BTL 701 - Mutual Funds – 02

 

The Banking Tutor’s Lessons

BTL 701                                                                          06-09-2024

Mutual Funds – 02

Classification of Mutual Funds

We have different types of mutual fund schemes - growth funds, income funds, and liquid funds. The names of the categories suggest the investment objectives of the schemes.

Open Ended; Close Ended & Interval (based on structure of the fund)

Mutual fund schemes are structured differently. Some schemes are open for purchase and repurchase on a perpetual basis. Once the scheme is launched, the scheme remains open for transactions, and hence the name of this category of schemes is open-ended funds. On the other hand, some schemes have a fixed maturity date. This means that these schemes are structured to operate for a fixed period till the maturity date and cease to exist thereafter. Since the closure of the scheme is pre-decided, such schemes are known as close-ended schemes.

Interval funds combine features of both open-ended and close-ended schemes. They are largely close-ended but become open-ended at pre-specified intervals.

The periods when an interval scheme becomes open-ended, are called ‘transaction periods’; the period between the close of a transaction period, and the opening of the next transaction period is called the ‘interval period’.

Minimum duration of the transaction period is 2 days, and maximum duration of the interval period is 15 days.

No redemption/repurchase of units is allowed except during the specified transaction period (during which both subscription and redemption may be made to and from the scheme).

Active Funds & Passive Funds (based on Management of portfolio)

Actively managed funds are funds where the fund manager has the flexibility to choose the investment portfolio, within the broad parameters of the investment objective of the scheme.

Passive mutual funds, commonly known as index funds, are investment schemes that aim to mirror the performance of a specific index. These funds are operated in a passive manner by fund managers, meaning they do not actively pick and choose investments but instead replicate the holdings of the designated index

By the investment universe

This type of classification looks at the investment universe where the scheme may invest money. An investment universe is a collection of assets that are likely to be profitable and are selected based on a common theme or concept.

There are equity funds, fixed income funds, money market funds, gold funds, international funds, etc. Here, the category names indicate where the money could be invested.

This classification may get further specific depending on narrowing the investment universe. For example, within equity funds, we have large-cap funds, mid-cap funds, etc. Similarly, within debt funds, we have Government Securities funds and corporate debt funds. 

Mutual fund scheme categorization and SEBI regulation

With a view to bring in standardization in the classification of mutual funds and to ensure the schemes are clearly distinct from one another, SEBI issued a circular on Categorization and Rationalization of Mutual Fund Schemes in 2017.

The objective was to bring uniformity in the characteristics of similar type of schemes launched by different mutual fund houses so that the investor can objectively evaluate the schemes chosen for investment. Accordingly, there are five broad categories of mutual fund schemes. Within each category, there are many sub-categories.

A. Equity Schemes (11 sub-categories)

B. Debt Schemes (16 sub-categories)

C. Hybrid Schemes (6 sub-categories)

D. Solution Oriented Schemes (2 sub-categories)

E. Other Schemes (2 sub-categories)

A. Equity schemes

Small cap, mid cap, and large cap are terms used to describe companies based on their market capitalization: 

Large cap: Companies with the highest market capitalization, typically ranked between 1 and 100. Large cap companies are also known as "blue-chip stocks". 

Mid cap: Companies with a market capitalization that ranks between 101 and 250. 

Small cap: Companies with a market capitalization that ranks beyond 250.

01. Multi Cap Fund: An open-ended equity scheme investing across large cap, mid cap, small cap stocks.

02. Large Cap Fund: An open-ended equity scheme predominantly investing in large cap stocks.

03. Large and Mid-Cap Fund: An open-ended equity scheme investing in both large cap and mid cap stocks.

04. Mid Cap Fund: An open-ended equity scheme predominantly investing in mid cap stocks.

05. Small cap Fund: An open-ended equity scheme predominantly investing in small cap stocks.

06. Dividend Yield Fund: An open-ended equity scheme predominantly investing in dividend yielding stocks. Scheme should predominantly invest in dividend yielding stocks.

07. Value Fund or Contra Fund: A value fund is an open-ended equity scheme following a value investment strategy. Minimum investment in equity & equity related instruments shall be 65 % of total assets. A contra fund is an open-ended equity scheme following a contrarian investment strategy. Mutual Funds will be permitted to offer either Value fund or Contra fund.

