Training Session for

AMFI Mutual Fund

AMFI Mutual Funds
(Advisor) Module
(Advisors) Module
Revised Jul 2006

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Examination Logistics

 90 min
 74 questions / 100 marks
 50% is PASS MARKS
 Multiple-Choice Questions
 Negative Marks (25%)
 Tricky Language
 Eg. the following is not a benefit of investing in a mutual fund?
 A. Convenience
 B. Guarantee of return
 C. Liquidity
 D. Professional fund management

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Agenda

• Session 0 – Basics of Investing

• Session 1 – Introduction & Mutual Fund Products
• Session 2 – Mutual Fund Structure and Constituents
• Session 3 – Legal and Regulatory Framework
• Session 4 – Important Documents of a Fund
• Session 5 – Rights and Obligations of Investors
• Session 6 – Pricing and NAV
• Session 7 – Tax Aspects
• Session 8 – Equity Markets & MFs
• Session 9 - Debt Markets & MFs
• Session 10 – Restrictions on Investments
• Session 11 - Accounting and Valuation
• Session 12 - Risk Return and Performance
• Session 13 - Financial Planning Process
• Session 14 - Investment Products
• Session 15 - Investment Strategies
• Session 16 - Asset Allocation and Model Portfolio
• Session 17 - Fund Selection
• Session 18 - Business Ethics.

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 Session 0

Basics of Investing

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• Direct Investing vs. Indirect Investing
• Individual Investing vs. Collective Investing
• Financial Instruments
• Equity
• Debt
• Investment Objectives

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 Session 1

Introduction & Mutual Fund Products

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• Mutual => between a group
• Fund => a corpus or a pool of money
• A Mutual fund is a pool of money put together by a group of
investors to be invested in such a way as to achieve the group’s
stated objectives
• Mutual Fund investors are like shareholders and owners of the
fund; not depositors or lenders in a mutual fund
• The money in the mutual fund belongs to the investors and
nobody else
• The management of the fund is done by professionals
• The professionals and everybody else associated with a mutual
fund earns a fee only

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• Mutual Funds invest the money as per stated investment
objectives
• Mutual funds invest the money in marketable securities according
to the objectives
• The market value of the investor’s funds is also called as net
assets
• The value of the fund’s investments can go up or down thus
affecting the value of the investor’s holdings
• The Net Asset Value (NAV) of a mutual fund fluctuates with the
market price movement

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• Advantages of a Mutual Fund
• Portfolio diversification – not putting all your eggs in one
basket
• Professional management
• Reduction in risk
• Reduction in transaction cost i.e. brokerage in buying/selling
securities
• Liquidity i.e. convertibility to cash
• Convenience and flexibility

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• Disadvantages of a fund:
• No control over costs
• No tailor made portfolios
• Managing a large portfolio

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History of Mutual Funds in India

• 1963-1987: Growth of the UTI

• UTI was the only mutual fund at the time
• UTI was formed by and governed by an act of parliament UTI
Act, 1963
• US-64 was a controlled scheme of UTI
• Master Share 1986 was the 1st true mutual fund product
• UTI remained a monopoly player during the period
• UTI is voluntarily under the SEBI Act

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• 1987-1993:Emgergence of Public Sector Funds
• During this phase, public sector banks, financial institutions
and insurance companies were allowed to set up mutual
funds
• SBI was the first bank-sponsored mutual fund and the 1st after
UTI to be set up
• SEBI got its regulatory powers in 1992

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• 1993-1996: Emergence of Private Funds
• The private sector was allowed to set up mutual funds in 1993
• Foreign Fund management companies also allowed to
operate

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• 1996-2004: Growth & SEBI Regulations
• In 1996, the mutual fund regulations were substantially
revised & modified and additional authority granted to SEBI
• A comprehensive set of regulations introduced with SEBI
(Mutual Fund) Regulations,1996
• SEBI and AMFI launch their investor awareness programmes
• AMFI Published its book titled “Making Mutual Funds work for
you – the Investor’s guide”
• In 1999, dividends from mutual funds were made tax-exempt
in the hands of the investors
• Mutual funds assets in mid-2002 were appx. 1,00,000 crores
• AUM by end of 2004 appx. INR 153,000 crores

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Type of Funds

• Mutual Funds schemes can be open-ended or close-ended

• Open ended schemes are those that allow sale and repurchase
of units from the fund itself and on a continuous basis at NAV-
related prices
• the corpus of an Open-ended scheme changes everyday
• Close-ended schemes are those that offer units for sale only in
the IPO and is subsequently listed in the market.
• All selling and buying of units is done through the stock market.
These schemes usually sell at a discount to the NAV
• The corpus of a close-ended fund remains unchanged
• Funds can also be load or no-load funds

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• Mutual Fund schemes can be
• Debt oriented (Fixed Income Securities)
• Equity oriented (Stocks)
• Balance (Combination)
• Debt Schemes can be
• Gilt
• Income
• Diversified Debt
• Equity schemes can be :
• Index
• Diversified
• Sector
• Growth
• Debt is for short-term and Equity is for long-term
• Debt investments are safe, equity are risky

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• An investor must choose funds based on his/her
• Purpose of investment
• Risk appetite
• Return expectation
• Age & time horizon

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 QUICK WIT
• A mutual fund is not
• A company that manages an investment portfolio
• A portfolio of stocks, bonds and other securities
• A pool of funds used to purchase securities on behalf of investors
• None of the above
• Which of the following mutual funds was not set up in the phase 1987-93:
• Canbank Mutual Fund
• Kothari Pioneer Mutual Fund
• SBI Mutual Fund
• LIC Mutual Fund
• Which of the following has the lowest risk?
• Liquid Fund (MMMF)
• Gilt Fund
• Diversified Debt fund
• Diversified equity fund

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 Session 2

Mutual Fund Structure & Constituents

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• Mutual Funds in India have a 3-tier structure
• Sponsor
• Trustee
• AMC or Asset Management Company
• The investor’s money is held in a trust (the mutual fund)
• In India, the mutual fund is formed as a Trust under the Indian
Trust Act, 1882
• The board of trustees is accountable to the Office of the Public
Trustee, in turn reporting to Charity Commissioner
• The trust represents the investors themselves and is only a pass-
through vehicle
• in US, mutual funds are formed as investment companies

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• Sponsor is the promoter of the Mutual Fund
• Sponsor creates the AMC and the Trustee company and appoints
the directors to these companies with SEBI approval
• Sponsor should have at least 5 years track record in the financial
services business and should have made profit in at least 3 out of
the 5 years
• Sponsor should contribute at least 40% of the capital of the AMC
• Sponsor could be a bank (SBI, PNB, ICICI) a financial institution
(Fidelity, Franklin Templeton) or a Corporate (Reliance, Birla,
Tata etc.)

