Nature of investment analysis

Answer 1

Funds are generally classified as Equity Funds or Debt Funds--and a hybrid of both these are the Balanced Funds.

The objective of Balanced Funds is to provide income through investments in debt securities and growth through investment in equity shares.

1. The Nature of Equity Funds

Equity Funds, as the name suggests, parks a major chunk of its corpus into equities. The fund may follow specific criteria for selection of the companies to invest in, focus only on specific sectors, or focus on select companies based on their market capitalization. Based on these aspects, equity funds can be further classified into:

• Diversified Equity Funds: In this case, the Equity Fund parks its investments in equity holdings across all sectors, and the choice of companies is based on the fund manager.
• Market Capitalization-based Funds: Some Equity Funds invest in companies based on the market capitalization. For example, some funds may invest only in mid-cap companies, or others may invest only in large-cap companies. There might be some funds that invest only in the Sensex companies.
• Sector Specific Funds: In these Equity Funds, the investment is only in a specific sector, such as Pharmaceutical or Real-Estate or Technology. Typically, fund managers will try and identify hot sectors and create a portfolio based out of companies only in that sector.
• Index Funds: A special type of Fund, here the asset portfolio of the fund is divided in the same way as that of the Index--either the BSE Sensex or NSE Nifty. Thus, the Fund mimics the movement of the BSE Sensex or Nifty. The NAV of the Fund varies based on the changes in the underlying asset--the Sensex of the Nifty. So, if the Nifty goes up by 5% on a particular day, then the NAV of the scheme will also typically go up by 5%. The percentages will not be exactly the same since the Fund also has to account expenses such as brokerage, and other management expenses. Index Funds are passive funds where the role of the Fund Manager is limited, as the portfolio has to just mimic the Index.
• ELSS Funds: A special category of Equity Funds that is included in the list of investments eligible for tax exemption under Section 80 C. To put it simply, investments up to Rs 1 lakh in ELSS schemes qualify for tax benefit. Equity Linked Saving Schemes invest completely in equities, but have a lock-in period of three years in which the units cannot be sold. In a recent development, the new tax code effective April 2010, does not list Equity-linked savings scheme ( commonly known as tax-savings mutual funds ) in section 66 ( the replacement of section 80c ). This means that ELSS would no longer be tax-savings instruments under the new tax regime.
• Exchange Traded Funds (ETFs): An ETF is a basket of securities that is traded on the stock exchange, akin to a stock. So, unlike conventional mutual funds, ETFs are listed on a recognised stock exchange. Their units can be bought and sold directly on the exchange, through a stockbroker during the trading hours. An ETF investor must therefore have a demat account. In case of ETFs, since the buying and selling is largely done over the stock exchange, there is minimal interaction between investors and the fund house. As such the fund manager's hand is never forced due to the buying/selling activity where as in a mutual fund the fund manager might be forced to sell his best investments prematurely to meet the redemption pressure. This in turn could have a negative impact on the long-term investors' interests. ETFs thus safe guard the interests of long term investors. ETFs can be either close-ended or open-ended. They can also be either actively or passively managed. In an actively-managed ETF, the objective is to outperform the benchmark index. To that end, they have no obligation to invest in stocks from any benchmark index. On the contrary, a passively-managed ETF attempts to replicate the performance of a designated benchmark index.