All Mutual Funds Terms Explained


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What is this about?

We all know that ‘Mutual Funds Sahi Hai’, but when it comes to understanding all mutual fund related terms, we investors tend to turn in search of mutual funds Investopedia, but are unable to find one place which gives complete details about abbreviations used in mutual funds, and common mutual funds terminologies.

So this is why we thought that why not create the one-stop-guide for everyone searching for terms related to mutual funds? We advise that you bookmark this document so you’re never lost about anything when it comes to mutual funds.

Here are all mutual fund related terms, explained in the most simple ways, and sorted from A-Z:

a

Addendums and Notices

The offer document of a mutual fund scheme explains all the details including investment objectives, risk factors involved, the track record of the sponsors, educational qualification and work experience of key personnel.

However, some (or many) of the details pertaining to the scheme may change in due course of time, which is issued by the fund house in the form of addendum. These addendums and notices are available on the fund house website and also get published in the national dailies.

AMC

An Asset Management Company is the fund house or the company that manages the money.

The fund  is initiated by a sponsor. A sponsor is a person who acts alone or with a corporate to establish a mutual fund. The sponsor then appoints an AMC to manage the investment, marketing, accounting and other functions pertaining to the fund.

Application Amount for Fresh Subscription

The minimum investment amount for a new investor in a mutual fund scheme. It can be as low as Rs 100, depending upon the type of mutual fund.

Arbitrage

Technically, arbitrage consists of purchasing a commodity or security in one market for immediate sale in another market (deterministic arbitrage).

Popular usage has expanded the meaning of the term to include any activity which attempts to buy a relatively underpriced item and sell a similar, relatively overpriced item, expecting to profit when the prices resume a more appropriate theoretical or historical relationship

Asset Allocation

Asset allocation is an investment strategy which aims to spread investor’s portfolio across several assets such as equities, bonds, gold and cash according to their age, goals, risk tolerance ability and investment horizon. Mutual fund schemes too follow this strategy, albeit as per their investment objective.

For instance, a hybrid mutual fund scheme such as balanced funds typically has an allocation up to 65% in equity, and the remaining in debt and cash equivalents. Investors can, thus, look at the asset allocation of a mutual fund scheme and map it to their individual asset allocation.

AUM

Assets Under Management is the total value of all the investments currently being managed by the fund.
Let’s say the corpus is Rs 12,000 but, due to a rise in the price of the shares it has invested in, the value of the units has increased. So the Rs 12,000 invested is now worth Rs 15,000. This figure is referred to as AUM.

Average Maturity

Pure debt and hybrid mutual funds have different types of fixed income instruments in their portfolio with each of them having a maturity date. Average maturity refers to the average of the maturities of the entire debt instrument in the portfolio of the fund. Average maturity will give an idea about how sensitive the debt fund is to the changes in the interest rate. Fixed income instruments with longer maturity are more volatile than those with shorter maturity.

B

Balance Sheet

An accounting statement of a company’s assets and liabilities, provided for the benefit of shareholders and regulators. It gives a snapshot, at a specific point of time, of the assets that the company holds and how the assets have been financed.

Balanced Funds

Funds which aim to provide both growth and regular income as such schemes invest both in equities and fixed income securities in the proportion indicated in their offer documents.

A fund that invests in both equity (shares) and debt (fixed return investments) is known as a balanced fund.

Basis Point

One hundredth of a percentage point. Basis points are used in currency and bond markets where the size of trades mean that large amounts of money can change hands on small price movements . Thus if the yield on a Treasury bill rose from 5.25% to 5.33% the change would have been eight basis points.

Bear Market

A weak or falling market characterized by the dominance of sellers.

Benchmark

A group of securities, usually a market index, whose performance is used as a standard or benchmark to measure investment performance of mutual funds, among other investments. Some typical benchmarks include the Nifty, Sensex, BSE200, BSE500, 10-Year Gsec.

Benchmark Index

In mutual fund parlance, very often we hear that a particular scheme has outperformed or underperformed its benchmark index. This index is picked up by the fund house and can serve as a standard for the scheme’s returns. Benchmark indices are closely connected to the nature of the scheme.

For instance, equity schemes have benchmark indices such as S&P BSE Sensex and CNX Nifty; it enables investors to compare the scheme’s performance with that of the wider market. Benchmark index is used to gauge the fund manager’s performance.

