A SUMMER INTERNSHIP REPORT

ON

COMPARATIVE ANALYSIS OF MUTUAL

FUND AND UNIT LINKED INSURANCE

PLANS

A Dissertation Submitted

In the Partial Fulfillment for the

Post Graduate Diploma in Business Management

Submitted to:

ACKNOWLEDGEMENT

Preservation, Inspiration and Motivation have always played a key role in

success of any work. In present world of competition & success, training

helps to bridge the gap between Theory & Practical.

I am indebted to NSB School of Business New Delhi to have given me this

wonderful opportunity of acquiring knowledge out of limitation of books.

I forward heartiest gratitude to Mr. Alok Satsangi (Head of Corporate

relation & Placement Cell) who allowing me to undergo summer internship

program in SMC Investment Solution & Services.

I also forward my heartiest gratitude to Mr. Amit Virmani (Area Manager)

of SMC Investment Solution & Services who helped me in the completion

of this project.

Last but not the least, I would also like to thank my fellow management

trainees from NSB, New Delhi. By interacting with them, I was able to

generate, more meaningful ideas that have enabled me in successful

completion of this project.

Table of Content

ORGANIZATION REPORT

COMPANY PROFILE

SMC INVESTMENT SOLUTION & SERVICES

A One Stop Investment Shop

"SUCCESS HINGES ON A PASSION FOR EXCELLENCE"

SMC Group, a leading Financial services provider in India is a vertically integrated

investment solutions company, with a pan-India presence. Over the Years, SMC has

expanded its domestic & international operations. Existing network includes regional

offices at Mumbai, Kolkata, Chennai, Bangalore, Cochin, Ahmedabad, Jaipur, Hyderabad

and 1500+ offices across 375+ cities in India. SMC has plans to grow its network to

2,000 offices across 500+ cities in the next 3 years. The company has expanded

Internationally, and has established office in Dubai Gold and Commodities

Exchange(DGCX).Its products and Services include Institutional and retail brokerage of

equity, commodity, currency, derivatives, online trading , investment banking, depository

services, clearing services, IPOs and mutual funds distribution, Portfolio management,

wealth advisory, insurance broking, equity and commodity research.

SMC is one of the most active trading organization in India, averaging over 3,50,000

trades per day. Currently, SMC has a highly efficient workforce of over 4,000 employees

& one of the largest retail network in India currently serving the financial needs of more

than 5,50,000 satisfied investors

SMC has entered into a 50:50 joint venture with Sanlam Group, one of the largest listed

financial services group in South Africa for setting up wealth Management and Asset

Management business in India, Sanlam is operating in over 30 countries globally

including UK, USA, Switzerland, Luxembourg, Dublin, Australia and others.

VISION

To be a global major in providing complete investment solutions, with relentless focus on

investor care, through superior efficiency and complete transparency.

SMC APPROACH

VALUE FOR INVESTOR’S TRUST: SMC values the trust reposed in by the clients

and is committed to uphold it at all cost.

INTEGRITY AND HONESTY: Integrity, honesty and transparency are the underlying

principles in all our dealings

PERSONALISZED ATTENTION: The most valued asset is relationship with the

clients, which has been built over years by giving personalized attention.

NETWORK WHICH WORKS: SMC has a vast network extending to 375+

cities/towns ensuring easy accessibility, convenience and hassle free trading experience

RESEARCH BASED ADVISORY SERVICES: SMC offers proactive and timely

world class research based advice and guidance to its clients to enable them to take

informed decisions.

  SERVICES

BROKING: Equities, Derivatives, Currency, Commodities, Online Trading,

Commodities trading in international market through DGCX.

INVESTMENT BANKING: IPOs, Follow on offers, M&A, Private equity, Debt

syndication, ESOP, valuation, etc.

DISTRIBUTION OF FINANCIAL PRODUCTS: Insurance broking for life and Non-

Life products, Distribution of IPOs and Mutual Funds (with web based capabilities)

Mobilization of company fixed deposits and non convertible debentures, Distribution of

bond products- Capital gain/tax saving bonds, Govt. of India 8% taxable bonds, etc.