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• The role of the Trustees is to safeguard the interest of the
investor/unit-holder of the fund
• The trustees make sure that the funds are invested according to
the investor’s mandate
• The board of trustees is appointed by Sponsor with SEBI
approval
• At least 2/3rd of the board of trustees should be independent
• The AMC and Trustee company are usually a private limited
company
• The board of trustees are required to meet at least 4 times in a
year to review the AMC

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• The AMC is also formed as a private limited company
• An AMC’s net worth (Share Capital + Reserves & Surplus) should
be at least 10 crores at all times
• At least 40% of AMC capital must be contributed by the Sponsor
• At least half (50%) of the directors of the AMC must be
independent
• The AMC gets fee for managing the funds according to the
mandate of the investors
• An AMC cannot engage in any business other than portfolio
advisory and management
• An AMC of one fund cannot be a trustee of another
• The AMC must be registered with SEBI
• The AMC signs an Investment Management Agreement with the
trustees

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• The AMC appoints other constituents of a fund, viz.
• Custodian (AMC - Securities market)
• Registrar & Transfer Agent (AMC – Investor)
• The custodian is appointed for safekeeping of securities and
participating in the clearing process
• The custodian is the guardian of the funds and assets of
investors
• The custodian maintains the accounts of securities, their
transaction and balance sheet etc.
• The custodian and sponsor cannot be the same entity
• Stock Holding Corporation of India (SCHIL) is a custodian to most
fund houses in India.

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• R&T agents manage the sale and purchase of units and keep
unit-holder accounts
• Karvy and CAMS are examples of R&T Agents

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• Scheme Takeover
• When the scheme of one fund are taken over by another fund
• It requires SEBI and trustee approval
• Eg. scheme takeover of Zurich by HDFC Mutual Fund
• AMC Merger
• If two AMCs merge, the stakes of sponsors changes and the schemes
of both funds come together
• It requires SEBI, trustee and High Court approval
• Eg. merger of HB and Taurus AMC
• AMC takeover
• If one AMC or sponsor buys out the entire stake of another sponsor in
an AMC, there is a takeover of AMC.
• The sponsor who has sold the AMC exits the AMC
• It requires SEBI, Trustee and High Court Approval
• Eg. Birla’s takeover of Alliance AMC
• Eg. Zurich takeover of ITC-Thread needle AMC

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• Investor’s Rights in case of takeover or merger
• In an Open ended scheme
• They have a right to be informed
• No approval is required
• Investors can choose to exit at NAV if they do not approve of the
transfer
• In a Close-ended scheme
• Investor approval is required for all cases of merger and takeover
• Investors do not have the exit option

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 QUICK WIT
• Mutual Funds in India are set up as
• Company
• Trust
• Partnership
• Association of persons
• Issuing additional fresh units and redeeming the existing units of a
mutual fund scheme is the role of:
• The custodian
• The transfer agent
• The trustees
• The bankers
• Minimum no of independent directors on the board of the AMC is
• 50%
• 25%
• 75%
• None of the above

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 Session 3

Legal and Regulatory Framework

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• Mutual Funds are regulated by SEBI (Mutual Funds) Regulations,
1996
• SEBI regulates all funds, except offshore funds i.e. those
schemes offered in a foreign country
• Bank-sponsored mutual funds are jointly regulated by SEBI and
RBI
• SEBI and RBI are under the purview of Ministry of Finance
• RBI regulates the money and government securities market
where the mutual funds invest
• Liquid funds which invest in money market instruments are now
governed by SEBI alone
• If a bank-sponsored mutual fund offers a guarantees, it requires
RBI permission
• All schemes of UTI are now under UTIMF, are managed by a UTI
AMC and under purview of the SEBI

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• AMC and Trustee companies are registered under Indian
Companies Act, 1956
• The Registrar of Companies is the legal interface for all
companies
• RoC is supervised by Department of Company Affairs (DCA)
• The DCA forms part of the Company Law Board (CLB), which is
part of Ministry of Law and Justice
• Any complaints against the board can be made to the CLB

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• Listed Mutual Funds are subject to the listing regulations of the
stock exchanges
• Stock Exchanges obtain their powers from the apex regulator viz.
SEBI
• Stock exchanges are Self-Regulatory Organizations (SROs)
• SROs are the second-tier in the regulatory structure
• SROs get their powers from the apex regulating agency and act
on their instructions
• SROs cannot do legislation of their own
• SROs regulate only their own members in limited manner

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• AMFI is an industry association, like the Investment Company
Institute in US
• AMFI is not yet an SRO
• AMFI was incorporated in 1995 with the objective of representing
the mutual fund industry collectively
• A board of directors elected from their mutual fund members
governs AMFI
• AMFI does perform certain self-regulatory functions such as
registration of fund distributors, training, testing and certification
as well as educating the investors

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 QUICK WIT
• Which of the following qualifies as an SRO
• SEBI
• RBI
• NSE
• AMFI
• To approve a change in fundamental attributes of a close-ended fund,
consent of the following is required:
• 50% of unit holders
• 50% of trustees
• 75% of unit holders
• None of the above
• The body to which an investor may address their complaint is:
• SEBI
• RBI
• IRDA
• NSE

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 Session 4

Important Documents of a Mutual Fund

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OD and KIM

• Offer Document is the most important source of information about

a mutual fund scheme for investors
• An abridged (summary) version of the OD is Key Information
Memorandum (KIM)
• Investors are required to read and understand the OD
• Investors sign the form stating that they have read the OD. No
recourse is available to investors for not reading the OD or KIM
• The cover page of OD contains details of scheme being offered,
the name of the sponsor, trustee, AMC etc
• Mandatory disclaimer clause of SEBI should also be on the cover
page of the OD
• The format and contents of the OD must be as per SEBI
guidelines
• The OD is issued by the AMC on behalf of the trustees
• The AMC is responsible for the information in the OD

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OD and KIM

• Close-ended funds issue an OD at the time of the IPO

• Open-ended funds have to update OD at least once in 2 years
• Trustees approve the contents of the OD and KIM
• KIM is compulsorily made available with every application form
• SEBI does not approve or certify the contents of the OD
• Investor’s rights are stated in the OD
• The OD contains detailed info, while KIM is the summary
document
• If any information is crucial to the investor, it will be found in both
OD and KIM. For eg. details of guarantee, if the scheme is an
assured return scheme

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OD and KIM

• the OD must contain a due diligence certificate signed by a

compliance officer, an AMC employee
• The due diligence certificate states that:
• Information in the OD is according to SEBI formats
• Information is verified and is true and a fair representation of facts
• All constituents of the fund are SEBI registered
• The following information would be available in the OD:
• Category of Investors eligible to apply, viz. Individual, HUF, FI, Trust,
Society, Corporate, Association of Persons, NRI, PIO, OCB etc
• Information on existing schemes and financial summary to be given
for 3 years
• Information on transactions with associate companies to be provided
for past 3 years
• If any expense incurred in a past scheme is higher than what was
stated in OD, explanations should be given

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OD and KIM

• Investor’s rights are stated in the OD

• 3 year track record of investor’s complaints and redressal should be
disclosed
• Any pending cases or penalties against sponsor or AMC
• The borrowing restrictions on the mutual fund should be disclosed,
including the purpose and limit of borrowings
• In case of a guaranteed scheme, name of guarantor, their net worth
and past performance of assured return schemes
• The name and addresses of trustee and AMC directors will be
found in KIM, but the details of their role, responsibilities and
duties will be found in OD
• There is no information about other mutual funds, their
performance in the OD. No comparison or data on performance
of other mutual funds is found in OD
• The OD and KIM will not contain names of securities in which the
fund plans to invest, only broad asset allocation will be given.

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OD and KIM

• Factors common to all funds are called standard risk factors.

