CHAPTER 20 Mutual Fund 461

Mutual Fund
ot stin it in
Muual
organization. which collects the small savings from general public with
Tund is an the aim 1nves
contributors,
distributed among the
h e secunties. The profit resulting from the investment is
Mutual fund is an organization, which
called unit holders. Mutual funds are based on the principle of
Trusteeship', which
means
collects small savings from genera else for the benefit of interested party and providig*
public with the oim of investing it in the working on the behalf of someone

securities protection to such party.

because of the increasing complexities
of mutual funds gained momentum
ne concept
of capital market. lt is difficult for an individual investor to create and manage his portfolio of i n v e s t e
lack of knowledge and experience about the stock market. Mutual funds provide the benefit of diversiicauo
ot
as a result of of investment gets mininmized. The concept of mutual
which risk
fund is that, a group expens
nolders form of corpus and invest it
judiciousiy
o

will mobilize small savings of investors. pool such collection in the

a
to manage une
after deducting the expenses required
gain out of it. The gain is distributed among the unit holders
mutual fund organization. Mutual funds provide the following benefits:

Expert knowledge
Diversification
Low cost of investment
Risk sharing modern financial scenario.
Markets tor
A mutual fund is the ideal investment vehicle
for today's complex and and
other assets are matured
bonds and other fixed income instruments, real estate, derivatives and
equity shares, in far-away places.
A typical
information-driven. Price changes in these assets are
driven by global events occurring their
of events, understand
inclination and time to keep track
individual is unlikely to have the knowledge, skills, investments,
track of ownership of his assets,
implications speedily.
and act An individual also finds it difficult to keep

brokerage dues and bank transactions etc.

staff that
Mutual fund is the a n s w e r to all these situations. It appoints
professionally qualified and experienced
fund allows it to hire
collected in the
functions on a full time basis. The large pool of money
manages each of these economies of scale in all three
such staff at a very low cost for each investor.
In effect, the mutual fund vehicle exploits invest
While the concept of individuals coming together
to
areas research, investments and transaction processing. In fact, mutual
twentieth century phenomenon.
the mutual fund in its present form, is a
money collectively is not new, thousands of firms offering tens of
thousands of
II. Globally, there are
funds gained popularity only after World War almost as much as or
mutual funds collectively manage
mutual funds with different investment objectives. Today,
more money as compared to
banks.

fund industry
Historical Facts about Indian mutual
of India. which has a total
mutual fund industry is dominated by Unit Trust
1963 The Beginning: The Indian all
investors. The UTI has many funds/schemes in
of Rs 700 billion collected from more than 20 million The Unit
corpus and some being closed-ended.
income, etc., with some being open-ended
categories equity, balanced,
Mutual Fund Schemes as on 31 March, 2008
TABLE 20.1 Asset under Management for Different (Rs in Million)

Open Ended Closed Ended Total

SI. No. Scheme
1,238.980 968.640 2,207,620
Income
1,230,580 336,640 ,567,220
02 Growth
135,910 26,920 162,830
03 Balanced
Liquid/Money Market 894,020 894,029
04 28.330
28,330
05 Gilt
133,270 26,930 160,200
06 ELSS
4,830 4,830
07 Gold ETF
26,470 26,470
08 Other ETFs
3,692,390 1,359,130 5,051 520
Total

(Source: SEBI and BSE website)

 462 Portfolio Management
Scheme 1964, commoniy refered to as US 64, a balanced fund, is the biggest scneme with a corpus of

by tne specat AcO arlament in 1963

about Rs 200
Dilion. UTI floated by financial institutions and is govemed
was
May 2008. Ihis was an
I s was an open-ended.
out with its pioneer scheme Unit 1964. This scheme was
closed in
open-ended
ot true hus scheme.
controlled. which is legally not Mot
O ts investors helieve that the UTI is government-owned
and
true,
but is true for all
practical purposes.
1990, The government allowed public s
Entry of Mutual Funds by Public Sector Banks: In
0 accounts for the second largest category of muttual hanks and
sututrons to set up mutual funds: this sector now Canara Bank and SBI Funds
unds floate
by nationalized banks, Canbank Asset Management AMCbyfoated General Insurance
floated
ffoated by the State Bank of India are the largest. GIC by
Management
Corporation comp:
Bima Sahayog AMC foated by the LIC are other prominent mutual funds. The aggregate corpus of funds me
ration and Jeevan
funds managed
this category of AMCs is about Rs 150 billion. by
1993- Announcement of SEBI Regulation and entry of Private Mutual Funds: In 1993, SEBI an
rules and regulations for mutual fund operations in India first time mutual funds sponsored by private sector the
were allowed in India. This category of mutual funds account for the third largest category of mutual funds inentitie
.
The largest of these is Prudential ICICI AMC and Birla Sun Life AMC. The aggregate corpus of assets mana
this category of AMCs is more than Rs 250 billion.
All these mutual funds are subject to SEBI guidelines as announced from time to time by the organization
n.