DEPOSITORY AND CLEARING SERVICES

Depository Services for shares and commodities, Clearing Services in NSE (F&O,

Currency), BSE (F&O, Currency) MCX (Commodities, Currency) and DGCX.

WEALTH MANAGEMENT

Wealth advisory & arbitrage Management for HNIs and Corporate.

NRI AND INSTITUTIONAL DESK

Dedicated team for NRI and Institutional Desk

CORE VALUES

FOUNDERS & PROMOTERS

Mr. Subhash Chand Aggarwal, Chairman and Managing Director of SMC Global

Securities Ltd. and Mr. Mahesh Chand Gupta, Chairman and Managing Director of SMC

Comex (P) Ltd. are the founders and promoters of SMC. Both are chartered accountants.

They are an embodiment of professional excellence. They are the visionaries who planted

the sapling of the giant tree called SMC. With rock solid reserve and firm commitment,

they have shaped their vision to reality. They have a rich experience of more than 20

years in the capital market. Their exceptional leadership skills and outstanding

commitment has made SMC as one of the leading investment solutions and services

provider. They both assign top priority to the principles of transparency, honesty and

integrity in all our dealings.

LOCATIONS

Head Quartered in New Delhi.

Regional offices in Ahmadabad, Chennai, Cochin, Hyderabad, Jaipur, Mumbai,

noida.

Over 900 offices in 240 cities.

Recently expanded into Dubai, plans include expansion throughout the Gcc

countries (Saudi Arabia, Bahrain, Kuwait, and Oman & UAE)

Opening office in NY, London, Hong Kong and Singapore.

RESEARCH AND DEVELOPMENT-

The SMC research centre-

The IDEOLOGY: Right advice at the right time.

When you invest with SMC, we ensure that you make the right investment decisions at

the right time.

THE RESEARCH TEAM-

Mr. Rajesh Jain, a prominent Equity and Commodity analyst of India having

vast experience of over 15 years in stocks and commodities head the SMC

research team

Highly qualified Fundamental Analysts for different sectors of the economy

having understanding of the economy at macro and micro levels

Future and Options strategists having expertise in deriving and implementing

various F&O strategies

Technical & statistical analysts having specialization in various charting

techniques and expertise in reading of the market and scrip/commodities

specific trends

Fund management experts at choosing the right investment mix for the

investors as per the resp. profiles of the investors.

THE TECHNOLOGY-

For fundamental, technical and statistical analysis we are equipped with the best

of the softwares like:

Reuters for equity and commodities fundamental & technical analysis

Industry Analysis Services (IAS) & CAPeX for Industry Analysis

Prowess for Corporate Fundamental Analysis

M&A for Corporate Mergers and Acquisition Analysis.

Indian Harvest for Agro Commodity Analysis

Agriwatch for Commodity Analysis

Capitaline Plus for Equity Fundamental Analysis

Crisil Commodity Market Wire for fundamental & technical commodity analysis

IRIS and Falcon for Equity and F&O Technical Analysis

Telequote for Commodities Technical Analysis.

Reuters, Metastock and Moneyline for Equity and Commodity fundamental &

technical analysis Other various statistical and supplementary software’s.

RESEARCH OUTPUT -

Equity and Commodity information buzzing throughout the day and detailed reports in

the morning and evening.

Daily Reports on Bullion, Base Metals and Crude Oil.

Periodical Reports on Public Offerings and Mutual Fund analysis.

Reports containing Macro and Micro Economic Analysis.

Research reports on fundamentally sound stocks.

Monthly Fundamental analysis of few selected companies and two commodities.

Intraday guidance in securities and commodities market through SMS, E-mails

and Messenger.

Excellent projections of short term, medium term and long term trends.

Intraday trends for most active shares and commodities including international

commodities.

New fund offer analysis reports.

Weekly Magazine WISE MONEY covering Equity, Commodities, Mutual Funds

and IPO’s .

Special situation reports like Analytical reports on budget, elections, credit policy,

import-export policy and so on.

Research based stocks and commodity arbitrage strategies.

OBJECTIVE OF STUDY

To know the existing investment pattern among different age groups and

different occupations.