These include market risks, no assurance of return etc.
• Factors specific to a scheme are scheme-specific factors in the
OD. These include restrictions on liquidity, lock-in periods, risk of
investing in the first scheme of the fund etc.
• Fundamental attributes of a scheme are its basic features. For
eg. open or close ended, lock-in period, fund objectives, asset
allocation, loads and charges etc.
• For any change in fundamental attributes, SEBI and Trustee
approval is required.
• Investor approval is not needed. However, each investor must be
informed through a communication and given the option to exit
without exit load.

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 QUICK WIT
• The front page of on offer document contains:
• Date of its publication
• Name and type of fund
• Major objectives of the fund
• 1 and 2 above
• The abridged offer document contains the address of the following:
• The trustees of the mutual fund
• The directors of the AMC
• the registrar & Transfer Agents
• 1 and 2 above
• 2 and 3 above
• Offer document has to be updated within
• One year from date of issue
• Two years from date of issue
• Six months from date of issue
• None of these

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 Session 5

Rights and Obligations of Investors

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• Investors have a right to inspect a number of
documents related to the fund:
• Offer document
• Investment management agreement
• Trust deed
• Annual reports of existing schemes
• Annual reports of AMC
• SEBI (MF) Regulations

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• Category of investor eligible to apply is found in the OD
• Whether a certain class of investor, such as a trust or a company
is eligible to apply or not, depends on the list of eligible investors
in the OD
• NRIs and OCBs are eligible to apply invest in mutual funds
• Foreign nationals and entities cannot invest in mutual funds in
india
• Any investor who becomes a foreign citizen after investing in a
fund, has to compulsorily redeem the units after obtaining foreign
citizenship
• FIIs can invest in Mutual Funds through their Non Resident
Rupee Account
• RBI has granted a blanket permission to NRI, OCB and FIIs;
every investment does not require RBI approval.

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• Agents/Distributors can sell products of multiple mutual funds
• Agents are appointed after they clear the AMFI exam and sign an
agreement with the AMC on a non-judicial stamp paper
• Fees and Commission paid to agents is decided by the AMC and
not subject to any regulations

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• Prospective Investors have no legal remedies
• Investors have the right to receive redemption proceeds within 10 days
• Investors have the right to sue the Trustees, AMC or Sponsor
• The first right of the investors is towards the Trustees
• If a fund does not redress their complaint, they can approach SEBI
• Investors cannot sue the Trust, as they are the trust and cannot sue
themselves
• An open-ended fund opens for sale and purchase within 30 days from
the date of closure of the IPO
• Investors have no remedy for performance of the fund being below the
investor’s expectations
• If investors representing 75% of unit capital approve, the services of the
AMC can be terminated, or the scheme can be would up
• AMFI does not require that every investment decision be approved by
the investor

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Session 6

Tax Aspects

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• The mutual fund is in the form of a trust and meant for the investors – a
pass through vehicle
• Hence, income earned by any Mutual Fund is exempt from tax
• Income distributed to unit-holders in a close-ended or debt fund is liable
to a dividend distribution tax
• Open-ended equity-oriented (more than 50% of portfolio in equity) fund
do not have to pay tax
• The NAV is impacted due to this taxation, hence indirectly the investor
bears this burden in the form of lower value of investment
• Since tax is on distribution, Income schemes are less attractive than
growth schemes, since these schemes pay regular dividends
• The tax is applicable, even if investor is in a no-tax bracket or has
chosen to re-invest the dividend
• income distributed by a fund is exempted in the hands of the investors

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• If investor sells his units and earns “capital gains” there is capital
gains tax
• if units are held for less than 12 months – short term capital gain
(STCG)
• if units are held for more than 12 months – long term capital gain
(LTCG)
• in case of LTCG, investor has the benefit of indexation
• tax rate for LTCG is 10% without indexation and 20% with
indexation
• under section 54 of Income Tax Act, LTCG are exempt from tax if
invested in specified bonds (54EC) issued by NABARD, NHAI,
REC or specified equity (54ED) within 6 months of transfer of
units
• the bonds must be held for minimum 3 years and no loan be
taken against these bonds and the equity must be held for
minimum 1 year

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• Sale and purchase of units in equity-oriented scheme are subject
to Securities transaction tax (STT)
• STCG on sale of units of an equity-oriented scheme where STT
is applicable is subject to tax as prescribed
• LTCG on sale of units of an equity-oriented scheme where STT is
applicable is exempt from tax
• Under section 80C of IT Act, investment in specified instruments,
including ELSS are entitled to deduction up to Rs. 1 lakh from the
taxable income
• In case of Non-Residents
• LTCG are subject to 20% tax at source
• STCG are subject to 30% for non-corporate non-resident and 48% in
case of a foreign company

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 QUICK WIT

• An investor bought a unit in 1995 for Rs. 75,000. he sold the units
in 1998 for Rs. 125000. the cost inflation index for 1995 and 1998
are 281 and 351. the capital gains chargeable to tax are:
• 64,957
• 31,317
• 50,000
• 75,000
• Income earned by a mutual fund registered with SEBI is exempt
from income tax as per section:
• 10(23D)
• 10(33)
• Total income is taxable @ 33.2%
• 88

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 Session 7

Pricing and NAV

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• The NAV of a fund =
(Assets + Income – Liabilities – Expenses)
---------------------------------------------------------
no of units outstanding
• Assets = Market value of investments
• Liabilities = short term borrowings of the fund
• Load is the adjustment to the NAV, to arrive at price
• Load is used to meet expenses related to sale and distribution of units
• Load is charged to investor when the investor buys or redeems units
• Load that is charged when investor buys (or fund sells) units is the entry load or
sale load. Entry load increases the price for the investor.
• To arrive at the sale price, given NAV and entry load, the load is calculated as
NAV X (entry load/100) and added to NAV
• Load that is charged when investor redeems (or fund repurchases) units is the exit
load or repurchase load. Exit load reduces the proceeds to the investor
• An exit load that varies with the holding period of investor is the CDSC
(Contingent Deferred Sales Charge). CDSC is lower for longer holding period.
• To arrive at the repurchase price, given NAV and exit load, the load is calculated
as NAV X (exit load/100) and deducted from NAV

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• Load is subject to SEBI regulations
• For open-ended funds
• The maximum amount of entry or exit load is 7%
• i.e. Sale Price be a max of 107% of NAV or Repurchase price be a
minimum of 93% of NAV
AND
• The repurchase price cannot be lower than 93% of sale price
• If a fund decides to have sale price as 107, then repurchase price
under the fund will be at least 93% of 107 i.e. 99.51
• For close ended funds
• The maximum amount of entry or exit load is 5%
• i.e. Sale Price be a max of 105% of NAV or Repurchase price be a
minimum of 95% of NAV
AND
• The repurchase price cannot be lower than 95% of sale price
• If a fund decides to have sale price as 105, then repurchase price
under the fund will be at least 95% of 107 i.e. 99.75

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 QUICK WIT

• An open-ended fund with 10,000 units outstanding has the following

items on the balance sheet:
• Investment at market value Rs, 1,00,000
• Other assets Rs. 20,000
• Other Liabilities Rs. 25,000
• Calculate the NAV per unit:
• Rs. 9.50
• Rs. 12
• Rs. 10
• Rs. 14.5
• Unit capital of a scheme is Rs. 20 million. The market value of its
investments is Rs. 55 million. The number of units is 1 million. The NAV
is
• Rs. 20
• Rs. 75
• Rs. 55
• Not possible to say