Organization and Regulation of Mutual Fund

Mutual funds are established on the principle of trusteship, and the following pattem is in practiced in India:
Mutual fund trust is to be established by a sponsoring company
The sponsoring company should be registered under Companies Act
Mutual fund trust to establish Asset Management Company (AMC)
AMC and mutual fund trust should get registered with SEBI
One custodian to be appointed by the mutual fund trust

Constituents of Mutual Fund Organization

1. Sponsor
2. Mutual Fund
Organization (Trust)
3. Asset Management Company (AMC)
4. Custodian

I. Sponsor
Sponsor is an organization, which sets up the mutual fund organization. The formulation of mutual fund is done
according to the rules laid down by SEBI. Following organizations are eligible to become
sponsor:
Banks
Sponsor is an organization, which sets up
the mutual fund organization. Financial Institutions
Private& Public Limited Companies
A sponsor must have a track record of
profitability of at least 5 years with positive networth. And the sponsor must
contribute minimum 40% of the capital of AMC.

2. Trust
This is established by the sponsor, and it functions as Mutual
Fund; mutual fund organization is in the torn
Trust'. In India, almost all the mutual funds are in the form
of a trust. A mutual fund trust
may float a trustecsu
company, which functions as a mutual fund instead of the
trust. Such a trusteeship
independent directors in the board of directors. This trust has con
Trust is established by the sponsor, and it should have S0%
functions as Mutual Fund, mutuai fun launching mutual fund schemes, ne
organization is in the through which savings of investors are collected pooled
form of a rust with the objective of making investment in the stock s

India
collected are called Corpus. market/money market. inc
CHAPTER 20 Mutual Fund

3. Asset
Management Company (AMC)
AMCisa
who
team of professionals and experts It is a team of An
have knowledge about professionals
essionals and experts
investment experts with
with the
the knowledge of the investment activiteS
knowledge o
octivities and makes investment of
corpus
ANC IS
responsible for investment of the funds collected ual
by the mutua ofund
trust.
in
collected under mutual fund mutual fund has its cto
schemes own
the board of directors.
AMC. At least 2/3 of the directors must be indepe

Some currently operating AMCs:

Name of the AMC
Nature of ownership
Alliance Capital Asset
Birla Sun Life Asset
Management () Private Limited Private foreign

Bank of
Management Company Limited Private Indian
Baroda Asset Management Company Limited Banks
Bank of India Asset
Management Company Limited Banks
Canbank Investment
Management Services Limited Banks
Cholamandalam Cazenove Asset
Management Company Limited Private foreign
Dundee Asset Management Company Limited Private foreign
DSP Merrill Lynch Asset
Management Company Limited Private foreign
Escorts Asset Management Limited Private Indian
First India Asset
Management Limited Private Indian
GIC Asset Management
Company Limited Institutions
IDBI Investment Management
Company Limited Institutions
Indfund Management Limited Banks
ING Investment Asset Management Private foreign
Company Private Limited
JM Capital Management Limited Private Indian
Jardine Fleming () Asset Management Limited Private foreign
Kotak Mahindra Asset Management Company Limited Private Indian
Kothari Pioneer Asset Management Company Limited Private Indian
Jeevan Bima Sahayog Asset Management Company Limited Institutions
Morgan Stanley Asset Management Company Private Limited Private foreign
Punjab National Bank Asset Management Company Limited Banks
Reliance Capital Asset Management Company Limited Private Indian
State Bank of India Funds Management Limited Banks
Shriram Asset Management Company Limited Private Indian
Sun F and C Asset Management (1) Private Limited Private foreign
Sundaram Newton Asset Management Company Limited Private foreign
Tata Asset Management Company Limited Private Indian
Credit Capital Asset Management Company Limited Private Indian

Templeton Asset Management (India) Private Limited Private foreign

Unit Trust of India Institutions
Zurich Asset Management Company () Limited Private foreign

4. Custodian
Custodian is an organization, which keeps the securilies in Sate custody on behalt of the mutual fund organization.

