Mutual Fund Basics

What are Mutual Funds ?

A mutual fund is a professionally managed investment fund that pools money from many investors to purchase securities. These investors may be retail or institutional in nature. Mutual funds have advantages and disadvantages compared to direct investing in individual securities. – Wikipedia

In simple terms a Mutual Fund tries to make an investor’s life easier by maintaining a portfolio based on his/her goals in life. All one needs to do is pay a little fee to manage them ( little is not always true ) considering the projected profits we are making ( projections are also fishy in most cases)

Regular versus Direct Mutual Funds

Regular MF – A commission is paid to your Investment Advisor by the Fund Houses ( example: UTI , HDFC etc )

Direct MF – No middleman ( Investment Advisor ) and one can directly buy from Fund houses at half the expense ratio. Always choose this given a chance !

What is an NAV ?

Net Asset Value is simple , take the current market value of the fund’s net assets (securities held by the fund minus any liabilities) and divide by the number of shares outstanding. Thus, if a fund has total net assets of 1000/- INR and there are 100 shares of the fund, then the NAV is 10 INR per share ( 1000/100 ).

The NAV is used to determine the value of your holdings in the mutual fund (the number of shares held multiplied by the NAV price per share)
The NAV is the price at which new shares are purchased or redeemed

Open vs Close-end Mutual Funds

Open-end funds : You invest your money in an open-end mutual fund by buying shares at the NAV. Open-end funds determine the market value of their assets at the end of each trading day.

Close-end funds: Closed-end funds issue a fixed number of shares that are traded on the stock exchanges or in the over-the-counter (OTC) market. Unlike open-end funds, however, closed-end funds do not trade at their NAVs. Instead, their share prices are based on the supply of and demand for their funds and other fundamental factors. The brokerage fees on these newly issued shares can be quite high, which then erodes the price of the shares when they trade on the market.

Mutual Fund Manager

Asset Management Companies ( AMC ) deal in creation and maintenance of thousands of Mutual Fund Schemes. The funny part is there are now more Mutual Fund Schemes than the number of stocks listed in the National Stock Exchange. These Mutual Fund Schemes are headed by so called market experts, aka Fund Managers. Fund Managers ( FM ) are responsible for managing a Mutual Fund Scheme. Their main goal is to maximise returns of a scheme they head. These FM’s, considered experts in the art of choosing stocks, also have specialisation in certain sectors of the market. One Fund manager might have illusions of grandeur , being an expert in say Automobile and others might feel he/she is an oracle who can predict anything in an IT sector. Time and again, it has been proved , most of these Fund Managers have absolutely no clue on what they are upto. We will come back to this later.

Fiduciary Advisor

A Fiduciary is a class of Financial Advisors who are legally obliged to act in your best interest. They usually charge a flat fee structure or 1% of your total asset managed by them. This is supposed to make them truly think about their clients’ growth. Do they exist in India, is a huge topic of discussion on its own. Unfortunately, Fiduciary can wear dual roles, they can be Fiduciary and a Financial Advisor at the same time. What cap he is wearing when you approach him cannot be found. I remember , my grand dad always posed himself as a middle class pensioner who was hardly able to meet his needs. This made the doctor charge less in fees. It worked in most cases. So next time you meet a Financial Advisor who happens to be a Fiduciary, make sure you have some dramatic financial tales up your sleeve.

What about TAX ?

As of March 2025, the taxation structure for mutual funds in India has undergone significant changes due to amendments introduced in the Union Budget 2024. Here’s an updated overview:

Equity-Oriented Mutual Funds (EOFs):

Tax Rate: 12.5% on gains exceeding ₹1.25 lakh, applicable to transfers made on or after July 23, 2024.

Short-Term Capital Gains (STCG):

Holding Period: Units held for 12 months or less

Tax Rate: 20% on gains, applicable to transfers made on or after July 23, 2024.

Long-Term Capital Gains (LTCG):

Holding Period: Units held for more than 12 months.

Mutual Fund Fees

There are a wide variety of fees that get levied on a Mutual Fund investor. The fee structure is usually hidden, in the labyrinth of offer documents, that are complex and hard to understand for a common investor. I usually feel the more complex the field of investing is made , the easier it gets for the Mutual Fund houses to arm twist the individual investor to seek the advice of the so called Investment Expert.

Some of the common fees levied on investor are :

Transaction Charges: If an investor decides to invest in Mutual Fund Scheme with the help of a Financial Advisor or distributor , then asset management companies also collect transaction fees from the amount that is invested in mutual funds.

For example, Rs.100 might be deducted for subscriptions of more than Rs.10,000 ( 1% charge ). This 1% is also applicable on systematic invest plan (SIP) of Rs.10,000 or more. The transaction charge is then passed on to the distributor/Financial Advisor. Now we know why financial advisors have a liking towards certain AMC or MF in general. It’s not because they feel it will do better, but for the lucrative commission involved. They will always think of maximising their returns. Financial Advisors are like double agents, collecting money from both the AMC’s and the investors, who have come to them, assuming Schemes are being chosen only with their best interest in mind. Beware!, not true.

Exit Load : An exit load needs to be paid for some Mutual Funds. When we want to redeem or sell our investment before the predefined interval an exit load as much as 1-2% is levied. This can be a considerable chunk of your investment , considering the regular SIP’s that went into the Scheme.

Expense Ratio: The expense ratio of a stock or asset fund is the total percentage of fund assets used for administrative, management, advertising , and all other expenses. An expense ratio of 2% per annum means that each year 2% of the fund’s total assets will be used to cover expenses. These expenses are usually paid out to the Fund Manager ( FM ) for his “expert” advice and understanding of the Stock Market. The FM is an elite class of experts who can magically pick stocks that will yield great returns in the future, and the fee they collect to provide astronomical returns, is thus justified. The expense ratio does not include sales loads or brokerage commissions.

Expense Ratio is one of the purest forms of evil, among the fees levied on the naive mutual Fund investor. A decade back, I was attending one of my favourite cousins’ weddings. My uncle who worked in a bank, proudly spoke about SIP ( Systematic Investment Plan ) and how, as a young investor, should start investing through SIP. SIP is now the most heard investment jargon these days and somehow the solution to all our financial trouble, and the best means to be a Crorepati. But a decade back SIP was new, I did not understand the concept clearly, and my grandad was always weary of the fact that a smart investment could provide more than 10% returns. One of my uncles, bluntly called it a scam and stayed away from it. This led me away from the world of Mutual Fund investments and I am very grateful that I did. Read more about in detail about Expense ratio.

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