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 Session 8

Equity Markets and Mutual Funds

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• Equity stocks can be classified as large cap, mid cap and small
cap
• Market cap = Market Price per share X No of shares outstanding
• Large cap stocks are traded everyday in large volumes; hence
highly liquid but these are established companies offering normal
profit potential
• Small cap stocks provide higher return potential but are generally
not very liquid
• Cyclical stocks are those whose performance is closely linked to
macro economic factors; eg. cement stocks which are linked to
infrastructure development in the country
• The P/E ratio (Market Price Per Share / Earnings Per Share)
indicates the price the market is willing to pay per rupee of
company’s earnings (or potential earnings)
• Higher P/E ratio indicates growth stock; value stocks have
generally lower P/E ratios

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• The investment pattern of a fund is primarily dictated by the fund
objectives
• Growth investing is a style which is aggressive and the fund
manager is willing to invest in companies which may be
expensive but have high future profit potential as well; fund
manager focuses on sectors which are expected to do well in
future, and even be willing to buy them at higher prices
• Value Investing is a style where the fund manager prefers
investing in companies which are undervalued today; he will buy
only if the price is right; his focus is on companies which have a
value proposition that is yet to be recognized by the market

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• So, by definition
• P/E Ratio is Market Price Per Share / Earnings per Share, and;
• Dividend Yield is defined as Dividend Per Share / Market Price
Per Share
• If market price moves up, P/E ratios are higher and Dividend
Yield is lower
• If market prices move up, P/E ratios are lower and dividend yield
is higher

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• An active fund manager hopes to do better than the market by
selecting companies which he believes will outperform the market
• A passive fund manager simply replicates the index, and hopes
to do as well as the index
• A passive fund manager tries to keep costs down and has to
rebalance his portfolio if the composition of the index changes

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• Fundamental Analysis is the analysis of the profit potential of a
company, based on numbers relating to its products, sales, costs,
profits and management of the company
• Technical Analysis is the analysis of the market prices and
trading volumes data to identify clues to market assessment of a
stock
• A fund manager focuses on asset allocation, a securities dealer
buys and sells shares and an analyst researches and
recommends them for buying and selling

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 Session 9

Debt Markets and Mutual Funds

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• Debt instruments are issued by government, corporate or banks
• Debt instruments have fixed interest, floating interest or zero
interest or coupon i.e. on a discounted basis
• Debt markets are wholesale markets and investors are large
institutional investors, such as banks, insurance companies,
mutual funds and corporate due to large ticket sizes
• More than 90% of trading in debt markets is in government
securities

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• Basic Characteristics of Debt Instruments
• Principal or Par or Face Value – the amount representing the
principal borrowed and the rate of interest is calculated on this
sum. This is the amount payable on redemption
• Coupon – the interest paid periodically to the investor
• Maturity – the date on which the bond is redeemed. Term to
maturity or tenor is the period remaining for the bond to
mature
• Put option – refers to the option given to the investor to sell
(redeem) the bond before maturity; investor may exercise the
option when interest rates go up, above coupon in the market
• Call option – refers to the option to the borrower to buyback
(repurchase) before maturity; issuer may exercise the option
when interest rates fall below the coupon rate

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• Current Yield of a Bond = coupon amount / market price. Eg. a
bond paying 6% is selling in the market at Rs. 104. the current
yield is 5.77%
• Change in interest rates impact bond value in opposite direction.
When interest rates rise, bond prices fall and when interest rates
decline, market price of existing bond goes up
• Duration of a bond measures the percent change in a bond’s
price with a change in yield of 1%
• It helps measure the interest rate risk of a bond
• Credit Risk refers to the risk of default by the borrower
• The base rate or benchmark rate in the bond market is the rate at
which government borrows in the market. All other borrowers pay
a higher interest, due to the credit risk present in their instrument
• The difference between benchmark rate and the rate paid by a
borrower is called as the credit spread or yield spread

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 QUICK WIT

• Current market price of a 9% coupon bond, when

other bonds of similar maturities pay 11% will be:
• Above par
• Below par
• At par
• Will be unrelated to other bonds
• Technical analysis tries to predict future movement of
stock price by analyzing:
• The financial working of a company
• Stock price movement of a company
• Both the above
• None of the above

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 Session 10

Restrictions on Investments by Mutual Funds

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• Mutual Funds can invest in marketable securities only
• A mutual fund (excluding sectoral and index funds), under all its
schemes, cannot hold more than 10% of paid-up capital of a
company
• in case of sectoral or index funds, the scheme cannot invest more
than 10% of its Net Assets in a single company
• Investment in rated investment grade issue of a single issuer
cannot exceed 15% of the net assets and can be extended to
20% with Trustee approval
• Investment in unrated securities cannot exceed 10% of net
assets of one issue and 25% of net assets for all such issues
• Investment in unlisted shares cannot exceed 5% of net assets for
an open-ended scheme and 10% of net assets for a close-ended
scheme

AMFI Training
• A mutual fund cannot invest in unlisted securities of the sponsor
or associate or group company of sponsor
• A mutual fund scheme cannot invest in privately placed securities
of the sponsor or its associates
• Investment in marketable securities of sponsor and its associated
companies must be disclosed by the mutual fund in its annual
report and offer document
• Investment by a scheme in listed securities of the sponsor or
associate companies cannot exceed 25% of net assets of the
scheme

AMFI Training
• Inter-scheme transfers are allowed by SEBI
regulations, provided:
• Such transfers happen on a delivery basis, at market prices
• Such transfers do not result in significantly altering the
investment objectives of the schemes involved
• Such transfer is not of illiquid securities (not traded for last 30
trading days), as defined in valuation norms

AMFI Training
• A fund can borrow a sum not exceeding 20% of its net assets, for
a period not exceeding 6 months
• The borrowing is a stopgap arrangement and is not a permanent
source of funds for the scheme
• A fund can borrow only to meet its liquidity requirements for
paying dividends or meeting redemptions

AMFI Training
 Session 11

Accounting and Valuation

AMFI Training
• Investor’s subscription to a mutual fund are accounted as unit
capital, not liabilities or deposits
• The unit capital account is maintained at face value
• NAV is the net assets per unit, computed as the net asset divided
by number of units outstanding
• Assets of a mutual fund are the investments made by the fund
• Liabilities of a mutual fund are strictly short term in nature

AMFI Training
• The day on which NAV is calculated is called as valuation date
• All Mutual Funds have to disclose their NAVs everyday, by
posting it on the AMFI website by 8:00pm
• Open ended funds have to compute and disclose their NAVs
everyday
• Close-ended funds can compute NAVs every week (usually Wed)
but disclosures have to be made everyday

AMFI Training
• The initial issue expenses of a scheme cannot exceed
6% of the funds mobilized. Any amount above this has
to be borne by the sponsor or the AMC
• Initial issue expenses are charged as follows:
• For close-ended schemes – charged over the life of the
scheme, on a weekly basis
• Eg. if a scheme for 5 years has expenses of INR 5 cr, the weekly
expenses are Rs 5 cr / (5 X 52) = Rs. 192,308/-
• For open-ended schemes, the initial issue expenses used to
be carried in the balance sheet as “deferred revenue
expenses” and written off over a period not exceeding 5 years
• Current position: OEFs cannot charge Initial Issue Expenses;
• OEFs can charge higher loads

