can be determined directly. Managing one's index fund holdings may be as easy as rebalancing every six months or every year. Lower turnovers Turnover refers to the selling and buying of securities by the fund manager. Selling securities in some jurisdictions may result in capital gains tax charges, which are sometimes passed on to fund investors. Even in the absence of taxes, turnover has both explicit and implicit costs, which directly reduce returns on a dollar-for-dollar basis. Because index funds are passive investments, the turnovers are lower than actively managed funds. According to a study conducted by John Bogle over a sixteen-year period, investors get to keep only 47% of the cumulative return of the average actively managed mutual fund, but they keep 87% in a market index fund. This means $10,000 invested in the index fund grew to $90,000 vs. $49,000 in the average actively managed stock mutual fund. That is a 40% gain from the reduction of silent partners. No style drift Style drift occurs when actively managed mutual funds go outside of their described style (i.e. mid-cap value, large cap income, etc.) to increase returns. Such drift hurts portfolios that are built with diversification as a high priority. Drifting into other styles could reduce the overall portfolio's diversity and subsequently increase risk. With an index fund, this drift is not possible and accurate diversification of a portfolio is increased.

Disadvantages
Possible tracking error from index Since index funds aim to match market returns, both under- and overperformance compared to the market is considered a "tracking error". For example, an inefficient index fund may generate a positive tracking error in a falling market by holding too much cash, which holds its value compared to the market.

According to The Vanguard Group, a well run S&P 500 index fund should have a tracking error of 5 basis points or less, but a Morningstar survey found an average of 38 basis points across all index funds. Cannot outperform the target index By design, an index fund seeks to match rather than outperform the target index. Therefore, a good index fund with low tracking error will not generally outperform the index, but rather produces a rate of return similar to the index minus fund costs.

Index composition changes reduce return Whenever an index changes, the fund is faced with the prospect of selling all the stock that has been removed from the index, and purchasing the stock that was added to the index. The S&P 500 index has a typical turnover of between 1% and 9% per year. In effect, the index, and consequently all funds tracking the index, are announcing ahead of time the trades that they are planning to make. As a result, the price of the stock that has been removed from the index tends to be driven down, and the price of stock that has been added to the index tends to be driven up, in part due to arbitrageurs, in a practice known as "index front running". The index fund, however, has suffered market impact costs because it had to sell stock whose price was depressed and buy stock whose price was inflated. These losses can, however, be considered small relative to an index fund's overall advantage gained by low costs. INDEX FUND : GOOD OPTION FOR NEW INVESTORS

Index funds are for those investors who arent comfortable with stock picking and the idea of keeping a close watch on their portfolio, they can earn by simply putting their money in a fund that closely tracks key indices such as Sensex and Nifty. Both the indices represent Indias largest companies across leading sectors. An index fund gives the opportunity to buy stocks in the same proportion as their reference index. Theoretically, an index fund is an investment that tries to mirror the movement of the index of a specific financial market regardless of market conditions. These funds have a tracking error i.e. difference between index and fund returns. Lower the tracking error better is the alignment of returns.

First time investors can opt for index funds as they have good exposure to large cap stocks and dont cause undue volatility. According to the experts though performance assessment is required to make an investment decision, it is only useful if the comparison is made on a long term basis- say three - five years.

In recent times the volatility in markets has made investors cautious on direct exposure in equities. The investors are realizing the importance of passive investing strategy that attempts to reproduce or match the returns of an index. An index fund provides investors the opportunity to own a basket of blue-chip stocks, while not relying only on one sector or a diverse portfolio to generate returns. According to the experts, entry-level investors can invest a good amount of money in these types of funds. Index funds save investors significant amount of money in annual fees compared to actively managed funds. Index funds are easier to create, manage and sell than the actively managed counterparts. The good point about index funds is that the management expense ratio on these is lesser in comparison to the dynamically supervised mutual funds. Within index funds, a combination of low expenses and low tracking error will help in identifying good funds. They are sold as a safer alternative to actively managed equity funds.

It has been noticed that several diversified funds have underperformed compared index funds. The category average of diversified funds stood at 1.59% in one year, whereas S&P Nifty and BSE Sensex stood at 3.71% and 3.49% respectively in one year ending July 20, 2011. The index funds category generated 3.32% returns in one year as on 20th July 2011. This shows that the diversified funds have underperformed the broad market index. From this, one will prefer to invest in index funds than in actively managed funds. As the index fund category has generated more returns than the actively managed funds. According to the investment experts, if an index fund outperforms its benchmark, then it can underperform the same later. The investor should go for the fund which closely maps the index. With index funds, portfolios are naturally diversified because the market itself id diversified. Therefore, there is less risk because not all of the investors eggs are in one basket. Though index funds fetch low returns compared to diversified funds, but they fall less sharply during a downturn. There is less churning in the index fund portfolio.

In short, Index funds are a good option for new investors who do not have any previous experience of investing in the markets. Whereas other types of funds call for more understanding and attention, you do not need to monitor how index fund is going. You can just look at the index and you will know how your investments are performing. However, one who wants to invest in index funds should consider two important factors tracking error and expense ratio.

ICICI Prudential Index Fund

ICICI Prudential Index Fund is being managed by Kayzad Eghlim since Aug 2009. The fund managers job ends at allocating funds in stocks in the same proportion as found in Nifty index. The fund has given average returns like most other index funds. New investors can skip this one for better large cap funds.

Where does ICICI Prudential Index Fund invest your money ?

ICICI Prudential Index Fund is a large cap index fund which means your money will be invested in stocks on the Nifty in the same proportion as they occur on the index. Large cap companies tend to be stable compared to mid cap and small cap companies. It has 98% exposure to large size companies and close to 1% exposure to mid cap companies.

Suitable for what?

Lifestyle needs Creating wealth quickly Short term needs

Not suitable for what?

Child's education Child's marriage Planning for retirement Home Purchase

How has ICICI Prudential Index Fund performed in the past?

If you had invested Rs 1 lakh when the fund was launched in Feb 2002, your value of investments would be around Rs 5.19 lakhs. If you had invested Rs 1 lakh five years back it would have become Rs 1.15 lakhs. The performance has been not better or similar to other large cap mutual funds. The fund has been giving around 3% returns to those who have stayed invested for 5 years. Assume you had invested Rs 10,000 every month in ICICI Prudential Index Fund through SIP for the past 5 years today you would have around Rs 7.5 lakhs.

What are the charges applicable?

If units are sold within a year an exit load of 1% is deducted from your total returns. No exit load applies for units withdrawn post one year. Expense ratio of ICICI Prudential Index Fund is 1.50%. This is charged to recover the fund management companys expenses on securities transactions, commissions, registrar fees, etc. Your mutual fund returns will be total returns less expense ratio.

What are the tax implications?

The returns in an equity mutual fund are absolutely tax free, provided you do not withdraw within 1 year.