A fund manager’s aim should be that the scheme’s returns outperform the index consistently. Benchmark index can be an important medium that investors can use to evaluate the scheme’s performance.

Beta

It measures the volatility of a particular fund in comparison to the market as a whole. It will indicate how sensitive the returns of the fund are to the fluctuation in the market. A beta of 1 shows that the fund’s NAV is closely aligned with that of the market. A beta of less than 1 implies the fund’s NAV will be less volatile than the benchmark index and vice versa if the beta is more than one.

Beta is a measure of an investment’s volatility vis-a-vis the market. Beta of less than 1 means that the security will be less volatile than the market. A beta of greater than 1 implies that the security’s price will be more volatile than the market.

Blue-Chip Stocks

The best rated shares with the highest status as investment based on return, yield, safety, marketability and liquidity

C

Compounded Annualised Growth Rate (CAGR)

It is the return of a fund from one point to the other after factoring in the time for holding investments. It gives an idea about the value of investment during its tenure. While investments usually do not grow at a constant rate, the compound annual return smoothens out returns by assuming constant growth.

For example, an investment of Rs 5,000 over a five-year period has grown to Rs 6,500 and given absolute returns of 30%, which is very high, but the gains are over five years and, hence, the CAGR is 5.38% obtained in the following manner – ((6500/5000)^(1/5))-1. CAGR calculates the growth rate of investment per annum by considering the compounding effect.

Consolidated Account Statement (CAS)

CAS refers to a single account statement which combines the transactions in all folios of an investor across all the mutual fund schemes/ fund houses. SEBI has mandated all asset management companies to ensure that a CAS will be issued every month to investors in whose folios transactions have taken place during the month.

CAS is issued for those folios which have a) financial transactions in a month and, b) identical unit holders (identified by a valid PAN). Further, in December 2012, AMFI launched CAS in the electronic form-‘eCAS’-replacing the paper statements.

Corpus

Let’s assume a very small mutual fund has an initial investment of 1,000 units and each unit is worth Rs 10. Hence, the total amount with the fund is Rs 10,000. This is referred to as the corpus. Later, some other investors invest Rs 2,000. Now the corpus will be Rs 12,000 (Rs 10,000 + Rs 2,000).

The total amount invested (Rs 12,000) is called the corpus or the total amount of money invested in the fund.

Coupon Rate

The interest rate stated on the face of coupon.

Credit Quality

While investing in debt funds, investors should gauge the credit quality of the instruments in the portfolio. The credit rating of the instruments indicates the level of default risk. The higher the rating, the safer is the instrument. To check this, investors can go through the offer document and the fact sheets published by fund houses. Generally, a debt fund invests in several instruments, ranging from risk-free government securities to high-risk corporate papers.

A fund that has invested a large corpus in a poor quality paper may find it difficult to sell this paper in the market, thereby putting the investor’s money at risk. As the safety of capital is of utmost importance to debt investors, they should not opt for funds with a large proportion of low quality investments.

D

Debenture

Bonds issued by a company bearing a fixed rate of interest usually payable half yearly on specific dates and principal amount repayable on a particular date on redemption of the debentures.

Debt fund

These are funds that invest in fixed return investments like bonds. A liquid fund is one that invests in money market instruments, these are fixed return investments of a very short tenure.

Derivative

A security derived from a debt instrument, share, loan whether secured or unsecured, risk instrument or contract for differences or any other form of security; (2) A contract which derives its value from the prices, or index or prices, of underlying securities

Discount

When a security is quoted at a price below its nominal or face value, it is said to be at a discount.

Diversification

Spreading the risk by constructing a portfolio that contains many different investments whose returns are relatively uncorrelated. Thus, risk levels can be reduced without a corresponding reduction in returns

Diversified equity mutual fund

This is a mutual fund that invests in stocks of various companies in various sectors.

Dividends

Payment made to shareholders, usually once or twice a year out of a company’s profit after tax. Dividend payments do not distribute the entire net profit of a company, a part or substantial part of which is held back as reserves for the company’s expansion. Dividend is declared on the face value or par value of a share, and not on its market price.

E

ELSS

Equity Linked Saving Schemes are diversified equity mutual funds with a tax benefit under Section 80C of the Income Tax Act. To avail of the tax benefit, your money must be locked up for at least three years.