functions are generally performed by a custodian:

Following
.Post-trading activities
Custodian is an organization, which keeps Safe-keeping of securities
the securities in safe custody on behalf of
.Collection of dividends and benefits on behalf of the mutual fund
the mutual fund onganizotion.
Maintaining the account of holding
All thece constituents should be registered with SEBI ana must Tunction as per the guidelines laid by it.
464 India sponsor
or a foreign
forcign sponsor, is
spo
subject tothe
Fund in an
Indian

by
Regulation
of M u t u a l whether
promoted
India.
in
mutual
fund working SEBI:
Every specified by
regulations
following Registration
Formation
and
1.
2. Document
schemes
of
3 Regulation
mutual
fund
Investment by
4 Advertisement
code of conduct
5.
Disclosure of NAV
6
7 Winding up
All the
constituent

and Registration with SEBI. fulfill

I.
Formation
should be registered
before starting thei
carlier, with SEBI,

differcnt
constituents as
discussed
These must be registered
and payment of
requisite foo too.
The
criterion laid down by SEBI. various f o r m a l i t i e s for r e g i s t r a t i o n
the eligibility fulfillment of
SEBI requires
the
functioning.

Schemes offer documens .

Document for it must issue an

2. mobilize funds from public,
scheme to and transparency norms.or not.
launches a the d i s c l o s u r e
mutual fund these fulil
Whenever a Vetted by SEBI
to check
whether
as well as the risk factors iif the
documents should be the mutual fund organization,
details about
document must
contain all the
The offer
scheme.
investment is made in the

Schemes
3. Regulation of Close-ended schemes. At the time
(a) Open-ended,
and (b)
these are classified into two follows:
For regulation of schemes, of its corpus, which is
as
size of the scheme in
terms
of launching, SEBI regulates

Corpus 50 crore. This is counted as the amount

should have a minimum corpus of Rs
An open-ended scheme
collected during the first 45 days
of the launch of the scheme

A close-ended scheme should have

a minimum corpus of Rs 20 crore
it can not issue the units to applicants; rather money
Unless a mutual fund achieves these minimum corpus targets,
is to be refunded to them.
under any ot its
Returns: None of the mutual funds can promise a return for a period longer than one year period
schemes. Such promise for the one year period can not exceed 12% per annum.

Listing: Every close-ended scheme, which does not provide for immediate repurchase facility, should provide tor
tor tne
the listing of such scheme on a recognized stock exchange. This is required to provide an element of liquid1ty
schemes. Narnes of the stock exchanges should be mentioned in the offer document for the scheme.

4. Investment by Mutual Fund

Following are the regulatory provisions for the investment to be made by mutual fund:
fund nodity
Mutual
fund
can invest only in marketable securities, however Giold ETF can invest in gold and
invest in
can
commodity
Under a scheme maximum investment in the money market instruments can be 15% of the coip the
scheme; however, a money market mutual fund is not
Investment in the debCnture of a
subject to this provision the
corpus of such scheme
particular company, under any one scheme shall not exceeu
Investment in the securitics of unlisted
Investment
companies shall not exceed 25% of the corpus or d s heme
in the e
shares of a listed company under one
particular scheme shall be mini
following:
 Mutual Fund 465
CHAPTER 20

(a) 5% of the corpus of the scheme

(b) 5% of the paid up capital of the company listed
The maximum nvestment by a mutual fund under all of its schemes put together in the snae rall

company can not exCecd 10% of its aggregate corpus of all the schemes put together. Sun
limit of 10% of the pad up capital of the investee company another

A mutual lund can transfer the funds from one scheme to another scheme by purchasing
investment is being
scheme not excecding S% of the corpus of the scheme, in which such an

5. Advertisement Code of Conduct >EDi from

down by
schemes as laid
while advertising for the
track

Every mulual fund should follow the code of conduct its background. Pa
the sponsor
-

AMC.
Advertiscment for the schemes shall give full details about
time to time. functioning ot the scne
f
the
record. atfilhation, elc. The
offer document shall also contain details about
mention an0ut
mutual fund should
custodian and of the mulual fund organization. The
other activities
investment is made in the scheme.

