We reviewed "What is Share Market" in our last video.
To add that share market exposure in our
portfolio, Mutual Funds are good option.
So we should definitely know about Mutual Funds.
Today in this episode, we will take a look at "What is a Mutual Fund?"
and how we can choose a good Mutual Fund in detail.
Lets say that we have some money in our hand and
we would like to invest in an asset that has growth potential.
But we neither have the time to research the investment
nor the skills
So handing over the money to a specialist who has the skills to invest
and have them invest for us is Mutual Funds.
Each Mutual Fund has an Investment Objective.
We can see that in their Fund Summary.
We are looking at the fact sheet of
"Canara Bank Emerging Equities Growth".
Their objective is to invest in Diversified
Large and Midcap Companies and achieve capital growth.
Just like how this fund has objective as investing in
Diversified Large and Midcap companies, many funds have
investing in Technology or Finance sector as their objective.
And some others have region specific objective like
Emerging Markets and US Stocks.
By looking at the investment objective of the fund, we
can understand the type of assets the fund is investing in.
Each mutual fund has a fund manager.
He/She manages the assets in the fund.
i.e. With the money from investors,
the fund manager decides on which assets to invest in
according to the objective of the fund.
In this example, Miyush Gandhi is the fund manager
This box is called "Morning Star Style Box"
Because this was introduced by Mutual Fund
research company "Morningstar".
This box shows on the type of assets the
fund is investing in.
By the way, Morningstar.com is a
good site to research mutual funds.
We are seeing Large, Mid and Small in
Y axis of this box. In X axis,
we are seeing Growth, Blend and Value.
Large means Largecap companies.
If the value / Marketcap of the company is
above Rs. 20,000 Cr, then it is a large cap company.
In US, a company with marketcap above $10B
is called large cap.
Because largecaps are well established big companies,
the risk is less.
But, we cannot expect the aggressive growth
as in small companies.
Midcap is Medium sized companies. Its marketcap is
between Rs. 5,000 Cr - 20,000 Cr.
In US, it is between $2B - $10B.
Risk is Medium on this one.
We can expect bigger growth on this one than the largecaps.
Companies with marketcap less than Rs. 5,000 Cr
are small caps.
Volatility is higher on these.
i.e. price movements in these companies move up and down more than
in a largecap company.
So the risk is higher on this one.
But because these are small companies,
the chance of these growing aggressively is high.
In long term, chances of small caps giving more
returns than large and midcaps are high.
The "Growth" we see in X-axis
are companies that grow aggressively.
Growth companies like these, will use their profits
to grow aggressively.
So they most often do not share their profits as
dividends to their investors.
So in this category, the chances of share price
of these companies going up is higher.
But, the risk is also higher.
"Value" is the category that includes companies
that are not appreciated by the market
and are trading at cheaper prices.
Usually risk is less in companies in this category.
Over the time, when the market realizes its value,
the share price will increase.
We cannot expect the same growth in this category
as in growth companies.
But mostly, they pay good dividends.
"Blend" invests in both
Growth and Value companies.
All stock based mutual funds' objective
will be in combination of these six parameters.
So before buying a mutual fund, if we
know the style of the fund,
we can understand
its risk and return potential.
This example is showing large growth.
i.e this fund is investing in growth
oriented large companies.
Before choosing a fund, the most important factor
that we have to check for is its "Expense Ratio".
Because this fund is investing for us,
they charge a fees every year.
We can understand the fees
amount from this expense ratio.
This fund is charging 1.9% as fees.
i.e, for Rs. 1 Lakh, they are charging
Rs. 1900.
Though this fees look small, this makes a
big difference in the long term.
This will change our average return from
15% to 17%.
If we have invested 1 Lakh for 30 yrs,
this 2% difference would have changed the
final amount by 40%.
i.e. if 15% return is resulting in 66 Lakhs,
17% return would have resulted in 1.1 Cr.
So if a fund has bigger expense ratio,
then we should make sure that they have
consistently given higher returns before buying.
From "Assets Allocation" section, We can check
on all the assets this fund has invested in.
In this example, this fund has invested
97.6% in Stocks.
Holding 2.4% as cash.
We can also check the sector split
of all the stocks in this fund.