Entry Load

A mutual fund may have a sales charge or load at the time of entry and/or exit to compensate the distributor/agent. Entry load is charged at the time an investor purchases the units of a mutual fund. The entry load is added to the prevailing NAV at the time of investment. For instance, if the NAV is Rs. 100 and the entry load is 1%, the investor will enter the fund at Rs 101.

Equities

The ownership interest in a company of holders of its common and preferred stock.

Ex-Dividend Date

The date on or after which the buyer of a security is not entitled to the dividend already declared.

Exit Load

Fees charged by mortgage trusts/mutual funds on a sliding scale as penalty for early withdrawal. Exit load is charged at the time an investor redeems the units of a mutual fund. The entry load is added to the prevailing NAV at the time of redemption. For instance, if the NAV is Rs 100 and the exit load is 1%, the investor will redeem the fund at Rs 101.

F

Fund Manager

An employee of the asset management company such as a mutual fund or life insurer, who manages investments of the scheme. He is usually part of a larger team of fund managers and research analysts.

G

Gilt Funds

Fund that invests exclusively in government securities.

Growth Funds

Unit trusts or Mutual Funds which invest with the objective of achieving mostly capital growth rather than income. Growth funds are mostly more volatile than conservative income or money market funds because managers invest on shares or property that are subject to larger price movements.

H

Holdings

The holdings or the portfolio is a mutual fund’s latest or updated reported statement of investments/securities. These are usually displayed in terms of percentage to net assets or the rupee value or both. The objective is to give investors an idea of where their money is being invested by the fund manager.

I

Index Fund

A mutual fund which invests in a portfolio of shares that matches identically the constituents of a well known stock market index. Hence changes in the value of the fund mirror changes in the index itself.

Indexation Benefit

Indexation is an option available for investors to manage their inflation-adjusted returns. It is a provision in the Indian Income Tax Act, which allows investors to use inflation as a tool to reduce their tax liability from income generated through debt mutual funds and bonds. The indexation benefit applies if such investments are held for more than 12 months. The same does not apply to bank fixed deposits (FDs) and other small savings where the interest earned is taxed as per applicable marginal tax slabs of 10%, 20% and 30%.

Institution Investors

Organizations those invest, including insurance companies, depository institutions, pension funds, investment companies, and endowment funds.

J

Jensen’s Alpha (ï¡)

The excess or abnormal returns earned by the mutual fund portfolio compared to its benchmark. A positive alpha on the investment implies that the fund has performed better than expected, given its beta. A negative alpha indicates that the fund has underperformed.

K

Know Your Client

Commonly referred to as KYC, it is a term used for the client identification process by mutual funds, banks, insurance companies, etc. In the case of mutual funds, market regulator Securities and Exchange Board of India (SEBI) has prescribed certain requirements relating to KYC norms.

This is in the form of verification of identity, address, providing information of financial status, occupation and other demographic information. An applicant must be KYC compliant to invest in a SEBI registered mutual fund. Investors can download KYC forms from websites of mutual funds, CDSL Ventures Limited (CVL) and the Association of Mutual Funds in India (AMFI).

Investors need to provide proof of identity like a PAN (permanent account number) card copy, passport copy, driving licence copy, etc. and proof of address.

L

Liabilities

Any claim for money against the assets of a company, such as bills of creditors, income tax payable, debenture redemption, interest on secured and unsecured loans, etc. Although on balance sheet shareholder’s equity is shown under liability, it has no claim on the assets of a company, unless it goes into liquidation.

Load

A sales charge assessed by certain mutual funds (load funds) to cover selling costs. A front end load is charged at the time of purchase. A back-end load is charged at the time of sale.

This is a fee that is charged when you buy or sell the units of a fund.Generally, if funds charge an entry load, they will not charge an exit load. Or vice versa. Only one of the loads is charged.

The load is a percentage of the NAV.

M

Minimum Additional Amoun

This is the minimum investment amount for an existing investor in a mutual fund scheme.

Modified Duration

Modified duration is the price sensitivity and the percentage chanin price for a unit change in yield

N

Nature of Scheme

The investment objective and underlying investments determine the nature of the mutual fund scheme. For instance, a mutual fund that aims at generating capital appreciation by investing in stock markets is an equity fund or growth fund. Likewise, a mutual fund that aims at capital preservation by investing in debt markets is a debt fund or income fund. Each of these categories may have sub-categories.