AMFI Training
• Mutual Funds incur the following expenses in carrying out its
operations
• Investment Management fee to the AMC
• Custodian’s fee
• Trustees fee
• R&T Agent’s fee
• Marketing & distribution expenses
• Brokerage and transaction costs
• Audit Fee
• Legal fee
• Costs related to funds transfer
• Costs related to investor communication
• Cost of providing account statements and cheques/warrants etc
• Costs of mandatory advertising and communication

AMFI Training
• The limit on expenses that can be charged to income from a fund
are:
• For equity scheme:
• For net assets upto 100 cr – 2.5%
• For the next 300 cr of net assets – 2.25%
• For the next 300 cr of net assets – 2.0%
• For the remaining net assets – 1.75%
• Eg. for net Assets of 1000 cr, the max expenses are
0------100 ---------------400 -------------------700 ----------1000
2.5% 2.25% 2% 1.75%
2.5 cr 6.75 cr 6 cr 5.25 cr = 20.5 cr
• For debt scheme – the limits are lower by 0.25% on all slabs
• The ceiling are applied on the weekly average net assets of the
mutual fund scheme

AMFI Training
• The Investment management fee are regulated by SEBI as
follows:
• For the 1st 100 cr of net assets – 1.25%
• For net assets exceeding 100 cr – 1%
• If the AMC does not charge the initial issue expenses to the fund,
it can charge 1% higher than above rates
• The rates are applied to weekly average net assets of the mutual
fund scheme, to determine the AMC’s fee

AMFI Training
• Valuation of securities
• Valuation of equity shares is done on the basis of traded
price, provided the price is not more than 30 days old
• Valuation of debt securities with less than 182 days to
maturity is done on accrual basis. The accrual is calculated as
follows:
• A security issued at Rs. 90 and redeemable at rs. 100 after 364
days, the accrued interest per day is
• 10/364 = 0.02747
• The value of the security is increased by 2.75 paise every day,
so that the security is worth Rs. 100 on the date of maturity
• Illiquid securities cannot be more than 15% of the
portfolio’s net assets. Any holding above this limit are
to be valued at zero.

AMFI Training
 Session 12

Risk, Return and Performance

AMFI Training
• Investor in mutual fund earns returns from:
• Dividends paid by the scheme
• Capital appreciation arising out of selling units at higher than
acquisition price
• Investor can calculate the return on investment as Income earned
/ amount invested * 100
• The return can be annualized by multiplying the result by a factor
of 12/n, where n is the number of months of holding period.
• If the holding period is in days, the factor will be 365/n, where n is
the number of days in the holding period

AMFI Training
• The methods for measuring mutual fund returns are:
• Percent change in NAV
• Simple total return
• ROI or total return with dividend re-investment
• CAGR Method
• Percent Change in NAV =
(NAV at end of holding period – NAV at beginning of period)
----------------------------------------------------------------------- X 100
NAV at beginning of period
• Change in NAV method is applicable to growth fund and funds
with no income distribution

AMFI Training
• The total return method takes into account dividends distributed
• Eg. assume an investor bought units at Rs. 12.50 per unit. He
redeems his investment a year later, when the NAV is Rs. 15.00
per unit. During the year, he also received dividend at 5%. The
rate of return on his investment is
{(15.00-12.50) + 0.50} / 12.50 X 100
3/12.50 X 100
24%
15.00-12.50 represents the capital gain and 0.50 is the dividend earned
on face value of Rs.10.

AMFI Training
• The total return with re-investment or ROI method
• [(Value of holding at end of period – value of holding at beginning of
period)/value of holding at beginning of period] X 100
• Value of holding at beginning of period = beginning NAV X no of units at
beginning
• Value of holding at end of period = (number of units at beginning +
number of units re-invested) X end NAV
• Number of units reinvested = dividend / ex-dividend NAV
• Eg. an investor bought 1 unit at NAV of 20. he redeems his investment at
end of year when NAV is 24. he received a dividend of Rs. 5 when the
NAV was 22. His total return with re-investment is calculated as follows:
• Number of units reinvested = 5/22 = 0.2273
• Value of holding at end of period = (1+0.2273) X 24 = 29.4546
• Value of holding at beginning of period = 1 X 20 = 20
• ROI = (29.4546 – 20) / 20 X 100 = 47.27%

AMFI Training
• Compound Annual Growth Rate

A = P (1 + r) n
R = (A/P)1/n -1

AMFI Training
Risk and Performance

• Risk arises when the actual returns differ from

expected returns
• Risk is measured in by:
• Standard Deviation
• Beta
• Bogle’s Ex-marks or R-squared

AMFI Training
Standard Deviation:
• Measures the absolute risk of a portfolio by explaining the
dispersion of return around the mean
• It explains the extent of deviation from the mean return of a
portfolio
• It is the preferred measure of risk in a portfolio
• Higher SD implies higher portfolio risk.

AMFI Training
Beta Coefficient:
• this measures the extent to which fund returns are impacted
by market factors;
• Higher beta means higher impact of market returns hence
more risky
• Lower beta means less risk.

AMFI Training
Bogle’s Ex-marks or R-Squared:
• measures return from a fund and the returns from a market
index and measures the extent of correlation in their
movement;
• R-squared of an index fund would be 1 or ex-marks would be
100%;
• lower ex-marks means lower correlation or sympathy with
market returns;
• a fund's risk can be gauged by its ex-marks in comparison
with the market index
• Quality of beta depends on ex-marks.

AMFI Training
• Returns must be evaluated on a risk-adjusted basis
• Higher return may be accompanied by higher risk
• Compute return and risk for both for fund and benchmark and find
out return per unit of risk, earned by each of them
• Eg. benchmark return (12%) and S.D. (9%)
• Fund return (16%) and risk i.e. SD (11%)
• Then the benchmark has return per unit of risk of (12/9)1.33 and
the fund has return per unit of risk of (16/11) 1.45
• Hence, on a risk adjusted basis, the fund has performed better
than the benchmark

AMFI Training
• Sharpe Ratio is a measure of risk-adjusted performance of a fund
by measuring the return per unit of Standard Deviation
• Sharpe Ratio = (R-Rf)/SD
• Treynor ratio is a measure of risk-adjusted return by measuring
the return per unit of beta (market risk)
• Treynor Ratio = (R-Rf)/b
• Sharpe Ratio is useful to understand a single fund’s performance
• Treynor ratio is useful for comparison of multiple funds

AMFI Training
• Portfolio turnover refers to churn
• Portfolio turnover is the ratio of amount of sales or purchases
(whichever is lesser) / net assets of the fund
• Higher the portfolio turnover, greater the amount of churning of
assets done by fund manager
• If portfolio turnover is 200%, it means that on an average every
investment is held for a period of 6 months
• Higher turnover rate also means higher transaction costs. This
ratio is relevant for actively managed equity portfolios

AMFI Training
• Comparisons are usually done
• With a market index
• With funds from peer group
• With similar products in which investors put their funds
• When comparing fund performance with peer group,
size and composition of the portfolios must be
comparable