6. Disclosure of NAV tume

rval
at a regular nc
NAV of all the schemes individually
Mutual fund organization
has an obligation to disclose
under every
scheme. At prescit. a
time to time. It should also disclose investment pattern
SEBI from
as specihed by
these are to be disclosed weekly.
Scheme + Net Receivables +Cash
Investment under the
NAV Market value of the Scheme
Number of Units under

7. Winding Up
unless a permission
Close-ended scheme in the offer
document,

should be wounded up at the time specified

scheme concerned
A close-ended
from SEBI or the authority
rollover of the scheme has been taken
for the
there is no
circumstances,
Open-ended scheme therefore, in normal
maturity period;
time
compulsorily. if
have a at any
scheme doesn't
An open-ended be wounded up
scheme. However, such a scheme is to we mean
the funds pooled
such a
winding up of By original corpus,
below 50% of the original
corpus.
corpus of
the scheme falls the scheme.
the subscription for
initial 45 days of the opening of
during the

Funds/Mutual Fund Schemes

Mutual
Types of
Open-ended fund
.Close-ended fund
Growth fund
Equity fund
Balanced fund
fund
market mutual
Money
Equity-linked scheme
Infrastructure fund
Debt fund
Growth fund
Income &
Income fund
Power mutual fund

Index fund
IT fund
Funds of fund
Dynamic fund basis of its structure and its investment obiective

be classihed on the
schemes may
Mutual fund
 Mutuol Func
Portfolio Monagement CHAPTER 20

Equity Linked Sav=

Act, 1961. The Acs
that is available tor mutual funds.
466 structure fund is one
subscription
of MF
based
on

An
open-ended
maturity. vestors can conveniently
Investors ca

One
Classification
Funds

do n o t
have a
ixed
The
h e key
feature of
key feature ot open-ended schemes Industry-speci
document. The in-
O p e n - e n d e d

These prices.
related
the year.
available for throughout Value
(NAV)

fund is Asset

An open-end
the yearand
does
sell units
at
Net
Index fund
n throughou
have a specified
maturity peniod Is liquidity NSE 50
not load
NAV + Entry
=

Sale price
Exit load stipulated maturit
ty eriod, which
NAV - fund has a
Performance Evæ
only during
= closed-ended

price or
Re
purchase
Funds A for subscription
fund is open
The and
Closed-ended

3-15 years. initial public

issue
they can buy A managed por
generally
ranges
from
at thetime of the
where they are listed
or: objective of inv
only
a open for subscription
period. Investors
can invest stock
the
exchanges
exit route t
he fund period
and has a
of the
scheme o n
In order to provide an are distributed
through periodic ep
units
unngspecfied
sell the is provided.
speaific msturty period or

sell these
if repurchase
option
units to the
mutual fund
provided to the i dse at
Mutu
back the routes is
an option of
selling
that at least
one of the
two exit
Portf
some
close-ended
funds give
Regulations
stipulate combine the features of onen indiv
SEBI Interval funds
NAV-related prices. Funds redemption during
Interval
They are open
TOr sale or
pre
schemes. Performa
combine feotures of open- and close-ended NAV-related prices.
nterval funds intervals at
ended and
dlose-ended
schemes. determined
The perform.
Objective Ret
Investment
on
Classification of MF Based appreciation
long- term Such
.
over medium to 2 Ris
is to provide capital It has been
of their corpus in equities.
funds proven
The aim of growth invest a majority 1. Returns
Growth Funds schemes normally most other kind of investments held
have outperformed holders who
returns from
stocks
is to provide that are ideal for investors having a long-tem erm
The aim of growth funds Growth schemes portfolio/m
over the
medium to over the long-term. of time.
over a period measuredi
capital appreciotion outlook, seeking growth
long-temn. funds is to provide regular and steady period. Re
The aim of income
Income Funds invest in fixed income securitierities,
generally
nvestors.
SUcn
scnemes securities. Income funds
coe O
proide such as bonds, corporate
to provide
debentures and government
income funds is
The aim of income
aim
is stability and regular income.
regular and steady
income to investos
are ideal for capital NAV
is to provide growth and
aim of balanced funds fund und-
Balanced Funds The and
distribute a part of their earning unit hol
schemes periodically
regular income. Such income securities in the proportion
indicated in
The aim of bolanced funds is to provide invest both in equities and fixed
NAV-
of these schemes may
stock market, the NAV 2. Risk=
both growth ond regular income their offer documents. In a rising These are ideal
when the market falls. fall equally measur
pace,not normally keep or
This ris
combination of income and moderate growth.
for investors looking for a of
The aim of money market funds is to provide easy
liquidity, preservation capital
Market Funds
Money
invest in safer short-term instruments treasury bills,
certiicates
O
and moderaie income. These schemes generally
market. Returns on these schemes may fluctuate, depending ou Systerm
deposit, commercial paper and inter-bank call money as a means
0 paus
marke
the interest rates prevailing in the market. These are ideal
for corporate and individual investors
their surplus funds for short period
s
Load Funds A Load Fund is one that charges a commission for entry or exit. That is, each time one buys o
worth
It couu
units in the fund, a commission need to be paid. Typically, entry and exit loads range from l1-2%.
paying the load, if the fund has a good performance history.
commission
no
No-load Funds A No-load Fund is one, that does not charge commission for entry or exit. Inat hat is,
put to
is payable on purchase or sale of units in the fund. The advantage of a no-load fund is that, the enturec p
work.

