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Explaining Mutual Funds


What is Mutual Fund? A mutual fund is pool of money put together by group of investors, who stand to benefit or loose from that pool to extent they've invested.

This pool is created since small individual investments have limited power and ability to influence outcome of investment. On other hand, when investment is large, investor can have greater control on outcome of investment.

Thus, many small investors gather their individual small investments into larger investment to take advantage of opportunity offered by large investments. This is called mutual fund.

What does Mutual fund invest in? Mutual funds can be created for investing in anything. The investments that mutual fund is going to make are discussed in mutual fund's offer document.

Typically, mutual funds invest in investment opportunity that have a trading market around it, such as shares and shares, bonds and debentures, etc.

How does investors benefit? The most Imp. factors in choosing who to have deposit with, is safety of deposit, and rate of interest that's paid on deposit.

How does Mutual funds works? A mutual fund is managed by an Asset Management Comp. [AMCs]. Professional investors, who study where and when to make investments staff AMC. The AMC creates mutual fund, and invites public to subscribe in mutual fund with their investment. The funds collected are then invested by AMC and are continually managed.

Unlike other investments, mutual fund itself isn't traded nor does it offer guaranteed returns like deposit. The mutual fund's Net Asset Value [NAVs] determines value of investment. Investors redeem their investments in mutual fund on basis of NAV from the mutual fund itself.

Equally, when investors want to buy, they buy into mutual fund on the basis of NAV.

The investments are managed by professionals who know more about deciding what to buy and sell and when to buy and sell.

The risks and rewards of investments are spread across large No. of individuals, so losses are minimized.

Access to funds is quick, since there is no need to sell or buy from the market.

What is Net Asset value? The Net Asset Value of mutual fund is total market value of holdings of mutual fund less its liabilities, such as expenses, management fees, etc. This is calculated on daily basis.

What this means is, if mutual fund were to be dissolved or liquidated, by selling off all assets in fund, on that specified date, Net Asset Value is what all holders of mutual fund will collectively own and will be given this amount in proportion to their holdings.

You can estimate your stock of holding of mutual fund by Net Asset Value per unit. This is value represented by ownership of one unit in fund. It is calculated simply by dividing Net Asset Value of fund by No. of units.

Commonly Net Asset Value is always referred by its unit value rather than by total Net Asset Value of fund.

How is Net Asset value calculated? Net Asset Value is calculated as follows:

Net Asset Value = [Market value of shares/debentures + Liquid assets/cash held, if any + Dividends/interest accrued] - [Amount due on unpaid assets + Expenses incurred but not paid + Management and other fees]

This is how above are calculated

Valuation of marketable shares/debentures: The last or closing market price on principal exchange where security is traded

Valuation of illiquid and unlisted and/or thinly traded shares/debentures: For shares, this could be book value per stock or an estimated market price based on performance of other shares in industry. For debentures and bonds, value is estimated on basis of yields of comparable liquid security after adjusting for illiquidity.

Accrued dividends/interest: Comp. announce dividends, however, pay it at later date. If dividend is announced, then announced dividend is taken as accrued dividend. Similarly, interest is payable on debentures/bonds in pre determined frequency at pre determined rate. Therefore for every passing day, interest is said to be accrued, at daily interest rate, which is calculated by dividing periodic interest payment with No. of days in each period. Thus, accrued interest on particular day is equal to daily interest rate multiplied by No. of days since last interest payment date.

Expenses including management fees, custody charges etc. are calculated on daily basis. The management fees is as per declaration in offer document of mutual fund.


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