NAV

Net asset value or NAV is the most commonly associated word with mutual funds and widely used by investors while buying and selling mutual fund units.

The NAV or the net asset value is the total asset value per unit of the mutual fund after deducting all related and permissible expenses. The NAV is calculated at the end of every business day. It is the value at which the investor enters or exits the mutual fund.

The Net Asset Value is the price of a unit of a fund. When a fund comes out with an NFO, it is priced Rs 10. Later, depending on the value of the investments, this price could rise or fall.

Net Worth

The aggregate value of the paid up equity capital and free reserves (excluding reserves created out of revaluation), reduced by the aggregate value of accumulated losses and deferred expenditure not written off, including miscellaneous expenses not written of.

NFO

A New Fund Offering is the term given to a new mutual fund scheme.

O

Open-End Fund

An open-ended fund or scheme is one that is available for subscription and repurchase on a continuous basis.

Option

The contractual right, but not obligation, to buy (call option) or sell (put option) a specified amount of underlying security at a fixed price (strike price) before or at a designated future date (expiration date).

The option writer is the party that sells the option. As per the Securities Contract Regulation Act (SCRA), “option in securities” means a contract for the purchase or sale of a right to buy or sell, or a right to buy and sell, securities in future, and includes a teji, a mandi, a teji mandi, a galli, a put, a call or a put and call in securities.

P

Portfolio

A collection of securities owned by an individual or an institution (such as a mutual fund) that may include stocks, bonds and money market securities.

This term is given to all the investments made by the fund as well as the amount held in cash.

Preferred Stock

Owners of this kind of stock are entitled to a fixed dividend to be paid regularly before dividend can be paid on common stock. The owners also exercise claims to assets, in the event of liquidation, senior to holders of common stock but junior to bondholders. Holders of preferred stock normally do not have a voice management.

Premium

If an investor buys a security for a price above its eventual value at maturity he has paid a premium for it.

Price-To-Earnings Ratio (P/E)

The ratio of the market price of the share to earnings per share. This measure is used by investment experts to compare the relative merits of a number of securities.

R

R-squared

This term is used to gauge the correlation between the mutual fund scheme and the benchmark index measured in the range of 0 to 100. R-squared of 100 means that the mutual fund moves in tandem with the benchmark index and R-squared of 0 means least correlation.

Rating Profile

Mutual funds invest in securities after evaluating their creditworthiness as disclosed by the ratings. A depiction of the mutual fund in various investments based on their ratings becomes the rating profile of the fund. Typically, this is a feature of debt funds

Record Date

A date on which the records of a company are closed for the purpose of determining the stockholders to whom dividends, proxies rights etc., are to be sent.

S

Sector Fund

A fund that invests primarily in securities of companies engaged in a specific investment segment. Sector funds entail more risk, but may offer greater potential returns than funds that diversify their portfolios.

Sharpe Ratio

This ratio measures the risk-adjusted performance for each unit of dispersion measured by Standard Deviation. Higher Sharpe Ratio shows superior risk-adjusted performance of a fund, i.e. fund has generated higher returns for every unit of risk taken.

The Sharpe Ratio, named after its founder, the Nobel Laureate William Sharpe, is a measure of risk-adjusted returns.

Standard Deviation

It implies how much returns on a fund are deviating from the average returns based on its historical performance. Standard Deviation helps in finding out the degree to which the fund fluctuates in relation to the average returns of a fund over a period of time. It will give an idea about the consistency of a fund’s returns.

A higher standard deviation means higher volatility and a lower standard deviation means lower volatility. Hence, from the investor’s perspective lower the ratio it is better.

Systematic Investment Plan (SIP)

The concept of systematic investment plan is similar to recurring bank deposits wherein investors contribute a fixed sum of money at regular intervals. Systematic Investment Plan make the market timing irrelevant as one invests both at the high and low points of the market, and make the best of an opportunity that is otherwise difficult to predict.

Systematic Investment Plan help investors to tide over the volatility and cut down the losses on the portfolio by averaging out the cost ” the concept is commonly referred to as “rupee cost averaging” since investors purchase more units when the NAV is low and fewer units when the NAV is high. SIPs offer a simple and disciplined way to generate higher risk-adjusted returns and meet the desired goals.