Other Schemes
of the Indian

Tax-saving Schemes These schemes offer tax rebates to investors under speciie
pl nents made in
Income Tax laws as the government offers tax incentives for investment in
specified avenues.
CHAPTER 2 0
Mutual Fund

Linked Savings Schemes (E1SS) 467

Fqu The Act also
and Pension Schenes
mutual funds.
provides opportunities to investors
are allowed deductin u/s H of the InOne
an
to save Tas
capital gains u/s 54LA and $ATM Dy
try-specific Schemes e
ent The investment of Industry-specitie
these funds Schemes invest only the
is limited to
in
industries specitied
spec ific industries ike in the ote
Index fund Index funds attempt
to replic ate the
Infofech, FMCG. pharmaceutics, ce
NSE 50 performance of a
particular index, such the BSE
as Sensex e

ormance Evaluation of Mutual

A managed portfoli is the one, which
Funds/Managed Portfolio
collects the funds from
abicctive of invesing these tunds in the investors n the form of different
are distributed among capital/money
market The benefits sehemes
with the
the contributors (unit generated from this invewtment ativities
holders). Following are included in the
category of managed
Mutual fund porl
Portfolio management scheme
Individual portfolio of an investor, managed by
professionals
Performance Indicators of Managed Portfolio
The performance of managed portfolio
a is measured with the help of two parameters
1. Returns
2. Risk

1. Returns: A managed portfolio invests all funds in different

securities, the benefit of which is meant for the
unit-
holders who contribute to the funds. NAV and its movement is the best tool to measure the performance of a managed
portfolio/mutual fund. The returns generated by a mutual fund over the holding period or over a longer period can be*
measured in the form of percentage returns. The returns are nothing but the appreciation recorded in the NAV over a
period. Returns over the holding period can be calculated as follows:
(NAV, -NAV,) + Dividends
Returns = 100
NAV,-1
NAV represents net asset value per unit; it indicates value of the assets netted against the liabilities held by a mutual
fund under a particular scheme at a point of time. This represents the expected value, which might be received by the
unit holders, if units are repurchased or surrendered for redemption/repurchase. NAV, means NAV at the end, and
NAV,- means NAV at the start of one year.
2. Risk: Risk of mutual fund/managed portfolio is the variability of returns over a significant period; it may be
measured in the form of standard deviation of the returns. This variability indicates expected fuctuation in the returns.
This risk can be classified into two types:
Systematic Risk
Non-systematic Risk
Systematic Risk: By systematic risk, we mean risk on account of association of a mutual fund with the general
market. This risk arises on account of system-wide factors:
Inflation Risk
Interest rate Risk
Political Risk
Market Risk
Risk due to government policies
Natural calamities
Scams/Malpractices
Monsoon
Industrial growth or output
International events
War-like Situation/lnternal Peace
 468 Portfolio Management

nis component of the risk can never be climinated. theretlore it is called non-diversifiable risk. This is measured in

terms of Beta
Refer to Chapter I of this book for detailed note on these ponts
Non-systematic Risk: It is on account of the performance of individual companies, in which investment has heen
ade and the strategies of mutual fund/ AMC for the investment activities. This can be eliminated or minimized by
adopting risk management technques. I is identited as Alpha of the isk component. Non-systermatic risk can arise
on account of the follow ing.
Busincss risk of companies
Financial risk of companies
Risk due to industry-specitic policies
Disputes in the companies
Portfolio management strategies of mutual fund/AMC
(Refer to Chapter I of this book for detailed note on these points)