AMFI Training
• Comparable passive portfolio is used as a benchmark
• Usually a market index is used as a benchmark
• Risk and return should be compared over the same period for the
fund and the benchmark
• Expense ratio is an indicator of efficiency and crucial to a bond
fund
• Income ratio is ratio of Net investment income / Net assets and
important for bond funds which provide regular income and not
for funds with growth objective and investing for capital
appreciation

AMFI Training
 QUICK WIT
• An investor purchased an open-ended fund when NAV was 20. 16 months
later, the NAV stood at 22. the percent change in NAV in the fund was:
• 7%
• 8%
• 7.5%
• 8.5%
• Returns can be annualized and compounded only if the scheme has
completed:
• 30 days
• 12 months
• 6 months
• 24 months
• An equity scheme is 90 days old. To compute its yield, it can use
• Absolute return
• Simple annualized return
• Compounded annualized return
• Any of these

AMFI Training
 Session 13

Financial planning process

AMFI Training
• Financial planning is a very profitable business in US
• Financial planning comprises:
• Defining the client’s profile and goals
• Recommending appropriate asset allocation
• Monitoring financial plan recommendations
• The financial planner can work only with well defined goals and
cannot take up objectives that are not well defined
• The client is ultimately responsible for realizing the goals of the
financial plan
• Financial Planning helps a distributor/agent establish long-term
relationship with clients and build a profitable business
• the basis of genuine investment advise should be financial
planning to suit the investor’s situation
• Risk tolerance of an investor is dependent on his own situations,
not on the market

AMFI Training
• Steps in financial planning are:
• 1st step – asset allocation
• 2nd step – fund selection
• 3rd step – studying the features of the scheme
• Financial planning is concerned with broad allocation, leaving the
actual selection of securities and their management to the fund
managers
• Investors delegate the task of investing in securities to the fund
manager.

AMFI Training
Life and Wealth Cycle Stages

• The income level of investors, their saving potential, their time

horizon and risk appetite depends on his life cycle
• The life cycle stages of an investor are:
• Childhood stage
• Young unmarried stage
• Young Married with children stage
• Married with older children stage
• Pre-retirement stage
• Retirement stage
• Younger investors have higher income and savings potential,
take longer-term view and may be willing to take risks
• Older investors have limited income and savings, shorter time
horizon and unwilling to risk their savings.

AMFI Training
• There are 3 wealth-cycle stages of investors:
• Accumulation phase – when investors are earning and have
limited need for immediate income; they focus on saving and
collecting wealth for the long term; equity investments are
preferred at this stage
• Transition phase – when the financial goals are approaching;
investors still earn incomes, but also require to draw on their
earnings; investors choose balance portfolios at this stage
• Reaping or distribution phase – when investors need the
income from their investment and cannot save further; they
reap the benefits of their earlier savings’ investors prefer
preservation of capital and hence debt portfolios at this stage.

AMFI Training
• Inter-generational fund transfer – refers to transfer of wealth to an
investor; the preferred investment avenue depends on the life
and wealth cycle stage of the beneficiaries
• The investor who transfer wealth do not require financial planning
• Sudden wealth surge - refers to windfall gains such as in lotteries
or games; such investors should be advised to temporarily park
the funds in money market investments and create long-term plan
after thinking through the options; tax impact must also be taken
into account
• Affluent investors – the rich investors are of 2 types:
• Wealth creators – those who prefer growth and are willing to take the
risk of equity investments
• Wealth preservers – those who prefer capital safety and are risk
averse; they prefer debt investments.

AMFI Training
 QUICK WIT

• Which of the following portfolios is more risky?

• 75% equity – 25% debt
• 40% equity – 60% debt
• 60% equity – 40% debt
• 80% equity – 20% debt
• Your client has won 1cr in KBC. What is your suggestion?
• Invest the entire money in “old economy stocks” as they are back in
favour
• Invest in an equity index fund – since the index is at a historic low
• Invest in a safe liquid investment option and take the time needed to
work out a financial plan
• Invest in IT stocks, since their valuation is quite attractive

AMFI Training
 Session 14

Investment Products

AMFI Training
• Physical Assets include gold and real estate and traditionally very
popular
• Gold is not subject to value erosion on account of rupee depreciation
• Gold is perceived as a hedge against inflation
• Gold-linked unit schemes from mutual funds in India are underway
• Real estate requires a high capital investment and may not be easy
to liquidate at the appropriate price
• Some fund houses are preparing to launch Real estate mutual funds
in the near future
• Financial assets include equity, debt and money-market
instruments
• Equity, debt and money market instruments are direct investments
with the borrower/ issuer of securities
• Mutual funds represent an indirect investment through an
intermediary.

AMFI Training
• Products by issuer:
• Bank deposits
• Offer high liquidity and perceived safety
• Low or negligible returns after factoring inflation and tax
• Corporate
• Equity
• Issued publicly and listed
• Issued privately and unlisted
• Investors may acquire shares either at the time of IPO or secondary
(stock) market
• Equity offers high growth potential and liquidity
• The challenge is to identify the right shares that are likely to
appreciate
• Requires capital to build a diversified portfolio.

AMFI Training
• Debt
• Debentures issue a fixed rate of interest
• Debentures are secured by the assets of the borrower
• Debentures are provided rating by credit-rating agencies
• Bonds also issue a fixed rate of interest but are unsecured
• Bonds are also generally provided rating by independent
agencies
• Creditworthiness of borrower and risk of default have to be
analyzed before investing in these bonds and debentures
• Company fixed deposits carry a higher interest rate and are
unsecured
• These would also have tax implications.

AMFI Training
• Financial institutions
• Unsecured bonds issued by institutions such as IDBI and
ICICI for general resource augmenting or specific
infrastructure development financing
• Bonds carry a periodic interest payment option or a deep
discount option
• These bonds qualify for deduction under section 80C.

AMFI Training
• Government
• Public Provident Fund
• 15-year product
• Risk-free government obligation
• Open to individuals and HUFs
• Only one account permitted per entity
• Offers tax-free interest of 8% p.a. and contribution up to Rs.
70,000 (min Rs. 500) are eligible for deduction under section
80C
• Option to withdraw 50% of 4th year balance in the 7th year
• Restriction on withdrawal reduces liquidity.

AMFI Training
• Indira and Kisan Vikas Patra
• Introduced as post office scheme to tap savings in rural India
• Very popular with urban investors also
• Current yield is 8% over 6 years, fully taxable
• IVP permits cash investment and protection of identity
• Easily transferable and liquid.

AMFI Training
• RBI Relief Bonds
• Issued by RBI on behalf of the Government of India
• A 5-year investment product with 8% interest offering
• Interest is currently taxable (used to be tax-free earlier)
• Free of risk of default
• Government Securities
• Long-term government paper
• Risk-free government obligation
• Low-return and define the benchmark rate of return on the yield
curve
• Specially appointed Primary dealers deal in G-Secs
• Generally high ticket investments
• Best accessible to small investors through mutual funds.

AMFI Training
• Life Insurance
• Viewed more for investment and tax purposes than a vehicle for risk
protection
• Premium qualify for deduction under section 80C
• Important to assess need for life insurance with respect to earning
potential
• A Without Profits policy offers the Sum Assured in the event of death
only
• A With Profit policy pays not only the Sum Assured but also bonus
declared from time to time
• In case a policy is discontinued during its tenure, the policy’s
surrender value is paid which is a proportionate value based on
premiums paid so far
• A ‘convergence’ of insurance and mutual funds is the
development of Unit-Linked Insurance products – which offers
investors choice of asset allocation between debt and equity.