To know the present portfolio of the investors, their perceptions about different

investment schemes, their investment concerns, their present returns, and their

future expectations from different investment schemes.

To know the popularity and acceptability of the two products i.e. ULIP and

MUTUAL FUNDS among the above mentioned categories.

To know the potential customers for the investment schemes: ULIP and Mutual

fund.

To analyze reasons of the preference of customers for Ulip as compared to Mutual

fund.

To find out the USP of Ulip and Mutual Fund available in the market.

INTRODUCTION OF UNIT LINKED

INSURANCE PLANS

Unit linked insurance plan (ULIP) is a life insurance solution that provides the client with

the benefits of protection and flexibility in investment. It is a solution which provides for

life insurance where the policy value at any time varies according to the value of the

underlying assets at the time. The investment is denoted as unit and is represented by the

value that it has attained called as Net Asset Value (NAV).

ULIPs are a category of goal-based financial solutions that combine the safety of

insurance protection with wealth creation opportunities. In ULIPs, a part of the

investment goes towards providing a life cover. The residual portion of the ULIP is

invested in a fund which in turn invests in stocks or bonds; the value of investments alters

with the performance of the underlying fund opted by the customer. Simply put, ULIPs

are structured in such that the protection element and the savings element are

distinguishable, and hence managed according to your specific needs. In this way, the

ULIP plan offers unprecedented flexibility and transparency. ULIPs came into play in

1960s and became very popular in Western Europe and America. The reason that is

attributed to the wide spread popularity of ULIP is because of the transparency and the

flexibility which it offers to the clients. As time progressed the plans were also

successfully mapped along with life insurance needs to retirement planning .In today’s

times ULIP provides solution for all the needs of a client like insurance planning,

financial needs, financial planning for children’s future and retirement planning.

Unit Link Insurance Policy (ULIP) is one in which the customer is provided with a life

insurance cover and the premium paid is invested in either debt or equity products or a

combination of the two. In other words, it enables the buyer to secure some protection for

his family in the event of his untimely death and at the same time provides him an

opportunity to earn a return on his premium paid. In the event of the insured person's

untimely death, his nominees would normally receive an amount that is the higher of the

sum assured or the value of the units (investments). To put it simply, ULIP attempts to

fulfill investment needs of an investor with protection/insurance needs of an insurance

seeker. It saves the investor/insurance-seeker the hassles of managing and tracking a

portfolio or products.

A ULIP, as the name suggests, is a market-linked insurance plan. The main

difference between a ULIP and other insurance plans is the way in which the

premium money is invested. Premium from, say, an endowment plan, is invested

primarily in risk-free instruments like government securities and AAA rated corporate

paper, while ULIP premiums can be invested in stock markets in addition to corporate

bonds and government securities. ULIPs offer a variety of options to the individual

depending on his risk profile. For instance, an individual with an above-average risk

appetite can choose a ULIP option that invests up to 60% of premium in equities.

Likewise, an individual with a lower risk appetite can select a ULIP that invests up to

20% of premium in equities.

Structure of ULIPS

ULIPs offered by different insurers have varying charge structures. Broadly the different

types of fees and charges are given below. However the insurers have the right to revise

or cancel the fees and charges over a period of time.

Fig: Premium Break-up under ULIPs

Premium Allocation charges This is a percentage of the premium appropriated

towards charges before allocating the units under the policy. This charge normally

includes initial and renewal expenses apart from commission expenses.

Mortality Charges These are charges to provide for the cost of insurance coverage

under the plan. Mortality charges depend on number of factors such as age, amount of

coverage, state of health etc.

Fund Management Charges These are fees levied for management of the fund(s)

and are deducted before arriving at the Net Asset Value (NAV).

Policy/ Administration Charges These are the fees for administration of the plan

and levied by cancellation of units. This could be flat throughout the policy term or vary

at a pre-determined rate

Surrender Charges A surrender charge may be deducted for premature partial or full

encashment of units wherever applicable, as mentioned in the policy conditions.

Fund Switching Charge Generally a limited number of fund switches may be

allowed each year without charge, with subsequent switches, subject to a charge. But now

a days many insurers offer fund switching free of cost.

