Different Types of Mutual Funds

 Meaning of Mutual Fund

A mutual fund is also called an open-ended investment company. It stands ready at all times to purchase its own share and issue new shares to investors. Since capitalization of a mutual fund is open, the number of shares outstanding changes frequently. There are two methods of selling mutual fund shares: direct marketing and the use of salesforce. With direct marketing, mutual funds sell shares directly to investors without the use of a sales organization. In such a situation, the open-end companies, known as no-load funds, sell their shares at a price equal to their net asset value. Another method of selling shares involves the use of a sales force that is paid a commission based on the number of shares it sells. This sales force often involves brokers, financial planners, and employees of Insurance Companies.

Advantages of Mutual Fund

The popularity of mutual funds is increasing day by day because it provides important advantages to investors. The following points highlight the advantages of mutual funds.

Diversification:

One of the most important advantages of a mutual fund is diversification. Investment companies provide a well-diversified portfolio for the investor. A small investor with limited resources does not have enough funds to construct his/her own portfolio of significant stocks. Because a mutual fund owns multiple securities, its unit (share) holders can enjoy the benefit of diversification. Diversification can improve the risk-return trade-off associated with investing.

Professional management

Mutual funds generally hire professional portfolio managers who decide what securities to buy, and when to buy and sell them. One of the key rationales for hiring a professional portfolio manager is to capitalize his//her greater knowledge of the market. An individual investor can not hire professional managers personally and use their services because the cost of hiring will be very high.

Economy

Managing a well-diversified portfolio individually is costly. It is a time-consuming task as well as expensive. But the mutual fund or investment company achieves important economies of scale in this function that ultimately benefit the individual investor. Moreover, mutual funds trade securities on large scale and take advantage of economies of scale in operations and saving on brokerage commissions.

Participation of small investors

A mutual fund provides small investors an opportunity to invest in securities. An investor with Rs.20,000 may have difficulty using the fund in securities like T-bill, commercial papers, and stock with higher prices. But they can purchase investment companies' shares/units and indirectly take advantage of these securities.

Types of Mutual Funds

Mutual funds differ greatly in their stated investment objectives, portfolio strategies, and policies that have been designed to achieve the objectives. Traditionally, there were mainly three types of funds-stock, bond, and income mutual funds. But, nowadays various types of mutual funds are established to attract different types of investors. In addition, there are several other kinds of specialized mutual funds. Some focus on international securities, while other focus on stock on emerging companies, securities in the energy field, and other specialties.

Aggressive growth fund

It is the mutual fund that seeks maximum capital gains through the use of investment techniques. It achieves its objective by involving in greater risk, such as using leverage, short selling, hedging, option, and warrant.

Growth fund

A growth fund is a mutual fund whose primary investment objective is long-term growth of capital rather than a flower of dividends. It invests in the common stock of well-established companies. Investors who buy a growth fund are more interested in seeing the fund's share price risk than in receiving income from dividends.

Growth and income fund

It is a mutual fund that invests mainly in the common stock of companies that have an increasing share value but also a solid record of paying dividends. This type of fund attempts to combine long-term capital growth with a steady stream of income.

Balanced fund

A balanced fund generally has a three-part investment objective;

1) to conserve the investment’s principal;

2) to pay current income and

3) to promote the long-term growth of both principal and income.

Balance funds have a portfolio mix of bonds, preferred stocks, and common stocks,

Option/income fund

It seeks a high current return by investing primarily in dividend-paying common stocks on which call options are traded on national securities exchanges. Current returns generally consist of dividends, premiums from writing options, net short-term gains from sales of portfolio securities on exercises of options or otherwise, and any profits from closing purchase transactions.

Income fund

It is a mutual fund whose primary investment objective is current income rather than a long-term growth of capital. Income (bond) fund seeks a high level of current income for their shareholders by investing at all times in a mix of corporate and government bonds. Income (equity) funds seek a high level of current income for their shareholders by investing primarily in equity securities of companies with good dividend-paying records. Income (mixed) fund seeks a high level of current income for their shareholders by investing in income-producing securities, including both equities and debt instruments.

Corporate bond fund

Like an income bond, the corporate bond fund seeks a high level of income. They do so by buying bonds of corporations for the majority of the fund's portfolio.

Long-term municipal Fund

It is a mutual fund that invests in bonds issued by states, municipalities, cities, and other local governments to finance schools, highways, hospitals, airports, bridges, water and sewer works, and other public projects. In most cases, income earned on these securities is not taxed by the federal government but may be taxed under state and local news. For some taxpayers, portions of income earned on these securities may be subject to the federal alternative minimum tax.