08. Focused Fund: An open-ended equity scheme investing in maximum 30 stocks (the scheme needs to mention where it intends to focus, viz., multi cap, large cap, mid cap, small cap).

09. Sectoral/Thematic: An open-ended equity scheme investing in a specific sector such as bank; power is a sectoral fund. While an open-ended equity scheme investing in line with an investment theme. For example, an infrastructure thematic fund might invest in shares of

10. Equity Linked Savings Scheme: An open-ended equity linked saving scheme with a statutory lock-in of 3 years and tax benefit. The minimum investment in equity and equity related instruments shall be 80 % of total assets (in accordance with Equity Linked Saving Scheme, 2005 notified by the Ministry of Finance).

11. Flexi-cap Fund: An open-ended equity scheme where the minimum investment in equity  and equity related assets are 65% of the total assets. This would be a dynamic fund where there can be investment across large cap, mid cap as well as small cap stocks.

B. Debt schemes

01. Overnight Fund: An open-ended debt scheme investing in overnight securities. The investment is in overnight securities having a maturity of 1 day.

02. Liquid Fund: An open-ended liquid scheme whose investment is into debt and money  market securities with a maturity of up to 91 days only.

03. Ultra-Short Duration Fund: An open ended ultra-short-term debt scheme investing in debt and money market instruments with Macaulay duration of the portfolio between 3 months and 6 months.

04. Low Duration Fund: An open-ended low duration debt scheme investing in debt and money market instruments with Macaulay duration of the portfolio between 6 months and 12 months.

05. Money Market Fund: An open-ended debt scheme investing in money market instruments having maturity up to 1 year.

06. Short Duration Fund: An open-ended short-term debt scheme investing in debt and money market instruments with Macaulay duration of the portfolio between 1 year and 3 years.

07. Medium Duration Fund: An open-ended medium-term debt scheme investing in debt and money market instruments with Macaulay duration of the portfolio being between 3 years to 4 years. Portfolio Macaulay duration under anticipated adverse situation is 1 year to 4 years.

08. Medium to Long Duration Fund: An open-ended medium-term debt scheme investing in debt and money market instruments with Macaulay duration of the portfolio between 4 years and 7 years. Portfolio Macaulay duration under anticipated adverse situation is 1 year to 7 years.

09. Long Duration Fund: An open-ended debt scheme investing in debt and money market instruments with Macaulay duration of the portfolio greater than 7 years.

10. Dynamic Bond: An open-ended dynamic debt scheme investing across duration.

11. Corporate Bond Fund: An open-ended debt scheme predominantly investing in AA+ and above rated corporate bonds. The minimum investment in corporate bonds shall be 80 % of total assets (only in AA+ and above rated corporate bonds).

12. Credit Risk Fund: An open-ended debt scheme investing in below highest rated corporate bonds. The minimum investment in corporate bonds shall be 65 % of total assets (only in AA (excludes AA+ rated corporate bonds) and below rated corporate bonds).

13. Banking and PSU Fund: An open-ended debt scheme predominantly investing in debt instruments of banks, Public Sector Undertakings, Public Financial Institutions and Municipal Bonds. The minimum investment in such instruments should be 80 % of total assets.

14. Gilt Fund: An open-ended debt scheme investing in government securities across maturity. The minimum investment in G-secs is defined to be 80 % of total assets (across maturity).

15. Gilt Fund with 10-year constant duration: An open-ended debt scheme investing in government securities having a constant maturity of 10 years. Minimum investment in G-secs is 80 % of total assets such that the Macaulay duration of the portfolio is equal to 10 years.

16. Floater Fund: An open-ended debt scheme predominantly investing in floating rate instruments (including fixed rate instruments converted to floating rate exposures using swaps/derivatives). Minimum investment in floating rate instruments (including fixed rate instruments converted to floating rate exposures using swaps/derivatives) shall be 65 % of total assets.

C. Hybrid Schemes

01. Conservative Hybrid Fund: An open-ended hybrid scheme investing predominantly in debt instruments. Investment in debt instruments shall be between 75 % and 90 % of total assets while investment in equity and equity instruments shall be between 10 % and 25 % of total assets.