AMFI Training
• A comparison of investment products can be done on risk, return,
volatility and liquidity
• Mutual funds combine the advantages of all investment vehicles
while doing away with their shortcomings
• The returns in a mutual fund are adjusted for market movements.

AMFI Training
 QUICK WIT
• An investor in regular need of income should not select:
• A bank deposit
• A debt fund
• An equity growth fund
• PPF
• Which of the following has highest level of liquidity
• Equity
• PPF
• Company Fixed deposits
• Mutual funds
• Which of the following should not be viewed primarily as an investment
option?
• Mutual funds
• Equity shares
• Life insurance
• None of the above

AMFI Training
 Session 15

Investment Strategies

AMFI Training
• The power of compounding
• Investors should allow their investment to compound over the
long run
• Funds offer 3 options:
• Dividend – income is distributed to unit-holders

• Dividend re-investment – income is reinvested at prevailing

NAV; this leads to increase in no of units
• Growth – the investment income is ploughed back into more
investments; no of units remains same and value increases
• Both Dividend re-investment and Growth options allow
compounding; automatic reinvestment plans can be used for
the purpose.

AMFI Training
• Buy and hold strategy may not be a beneficial strategy because
investors may not weed out poor performing companies and
invest in better performing companies
• Rupee Cost Averaging (RCA) is a technique that involves:
• Fixed amount invested at regular intervals
• When NAV is down, more units are bought and when price is high,
fewer units are bought
• Over a period of time, the average purchase price of the investor’s
holdings will be lower
• Investors use the SIP or AIP to implement RCA
• Disadvantage: RCA does not tell when to sell or switch from one
scheme to another.

AMFI Training
Rupee Cost Averaging (RCA)

Amount Cumulative Value of

Month Invested No of units No of Holding
# (Rs) NAV (Rs) bought units (Rs)
1 1000 10.00 100.00 100.00 1,000.00
2 1000 12.50 80.00 180.00 2,250.00
3 1000 14.25 70.18 250.18 3,565.00
4 1000 11.75 85.11 335.28 3,939.56
5 1000 10.50 95.24 430.52 4,520.46
6 1000 9.00 111.11 541.63 4,874.68
7 1000 8.50 117.65 659.28 5,603.86
8 1000 7.65 130.72 790.00 6,043.48
9 1000 8.80 113.64 903.63 7,951.97
10 1000 9.25 108.11 1,011.74 9,358.61
11 1000 12.00 83.33 1,095.07 13,140.90
12 1000 15.00 66.67 1,161.74 17,426.12
  Average Cost   12000/1162= 10.33  

AMFI Training
• Value Averaging (VA) involves:
• A fixed amount is targeted as desired portfolio value at regular
intervals
• If market has moved up, the units are sold and the target value is
restored
• If market moves down, additional units are bought at the lower prices
• Over a period of time, the average purchase price of the investor’s
holding will be lower than if one tries to guess the market highs and
lows
• VA is superior to RCA because it enables the investor to book
profits and rebalance the portfolio
• Investors can use the systematic withdrawal and automatic
withdrawal plan to implement value averaging
• Investors can also use an equity and a money market mutual
fund to implement value averaging.

AMFI Training
Value Averaging

Target
Month Value Value of Cumulative no
# (Rs) NAV (Rs) Holding Units to invest of units
1 1000 10.00 100.00 100.00 100.00
2 2000 12.50 1,250.00 60.00 160.00
3 3000 14.25 2,280.00 50.53 210.53
4 4000 11.75 2,473.68 129.90 340.43
5 5000 10.50 3,574.47 135.76 476.19
6 6000 9.00 4,285.71 190.48 666.67
7 7000 8.50 5,666.67 156.86 823.53
8 8000 7.65 6,300.00 222.22 1,045.75
9 9000 8.80 9,202.61 (23.02) 1,022.73
10 10000 9.25 9,460.23 58.35 1,081.08
11 11000 12.00 12,972.97 (164.41) 916.67
12 12000 15.00 13,750.00 (116.67) 800.00

AMFI Training
 QUICK WIT

• The strategy to maximize investment return in the long run is:

• Buy and hold investments for a long time
• Liquidate poor performers from time to time
• Liquidate good performers from time to time
• Switch from poor performers to good performers
• If you maintain a flexible asset allocation portfolio, would you
• Rebalance the debt/equity allocation periodically
• Rebalance the debt/equity allocation very frequently
• Generally avoid portfolio rebalancing
• Keep fixed percentages of equity and debt investments
• SIP is best example of
• Rupee Cost Averaging
• Value Averaging
• Buy & Hold
• None of these

AMFI Training
 Session 16

Asset Allocation and Model Portfolio

AMFI Training
• Asset allocation refers to deciding the composition of the portfolio
in terms of debt, equity and money market segments
• Asset allocation differs from investor to investor and depends
upon their situation, their financial goals and risk appetite
• The asset allocation for an investor depends upon his life and
wealth cycle stage
• A model portfolio creates and ideal approach for an investor’
situation and is a sensible way to invest.

AMFI Training
• Investors can have 2 approaches:
• Fixed asset allocation
• Flexible asset allocation
• Fixed asset allocation means
• maintaining the same ratio between various components of the
portfolio i.e. being disciplined
• Re-balancing the portfolio in a disciplined manner
• Periodical review and returning to original allocation
• If value of equity component increases, investor books profits
• Flexible asset allocation means
• Allowing the portfolio profits to run, without booking them
• If equity market appreciates, it results in higher proportion in equity
than debt.

AMFI Training
• Steps in creating a model portfolio:
• Develop long term goals
• Determine asset allocation
• Determine sector distribution
• Select specific fund managers and their schemes.

AMFI Training
Bogle’s model portfolio

Accumulation Distribution
Stage Stage

Younger 80% Equity 60% Equity

Investor 20% Debt 40% Debt

Older Investor 70% Equity 50% Equity

30% Debt 50% Debt

Bogle’s asset allocation strategy involves combining the

investor’s age, risk profile and preferences

AMFI Training
Jacob’s Model Portfolio

5% Liquid Funds

Income and Gilt Funds

15-30%

Diversified Equity

65-80%

Accumulation Phase

AMFI Training
Jacob’s Model Portfolio

5% Liquid Funds

15-30% Diversified Equity

65-80% Income and Gilt Funds

Distribution Phase

AMFI Training
• Benjamin Graham recommends that most investors
should choose a 50:50 asset allocation i.e. 50% in
equity and 50% in debt.