This fund has invested in "Financial Services" heavily.
We can check the stocks in "Top Holdings" section.
This fund has invested heavily in "HDFC Bank" and
in ICICI Bank.
Finally, we have to compare the performance
of this fund to an Index and if only this fund is
consistently beating the index, we should consider buying it.
There is no reason to buy a fund with high yearly fees
that does not beat an Index.
We are better off buying a cheaper Index Fund.
Mutual Fund's share price does not get
updated in real time like Stock price.
By the end of the day, depending on the value of
total assets in the fund, the share price will change.
In this example, the value of total assets is
Rs. 42,540 Million.
We can see the share price in
NAV (Net Asset Value).
In this example, it is Rs. 80.25.
If we put in an order for a mutual fund
during day time, the number of shares
will be calculated based on the end of day NAV value
and that number of shares will be credited to us
in 2 to 3 days.
For this reason, we cannot see the
number of shares for our order in real time immediately.
But by end of the day, we can calculate it based on the NAV value.
Till now, we were seeing actively managed
Mutual Funds.
i.e. A fund manager is actively managing a fund
by buying/selling stocks/bonds.
If a fund is not actively managed like this, but
passively follows an index, then we call that
as an Index fund or Passive Fund.
Lets take a look at what an Index means.
If we have to define it in simple terms, it is a collection of stocks.
We can call it as a portfolio.
Well known Index in India is National Stock Exchange's Nifty 50.
Top 50 companies by market cap is in
this Index.
The most popular Index in US is S&P 500.
Top US 500 companies are in this Index.
The owner of these Indices reviews
and updates the Index now and then.
Because and Index fund is following an Index,
there is no really much work for a fund manager.
Whenever there is a change in the Index, it needs
to be mimiced here in this fund. That is all the work.
Because it is easier to manage an Index fund,
fund houses charge very less fees.
In US, there are many Index funds with
expense ratio less than 0.1%.
Though it is not that competitive in India,
in recent times - index funds like UTI Nifty 50
is charging only 0.17%.
It is a very good deal when compared to 2% expense ratio.
There are many index funds like
Nifty 50 and S&P 500.
We can choose the index fund that fits
our risk level.
We can see some sample Index funds here.
Nifty 50 is diversified top 50
companies in India by marketcap.
There are similar large cap indices like
Nifty Next 50 and Nifty 100.
There is also a midcap index
Nifty Midcap 50.
There are also sector based indices like
Nifty Bank and Nifty Auto.
In US, S&P is top 500 companies in
USA by marketcap
Russell 3000 - can be dubbed as
US Total Stock Market.
There are only 4000 or so stocks
are trading in US stock market.
3000 of those are in this Index.
Russell 2000 is small cap Index.
The smallest 2000 in Russell 3000
is in this Index.
People who want smallcap exposure
can invest in this index.
There are also Indexes
managed by each fund houses.
Vanguard's Total Stock Market
Index Fund is VTSMX
Vanguard's Information Technology
Index Fund VITAX
What you see as VTI and VGT are
ETFs - Exchange Traded Funds.
We saw earlier that mutual funds do not trade on
real time. But ETF's trade in
real time like stocks.
Mostly an ETF will based off of an Index.
There wont be much human intervention on managing ETF
All handled by computers.
For example, the ETF VTI
will track the total stock market
Index in real time.
Depending on the price of the stocks in the Index
the price of this ETF will change in
real time as well.
Almost all Index types in US
has an ETF.
If our investment amount is big
we can buy an Index based mutual fund.
If it is smaller amount, we can buy an ETF.
Because ETF does not have the minimum investment amount.
Key takeaways from this episode are:
Mutual Funds have both actively managed fund and
a passively managed fund that follows an Index.
Expense ratio of an active fund is high.
Unless it is consistently beating the index,
it is better to avoid buying actively managed fund.
Though an Index fund is a boring one
that follows an Index, it is very
hard to beat the Index in long term.
Index funds like Nifty 50, S&P 500 are well
diversified as well.
Thats why even Warren Buffet is recommending
to buy Index fund for general investors.
If our investment capital is smaller,
we can buy an ETF that follows the same Index.
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We will meet again soon in the next video.
Thanks for watching.