Performance Evaluation of Managed Portfolio

Performance evaluation is nothing but checking out whether a desired level of activity has been achieved or not. it is
like taking a feedback about the functioning. returns and the risk of a mutual fund. It also resembles an assessment of
the performance in the following ways:
Comparing the returns with the risk-free returns
Comparing the returns against the over all returns ofthe mutual fund industry
Comparing the performance against the Index
Evaluating the performance with the help of excess returns to risk ratio
All these benchmarks can either be used
individually or collectively, in the form of an index at a time to evaluate
the performance of a mutual fund/managed portfolio. The performance evaluation of a mutual fund is nothing but the
Over-all performance evaluation of fund manager/AMC. This performance is indicated as (a) active fund manager or
(b) passive fund manager. An active fund
manager is considered to be aggressive and he likely to have high returns and
high risk. whereas a passive fund manager is less aggressive and likely to generate less returns and less risk.
performance is evaluated with the help of the following:
Generally.
Excess returns to risk ratio
Diversification of the mutual fund assets
Corelation with the general market index

Methods of Performance Evaluation

Different methods for the performance evaluation of
managed portfolio/mutual fund have been developed. All these
methods have one common element these are
risk-adjusted methods, in the sense that the performance is evaluated
-

in terms of risk-adjusted retuns. Few methods

compare returns against the risk-free returns and others evaluate the
performance in terms of returns for each unit of risk, etc. These are as follows:
1. Sharpe's Index
2. Treynor's Index
3. Jenson's Index

1. Sharpe's Index (Sharpe's Performance Index): Sharpe's index is based on the fundamentals that
a mutual fund can be reflected in terms of excess returns over the performance of
risk-free returns during a particular
excess returns are further weighed period. These
against risk of the portfolio in terms of standard deviation of the returns.
these are used to generate an index, which is as follows: Both of

Rp-
Sp
S.D.
Rp =
Mean returns of a
portfolio over a
particular time period, these are ealculated either taking NAV or
market prices.
T=It is the risk free return, generally returns on T-bill, of bank deposits
 Mutual Fund
CHAPTER2o

469
S.D. = Standard Deviation of the returns
Sp Sharpe's Performance Index
Charne Was of the opinion tnat in a
managed portfolio, which
ast negligible or zero. well-diversified, the portion of
is

of the portfolio returns can he regarded asnon-systematic

risk
Therefore, standard deviation
ofarket
the
t risk/systemalic isk. Accordingly. standard deviation of the returns has representative
evaluatingthe performance. It two portfolios have the same retums over
the significant role play whi a to

an
deviation of the returns, which helps in distinguishing the particular time period. a
then it the
starnuar is

t which has the value

performance According to the method,
portfolo judgeu a is

as b greater in terms of
Sharpe's Index' compared to other portfolios
as

2.
Trevnor's Index (Treynor's Reward-to-Variability Measure): This method is of the opinion that a manageo
artfolio must have excess returns over the risk-free returns. This method assumes that a managed portfolio desn t
enon-systematic risk, theretore risk in a portfolio/mutual fund can he measured in terms of Beta, ndicating
market/systematic risk. A Dest portlolio representing the best correlation with market is likely to have beta one.

Beta is the sensitrvity measurement. indicating volatility of the returns. It indicates about the expected fuctuations
in the returns, i1 market huctates by 1%. For example, if beta of a portfolio is 2. then. the returns from the portfolio
will change by 2% tor every 1% change in the market.
Formula used under this:

R-T
T,
B
calculated either taking NAV Or
R, = Mean returns of a portfolio over a particular time period, these are

market prices.
T= It is the risk-free return, generally returms on T-bill. of bank deposits
B= Beta of portfolio
T, =Treynor's Performance Index ranked
Portfolios are
While comparing different portfolios, a portfolio which has the highest index value is the best.
as per this index value.
of
of CAPM. It believes that performance
3. Jenson's Index: (Reward ratio) It is based on the fundamental
to risk
the
returns, which it must generate
as per
the expected
a mutual fund/managed portfolio can be compared against
fundamentals of CAPM. It is based on the following:
Existence of Risk-free assets

Existence of Market Portfolio or an representing this

index of the market
create a portfolio, combining
the risk-free assets and the market portfolio
It is believed that investors can either the returns of a managed portfolio
should be
in a managed portfolio. Therefore,
or they have the option of investing is used to calculate
to the fundamentals of
CAPM. Following equation
identical with the returns expected according
expected returns:

ER T+B, x (ERm-Tn
=

from managed portfolio/mutual fund

ERD Expected returns
=

portfolio/index
ERm Means returns of market
T=It is the risk free return, generally returns on T-bill, of bank deposits
evaluation
Beta of portfolio under
B, =

taken to evaluate the performance:

Following steps are under evaluation
and Beta of the portfolio
Calculatle actual mean returns

Calculate mean returns of market portfolio above

Calculate expected returns with the help of formula given
than the expected returns is considered to be better performer
more
mean returns
Decision: A portfolio having actual actual mean returns less than the expected returns is
whereas a portfoli0 having
and investment in such can be made,
considered as poor performer.
 Portfolio Management

Conclusion
of the portfolio. The
measured in terms of returns and risk
Tcormance of managed portfolio or mutual fund is
a
mutual fund over a particular time period.
of the
and risk can be calculated by taking NAV or the market prices
returns
he purpse of such performance evaluation is to find out whether a portfolio has performed well or not in comparison
to other portfolios/mutual funds. To evaluate the performance any one of the methods, i.e. Sharpe's index, Treyonr's
index or Jenson's index can he used.

vesriON
I.An investor has gathered the following information about mutual funds:

Mutual Fund Return (%) Risk (o) % B

15 1.50
11 0.50
17
11 0.70
E 19 1.20

Rerurn on zero beta portfolio is 4% and retum on market is 18%. Evaluate these mutual funds using all the three methods.

Solution:
Sharpe's Index

Table showing Sharpe's Index for Mutual Funds

Mutual Fund Return (%) Risk (o) % Sp Rank
4 15 (15-4/S = 2.20
B 11
(11-4)/4 1.75
C 17 (17-4 = 1.86
D 11
(11-46= 1.17
E 19
(19-4/5 =3
Here, we find that the mutual fund 'E' has
outperformed all others.
Treynor's Index

T R-T
Table showing Treynor's Index for Mutual Funds
Mutual Fund Return (%)
A
Tp Rank
5 1.50
B
(15-41.50 = 7.33
0.50
C 17 (11-4/0.50 =14
(17-4/1 = 13
D 0.70
E 19 (11-4)/0.70 =10
1.20
(19-4/1.20 12.50 3
Here, we find that the mutual fund "B' has
outperformed all others.
Jenson's Measure
Here, we will calculate expected return by using the following formula:
 Mutual Fund
CHAPTER20

471
ERp=T+ P, x (ERm T)
turn will be compared with the retun
generated
ndervalued, efficient (just valued) or overvalued. by
the portfolio and will find
T h i se x p e c t e

we
tíolios are under out whether each of these
o r t l

For A
ER =4 + 1.5 x (18 4)
ER= 25%

is only 15%
is 1S which is much be less than the
al
return given
expected return; hence it is overvalued and not worth

i n v e s t i n g .

For B
ER =4 +0.5 x (18 4)
Rp
ERn = 11%

rcturn given is 11, which is equal to the expected retum; hence it is an efficient mutual fund (portfolio)

For C
ERp=4 + Ix (18-4)
ER= 18%
worth
olreturm given is 17%, which is less than the expected return calculated above: hence it is overvaiued and not

investment.

For D
ERp4 +0.70x (18 - 4)
ERp 13.80%

return; hence it is overvalued mutual fund (portfolio).

Actual return given is 11%, which is less to the expected an

For E
ERp =4+ 1.20x (18 -4)
ERp 20.80%
worth
return calculated above: hence it is overvalued and not

Actual return given is 19%, which is less than the expected

investment.
472 Portfolio Management

CHAPTER HIGHLIGHTS
u t u a l tund is an organization, which collects the small savings from general public with the aim to invest the same in the
Securities. The profit resulting from the investment is distributed among the contributors, called as unit holders.
Mutual funds are based on the principle of TRUSTEESHIP, which means working on the behalf of someone else for the
benefit of interested party and providing a protection to such party.
Mutual funds provide following benefits:
Expert knowledge
Diversification
Low cost of investment
Risk sharing
a UTI was floated by financial institutions and is governed by a special act of Parliament in the year 1963 and it came out
with its pioneer scheme Unit 1964.
mutual funds, this
a accounts
In the year 1990 government allowed public banks and institutions
sector
up the
to set
for the second largest category of mutual funds floated by nationalized banks.
sector now

aIn the year 1993 SEBI announced the rules and regulations for mutual fund operations in India.
A l l these mutual funds are subject to SEBI guidelines as announced from time to time by SEBI.
Constituents of Mutual Fund Organisation
5. Sponsor
6. Mutual Fund Organisation (Trust)
7. Asset Management Company (AMC)
8. Custodian
Every mutual fund working in India, whether promoted by Indian sponsor or foreign sponsor is subject to the
a Following regulations specified by SEBI
. Formation and Registration
2. Document
3. Regulation of schemes
4. Investment by mutual fund
5. Advertisement code of conduct
6. Disclosure of NA
7. Winding up
Return from MF
(NAV,-NAV,)+ Dividends
Returns = * 100
NAV-
Sharpe's index