Short-term municipal bond fund

It invests in municipal securities with relatively short maturities. These are also known as tax-exempt money market funds. For some taxpayers, portions of income from these securities may be subject to the federal alternative minimum tax.

Money market mutual fund

It is a mutual fund that invests in the short-term securities sold in the money market. It is also called a liquid asset of a cash fund. It is generally the safest, most stable securities available, including Treasury Bills, certificate of deposit of large banks, and commercial paper.

Global fund

Global bond funds invest in the debt securities of companies and countries worldwide, including the home country. Compared to direct investment, global funds offer investors an easier avenue to investing abroad. The funds’ professional money managers handle the trading and record-keeping details and deal with differences in currencies, languages, time zones, laws and regulations, and business customs and practices. In addition to another layer of diversification, global funds also add another layer of risk-exchange rate risk.

Precious metals/Gold fund

It maintains two-thirds of its portfolios invested in securities associated with gold, silver, and other precious metals.

State municipal bond fund

There are two categories of State Municipal bond funds long-term and short-term. These funds work just like other long-term and short-term municipal bond funds except their portfolios contain the issues of only one state. A resident of that state has the advantage of receiving income free of both federal and state tax. For some taxpayers, portions of income from these securities may be subject to the federal alternative minimum tax.

Government income fund

It invests in a variety of government securities such as Treasury bonds, federally guaranteed mortgage-backed securities, and other government bodies.

Mutual Fund in Nepal

The history of mutual funds in Nepal started with the floatation of “NCM First Mutual Fund 2050” by NIDC Capital Markets in 1993. The Fund was an open-end type in which individuals and organizations could participate. The investors’ right on the Fund was proportional to the number of units taken from the fund. The fund performed well in the beginning when there was a boom in the stock market, however, its performance deteriorated in 1995 and its trading had to be restructured into a closed-end fund to bring back into operation (Nepal Rastra Bank and NIDC injected Rs.45 Million and Rs.25 million respectively to bring back the Fund into operation).

Another fund “NCM Mutual Fund 2059” floated in 2002. It was a closed-end type of fund with Rs.100 Million, divided into 10 Million units of Rs.10 each value for 10 years term. Citizen Investment Trust (CIT), a trusted company registered under Citizen Investment Trust 2047, also started managing mutual funds by floating Citizen Unit Scheme (CUS) in 1995. The development of mutual funds stagnant for some time as there was no regulation to regulate the mutual fund business in Nepal. It got impetus only when the Government of Nepal came with Mutual Fund Regulations in 2020. After the enactment of the regulation, Siddhartha Capital Limited came up with the first scheme Siddhartha Growth Scheme I (SIGS-I) in 2012. The scheme was closed-end type and of five years maturity with Rs.10 unit price. Since then. Several mutual funds have come into the market with varying amounts and objectives.

Structure of Mutual Funds in Nepal

Fund Sponsor

The sponsor of the funds is like a promoter of the company. It is the body corporate that establishes and promotes the mutual funds. Fund sponsors many ones or more than one body corporate. Mutual Funds Regulation 2010 has been prescribed in the criteria for the fund sponsor. According to the provision of the regulation, the sponsor should be a body corporate established for providing financial services with a  minimum paid-up capital of Rs.1 billion; it should have five years of operational experience and earned profit in the last 3 consecutive years.

Fund Supervisors

The major responsibility of the supervisor is to protect the interest of unitholders. The sponsor, as per the provision of the regulation, must appoint at least five supervisors having qualifications as prescribed in the regulation. Among them, at least two-third should be independent experts. The responsibilities of the supervisor are to supervise the funds and protect the interest of the unitholders.

Fund Managers

The sponsor of the fund, with the consent of supervisors and approval of the Security Board of Nepal, should appoint a fund manager. The fund manager should be a body corporate licensed by the Securities Board of Nepal for undertaking the task of making investments and managing the mutual funds. The major responsibilities of the fund manager are to prepare the scheme, operate the scheme of mutual funds, disclose the relevant information on the scheme, and carry on the other functions as prescribed by the regulation.

Depository

The fund manager should be a body corporate licensed by the Board for performing the depository of funds. The responsibilities and duties of the depository are to maintain the records of the units and perform transform deeds; to perform sage keeping of securities under the scheme; receive the securities, amount, interest, dividend, or other income under the same scheme; distribute the securities, amount, bonus to the unitholders as per the instruction of fund manager; and other functions as prescribed by the Board.