Let’s say that every month you commit to investing, say, Rs 1,000 in your fund. At the end of a year, you would have invested Rs 12,000.

SIP or systematic investment plan works on the principle of making periodic investments of a fixed sum. It works similar to a recurring bank deposit. For instance, an investor may opt for an SIP that invests Rs 500 every 15th of the month in an equity fund for a period of three years.

Systematic transfer plan (STP)

Systematic transfer plan allows investors to transfer the pre-defined amount on a specified date from one particular scheme to another by giving one-time instruction to the fund house.

STP is a useful tool to take a step-by-step exposure to equities or to reduce exposure over a period of time. Investors sometimes want to withdraw their money from the equity MF scheme and transfer it systematically to a debt scheme or a money market scheme of the fund house or vice versa.

Systematic withdrawal plan (SWP)

Systematic withdrawal plan helps investors to redeem a fixed amount of their investments from their mutual funds on a pre-determined frequency. The amount withdrawn can be used to meet planned and unplanned expenses as well as to re-invest according to an individual’s life stage/ asset allocation plan.

SWPs ensure one receives the amount in parts rather than the whole so that the spending is planned effectively and are also more tax efficient in case of withdrawals from debt oriented mutual funds in comparison to dividend options and bank FDs.

T

Total Expense Ratio (TER)

Apart from risks and returns, investors must look at the costs involved while investing in mutual funds. Though these costs are a small component, they can knock down investors’ earnings especially if a scheme does not perform well. TER is an annual charge on AUM in percentage terms and is calculated as (total expenses during an accounting period) * 100 / total net assets of the fund.

The ratio includes investment management and advisory fees, sales/agent commissions and ongoing service fees, legal and audit fees, registrar and transfer agent fees, fund administration expenses, and marketing and selling expenses. The NAV of a mutual fund scheme is net of all liabilities including TER and, hence, a lower TER results in higher returns and vice versa. Investors must invest in a scheme which charges a lower TER compared to peers as higher expenses reduce returns of the fund.

Tracking Error

When using an indexing or any other benchmarking strategy, the amount by which the performance of the portfolio differed from that of the benchmark.

Treynor Ratio

A variant of the Sharpe Ratio, this measures the risk-adjusted performance for each unit of dispersion measured by beta (i.e. market risk). This ratio is similar to the Sharpe Ratio, only it uses beta as the volatility measurement. The ratio divides the difference of the average return of a fund and the risk-free rate by beta (market risk) of the fund.

Trigger Facility

Mutual funds offer an optional feature that gets automatically activated (through an alert) on the occurrence of a pre-defined event. This facility allows an investor to fix a date, NAV or the index level at which he/she can enter or exit a fund or switch to another fund. Investors can choose a one-time trigger (deactivated once the action is complete) or opt for repetitive triggers wherein the fund house will continue to make the pre-described changes.

There are different types of triggers such as NAV, index-based, time-based, capital appreciation/depreciation, entry trigger etc.

Trustee

Legal custodian who looks after all the monies invested in a unit trust or mutual fund.

U

Underwriter

One who does underwriting. A financial organization that handles sales of new securities which a company or municipality wishes to sell in order to raise money. Typically the underwriters will guarantee subscription to securities say, an issue of equity from the company at a stated price, and are under an obligation to purchase securities upto the amount they have underwritten, should the public not subscribe for the issue.

V

Volatility

Volatility equates to the variability of returns from an investment. It is an acceptable substitute for risk; the greater the volatility, the greater is the risk that an investment will not turn out as hoped because its market price happens to be on the downswing of a bounce at the time that it needs to be cashed in.

Y

Yield to Maturity

The Yield to Maturity or the YTM is the rate of return anticipated on a bond if it is held until maturity. YTM is expressed as an annual rate. The Yield to Maturity factors in the bond’s current market price, par value, coupon interest rate and time to maturity.

Z

Zero-Coupon Bond

A bond that pays no interest while the investor holds it. It is sold originally at a substantial discount from its eventual maturity value, paying the investor its full face value when it comes due, with the difference between what he paid initially and what he finally collected representing the interest he would have received over the years it was held.


Now that you know the terms of mutual funds, it’s the right time for you start investing. Here is a complete guide to investing in mutual funds.

Written by

Vedant Kaushik