S.D.
a Trenor's index
Rp-T
, Bp
Jenson's Index for calculating expected returns

ERp = T+ B, (ERm- Tn
 KEY TERMS 473
M u l u a l
F u n d Close Ended Fund
Interval Fund
Fund of Fund
Growth Fund
Inist

Income Fund Hedge Fund

4MC

Balanced Fund
Sharpe Inder
ustoadian

nenEnded Fund Index Fund

Treynor' Index
Jenson's Index

N
MULTIPLE.CHOICE guESTIONS
of a mutual fund is the value of mutual fund unit
(a) initial (b) maturity value
arkel value of the securnties in which (C) entry load
Entry load means
corpus has been
invested. represented per un1t

(a) registration charges paid by mutual fund to SEBI

h listing fund for the listing of mutual fund on a stock
exchange
c) charges levied when units are sold by the mutual
fund
(d) none of the above
(e) all the above
3 Every mutual fund must have a separate custodian.
An investment in mufual fund launched by a bank is safe like creating a fixed
True/False
deposit with the bank.
True/False
THEORY QUESTIONS
5 "Mutual fund investments are subject to market risk, and these are not safe." Explain
6. Explain how mutual funds are regulated in India.
7. Write a note on the organization of mutual fund.

NUMERICAL QUESTIONS
An investor has gathered the following information about mutual funds
8
Mutual Fund Return (%) Risk (o)
b 0.80
X 20 I10
6.25
22
3.75
T6
all the three
Evaluate these mutual funds, using
market is l6.
On zero beta portfolio is 5% and return on

methods.

gUESTIONSs
SUGGESTED ANSWERS TO CHAPTER-END
Multiple Choice Questions
(d) 2. (c) 3. False 4. False
3. ERr
Mutual Fund Sp Tp
13.80%
2.50 18.7
17.10%
2.72 15.45
l6.00%
Z 2.93 1.00
 Portfolio Manage

India
PROJECT PROFILE
Case Study in
Funds
- A mutual
Mutual evaluation
ot
Evaluation
of
Performance
Model for performance
An Empirical Study on
Jenson's
Treyner's and [www.
er To find applicability
of Sharpe's, from the
website
obtained
Dective: is tor the
data that market
Funds secondary to the stock
o n the Related
is based
the study: The research Business World].
Scope of [Economic
Times, intormations

and some newspaper's various

amnindia.com/ 2007. identified
2006 to 31 January, the
researcher
period 15 February. the research effectively,
To carry out
Methodology:
Nesearch could be obtained.
from which they
needed and the mutual funds
sources

nature websites of
empirical in and
research is
Research design: The collected from
some newspapers
about NAV is
Data collection: Secondary data
Data type: Secondary
Mutual Fund of India.
Sampling universe:
sampling.
Sampling technique: Judgment
mutual fund schemes
Sample size: Five Indian annum.
is assumed to be 6 per cent per
The risk-free rate

months at fortnightly
Limitations researcher uses the data of I2
the
h e data cannot be representative for a long period as

been
interval for which data have
for the conditions, which prevailed during period
Findings ofthe study will be applicable
taken
Findings cannot be taken for generalization

Details about Funds

ABN AMRO Mutual und

Initial Offer Opened On: 9 August, 2004
Initial Offer Closed On: 3 September, 2004
2004
Scheme Re-opened for continuous sale & repurchase: 27 September,
Structure: Open-ended Equity Scheme without any assured returns
Options
The Scheme ofers Growth Option and Dividend Option. The Dividend Option offers Dividend Payout and Dividend
Re-investment facilities.

Features
The investment objective of the scheme is to generate long-term capital growth from a diversified and actively managed
porfolio of equity and equity-related securities. However, there can be no assurance that the investment objective of
the scheme will be achieved. The scheme does not guarantee/indicate any returns.

Application Amount
Crowth Ootion & Dividend Option: A minimum amount of Rs 5,000 per application and in multiples of Re l
thereafter. There is no upper limit.
Additional Application Amount
Growth Option & Dividend Option: Rs 1,000 and in multiples of Re 1 thereafter