02. Balanced Hybrid or Aggressive Hybrid Fund:

a) Balanced Hybrid Fund: An open-ended balanced scheme investing in equity and debt instruments. The investment in equity and equity related instruments shall be between 40 % and 60 % of total assets while investment in debt instruments shall be between 40 % and 60 %. No arbitrage is permitted in this scheme.

b) Aggressive Hybrid Fund: An open-ended hybrid scheme investing predominantly in equity and equity related instruments. Investment in equity and equity related instruments shall be between 65 % and 80 % of total assets while investment in debt instruments shall be between 20 % and 35 % of total assets.

Mutual funds in India are permitted to offer either Aggressive Hybrid Fund or Balanced Fund.

03. Dynamic Asset Allocation or Balanced Advantage: It is an open-ended dynamic asset allocation fund with investment in equity/debt that is managed dynamically.

04. Multi Asset Allocation: An open-ended scheme investing in at least three asset classes with a minimum allocation of at least 10 % each in all three asset classes. Foreign securities are not treated as a separate asset class in this kind of scheme.

05. Arbitrage Fund: An open-ended scheme investing in arbitrage opportunities. The minimum investment in equity and equity related instruments shall be 65 % of total assets.

06. Equity Savings: An open-ended scheme investing in equity, arbitrage and debt. The minimum investment in equity and equity related instruments shall be 65 % of total assets and the minimum investment in a debt shall be 10 % of total assets. The minimum hedged and unhedged investment needs to be stated in the SID. Asset Allocation under defensive considerations may also be stated in the SID.

D. Solution Oriented Schemes

01. Retirement Fund: An open-ended retirement solution-oriented scheme having a lock in of 5 years or till retirement age (whichever is earlier). This is meant for long term planning related to acquiring a corpus for retirement.

02. Children’s Fund: An open-ended fund for investment for children having a lock-in for at least 5 years or till the child attains the age of majority (whichever is earlier). This is meant to invest to build a corpus for the child and their needs in the coming years. 

03. Index Funds/Exchange Traded Fund: An open-ended scheme replicating/tracking a  specific index. This minimum investment in securities of a particular index (which is being replicated/ tracked) shall be 95 % of total assets.

04. Fund of Funds (Overseas/Domestic): An open-ended fund of fund scheme investing in an underlying fund. The minimum investment in the underlying fund shall be 95 % of total assets.

05. Fixed Maturity Plans are a kind of close-ended debt fund where the duration of the investment portfolio is closely aligned to the maturity of the scheme.

06. Capital Protection Oriented Funds are closed-end hybrids funds. In these types of funds, the exposure to equity is typically taken through the equity derivatives market.

07. Infrastructure Debt Funds are investment vehicles that can be sponsored by commercial banks and NBFCs in India in which domestic/offshore institutional investors, especially insurance and pension funds can invest through units and bonds issued by the IDFs.

08. Real Estate Mutual Fund scheme invests directly or indirectly in real estate assets or other permissible assets in accordance with the SEBI (Mutual Funds) Regulations, 1996. SEBI’s regulations require that at least 35 % of the portfolio should be held in physical assets.

09. Environmental, Social and Governance (“ESG”) Investing SEBI has introduced a separate sub-category for ESG investments under the thematic category of Equity schemes.

10. Smart Beta Fund are an extension of index or Exchange Traded Funds (ETFs) as they change  the basis of the exposure in the portfolio to the index using alternative strategies. The whole idea of smart beta funds is to improve returns. Increase diversification and reduce risk.

11. Quant Funds rely on data analysis and numbers usually undertaken by machines to select the securities in the portfolio. This takes out the human element in decision making.

E. Other Schemes

Other real estate and infrastructure investment instruments allowed by SEBI are Real Estate Investment Trusts (REITs) and Infrastructure Investment Trusts (InvITs). However, these two are not mutual fund schemes.

01. Real Estate Investment Trusts (REIT) are trusts registered with SEBI that invest in commercial real estate assets. The REIT will raise funds through an initial offer and subsequently through follow-on offers, rights issue and institutional placements.

02. Infrastructure Investment Trusts (InvIT) are trusts registered with SEBI that invest in the infrastructure sector. The InvIT will raise funds from the public through an initial offer of units. The offer shall be for not less than Rs. 250 crores and the value of the proposed assets of the InvIT shall not be less than Rs. 500 crores.

03. International REITs - A fund that invests in Real Estate Investment Trusts abroad gives an exposure to the investor both to international funds plus the commercial real estate sector. In India too, the number of REITs being listed are increasingly slowly and this kind of fund provides a different kind of holding to those who need such exposure.

Sekhar Pariti

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