AMFI Training
 QUICK WIT

• What asset mix would you suggest to a 55 year old who plans to
retire at 58?
• 40% equity schemes and 60% balanced scheme
• 40% equity schemes and 60% debt scheme
• 20% equity schemes, 20% liquid funds and 60% debt scheme
• 100% monthly income scheme
• What portfolio would you recommend to a recently retired couple?
• 35% conservative equity, 25% moderately aggressive equity, 40%
money market funds
• 30% short-term municipal funds, 35% long-term municipal funds, 25%
moderately aggressive equity, 10% emerging growth equity
• 50% aggressive equity, 25% high yield bond funds and growth and
income funds, 25% conservative money market funds
• Either 2 or 3

AMFI Training
Session 17

Fund Selection

AMFI Training
• Fund Selection refers to actual choice of funds according to
chosen model portfolio for the investor
• Equity Fund: characteristics
• Category – choose fund that is suitable to investment objectives;
diversified funds, index funds, sectoral funds and specialized funds
• Investing style – growth or value investing, depending on risk and
return preferences
• Age of the fund – experienced funds with a track record are preferred
to new funds
• Fund size – larger funds have lower costs; small funds of large fund
houses may be preferred
• Fund management experience – track record of the fund manager is
important
• Risk and performance – risk adjusted returns should be considered
• Higher beta means higher risk
• Higher turnover means higher transaction costs.

AMFI Training
• Equity Funds: Selection Criteria
• Percentage holding in cash should be low – funds can always
sell liquid stocks to meet liquidity requirements
• Concentration the portfolio should be low – an equity fund
should be well diversified
• Market capitalization of the fund – high capitalization means
better liquidity
• Portfolio turnover – higher turnover means more transaction
costs but exploitation of opportunities. Low turnover
represents patience and stable investments
• Portfolio risk statistics.

AMFI Training
• Risk Statistics
• Beta – represents market risk; higher beta means higher risk
• If a fund has a beta higher than 1, it implies a risk level higher than
that of the market; diversified funds have beta close to 1
• Ex-marks – represents correlation with market – higher ex-marks
implies better sympathy with market hence lower risk; a fund with
higher ex-marks is better diversified than a fund with lower ex-marks
• Lower ex-marks means the returns of the fund are less dependent on
market returns
• Gross dividend yield – represents return after taking into account
costs; funds with higher gross dividend yield are preferred
• Funds with low beta, high ex-marks and high gross-dividend yield are
better performing.

AMFI Training
• Debt Funds – Selection Criteria
• Expense ratio is important
• Higher expense ratio leads to yield sacrifice
• For short-term investors, load is more important than expense
ratio; for long-term investors, expense ratio is more important
than load
• Total return rather than yield to maturity (YTM) is important
• Credit quality – better the rating of the holdings, safer the fund
• Average maturity – higher average maturity means higher
duration and thus higher interest rate risk; funds with higher
average maturity are more risky
• Costs and expense ratio are important in the choice of bond
funds.

AMFI Training
• Money market funds
• Criteria suggested by Bogle are:
• Lower expense ratio
• Higher credit quality of the portfolio
• Yield
• Liquidity and turnover rate is high
• Shorter-term instruments are turnover over more frequently
• Protection of principal invested is important
• NAV fluctuation is limited due to low duration and lack of
interest rate risk.

AMFI Training
 QUICK WIT
• Ex-marks (R-Squared) of a fund measures
• How much of a fund’s movement is due to the market index movement
• How a fund's movement relates to the market index movement
• How much of a fluctuation has occurred in the fund’s NAV over a historical
period
• How many marks a credit rating agency accords to a fund
• Which is a better investment option?
• Ex-marks 75% beta 0.9, gross dividend yield 8%
• Ex-marks 80% beta 0.9, gross dividend yield 8%
• Ex-marks 90% beta 0.9, gross dividend yield 9%
• Either 1 or 3 above
• For which of the following funds would you consider “average maturity”
as an important factor in selecting the right fund?
• A debt fund
• A balanced fund
• A money market or liquid fund
• Both 1 and 2 above

AMFI Training
Session 18

Business Ethics

AMFI Training
• Deals with rules of acceptable and good conduct
• Business ethics go beyond the law. Law is enforced by a
regulator, ethical codes are self-enforced
• The need for business ethics arises from the need to protect the
consumer, particularly when seller is strong and the buyer is
weak
• Good ethics is good business
• Ethical practices ensure that the customer remains a long term
buyer
• Mutual funds and their salespersons must adopt ethical, fair and
good business practices
• Educate the customer before he buys the product
• There are rules to be observed during pre-sales activity, during
and after the sales period.

AMFI Training
• The conduct rules for distributors and employees (including fund
managers of each fund) are set by Fund Trustees and Directors of the
AMCs
• AMFI has set ethical standards and practices for the industry
• AMFI’s code sets a common set of rules for all funds
• SEBI requires each fund house to develop ethical standards and
practices through detailed Code of Conduct for different groups –
distributors, fund managers and other employees
• Key terms
• Fair business practices – ensuring conduct of business in the interest of seller
and consumer or investor
• Ethical standards – benchmarks for acceptable levels of performance
• Code of conduct – a voluntarily adopted set of rules of good conduct,
acceptable to participants, employees, regulators and SROs
• Ethical business practices – procedures and policies applied in business to
ensure compliance with rules and codes of conduct
• Conflict of interest – a situation where interest of investors runs counter to
interest of the intermediary.

AMFI Training
• SEBI monitors three areas of activities of fund houses
• Fund structure and governance
• Exercise of voting rights by funds
• Fund operations
• In a mutual fund, the investors the beneficial owners and the trustees are
the fiduciary owners
• Investor protection is an integral part of mutual fund regulations in India
• AMCs are supervised by independent trustees whose responsibilities are
defined by the SEBI
• Principle of independence in legal structure is achieved in three ways:
• Separation of functions
• Independence of organizations
• Independence of personnel
• Trustees enjoy voting rights in companies whose shares are held by
mutual fund in their investment portfolio.

AMFI Training
• At the operating level, SEBI watches for any unethical or unfair business
practices, such as
• Insider trading
• Preferential treatment to select investors
• Personal trading by fund managers and employees
• Buying and selling securities by a fund manager ahead to doing the same
transaction for the fund is known as ‘front running’. It is banned by market
regulators the world over
• All form of advertisement (Audi visual, print, hoardings etc) is covered by
regulations
• SEBI has not laid down any specific code of conduct to be adopted by AMCs
• The responsibility to ensure ethical compliance by AMCs has been placed on fund
trustees
• Major ethical concerns of SEBI are personal trading and Insider trading by
personnel associated with mutual funds
• Appointment of a Compliance Officer by an AMC is mandatory as per SEBI
• Compliance Officer authorizes proposed personal trading and investment
transactions.

AMFI Training
 QUICK WIT

• Which of the following is an example of unethical behaviour?

• Fund distributor buying shares that he knows are part of the fund
portfolio recommended to investors
• Fund employee buying shares that he knows the fund has decided to
buy
• Fund trustee owning a share portfolio of his own
• Fund manager buying shares in his own name
• The code of conduct may be put in place by:
• AMFI
• Board of Trustees
• Directors of AMC
• All of the above

AMFI Training
• Insider trading means:
• personal trading transactions done by anyone associated with a
Mutual Fund
• personal transaction done by anyone with knowledge of the fund
decision in the security
• personal trading transaction without prior approval of the AMC
• personal trading transaction done by an insider of an AMC/Fund
• AMFI Code of Conduct for Intermediaries:
• Prohibits fund distributors from accepting commissions from an
investor who renews his investment in a scheme
• Prohibits them from rebating the commission back to such investors
• Encourages them to refrain from rebating the commissions to such
investors, but does not prohibit them
• Prohibits them from rebating commission back to all investors

AMFI Training