Service Tax Deductions Before allotment of the units the applicable service tax is

deducted from the risk portion of the premium.

TYPES OF FUNDS UNDER ULIPs

Most insurers offer a wide range of funds to suit one’s investment objectives, risk profile

and time horizons. Different funds have different risk profiles. The potential for returns

also varies from fund to fund. The following are some of the common types of funds

available along with an indication of their risk characteristics.

Fig: Types of Funds under ULIPs

ADVANTAGES OF ULIPS

ULIP distinguishes itself through the multiple benefits that it provides to the consumer.

The plan is a one stop solution for everything the customers want. Unit Linked Insurance

Plans (ULIPs) are different from traditional plans purely because, they are much more

transparent, various charges are shared with the customer before the sale of the product,

so as to enable the customer to make an informed decision. Customers have the flexibility

to choose their life cover. Also the customers have the choice of multiple fund options

based on their risk appetite, thereby enabling an investor to make the desired returns from

the investment. The following are some of the advantages of Unit linked plans:

(a). Life protection

(b). Investment and Savings

Market linked fund based on risk profile

Switch option

Premium redirection

Automatic Transfer Plan(ATP)

(c). Tax Planning

(d). Flexibility of cover continuance

(e). Transparency

(f). Extra protection with riders

Death due to accident

Disability

Critical illness

(g). Liquidity

Partial withdrawals during the term

At maturity

(h). Variable investment options

(i). Premium holiday

(j). Allow Top-up

Fig: Advantage of Unit linked Insurance Plans

FACTORS INFLUENCING THE BUYING OF UNIT LINKED INSURANCE PLAN (ULIPs)

The degree of buying of ULIPs insurance varies from person to person. It depends upon

many factors. The factors can be classified into personal, social, economic, psychological

and company related variables. Age and experience of policyholder are personal factors,

while the co- education is a social factor. Economic factors include occupation, income

and wealth, and the psychological factors consist of perception, satisfaction about the

services rendered by insurance companies, the impact of advertisement and personal

selling made by insurance companies on policyholders. The company related variables

are the promotional efforts to sell the policies to prospective buyers. These include

advertisement and personal selling too.

ULIP VS TRADITIONAL INSURANCE PLAN

It wasn't too long back, when the good old endowment plan was the preferred way to

insure oneself against an eventuality and to set aside some savings to meet one's financial

objectives. Then insurance was thrown open to the private sector. The result was the

launch of a wide variety of insurance plans, including the ULIPs.

Two factors were responsible for the advent of ULIPs on the domestic insurance horizon.

First was the arrival of private insurance companies on the domestic scene. ULIPs were

one of the most significant innovations introduced by private insurers. The other factor

that saw investors take to ULIPs was the decline of assured return endowment plans. Of

course, the regulator -- IRDA (Insurance and Regulatory Development Authority) was

instrumental in signaling the end of assured return plans.

Today, there is just one insurance plan from LIC (Life Insurance Corporation) – Komal

Jeevan -- that assures return to the policyholder. These were the two factors most

instrumental in marking the arrival of ULIPs, but another factor that has helped their

cause is a booming stock market. While this now appears as one of the primary reasons

for their popularity, we believe ULIPs have some fundamental positives like enhanced

flexibility and merging of investment and insurance in a single entity that have really

endeared them to individuals.

SUM ASSURED

Perhaps the most fundamental difference between ULIPs and traditional endowment

plans is in the concept of premium and sum assured.

When you want to take a traditional endowment plan, the question your agent will ask

you are -- how much insurance cover do you need? Or in other words, what is the sum

assured you are looking for? The premium is calculated based on the number you give

your agent.

With a ULIP it works in reverse. When you opt for a ULIP, you will have to answer the

question -- how much premium can you pay?

Depending on the premium amount you state, you are offered a sum assured as a multiple

of the premium. For instance, if you are comfortable paying Rs 10,000 annual premium

on your ULIP, the insurance company will offer you a sum assured of say 5 to 20 times

the premium amount.

For example: In the case of LIC's ULIP, the sum assured--premium relationship works

the traditional way. So you need to state how much sum assured you are looking for and

your premium is calculated as 1/10th the sum assured. If you have opted for a sum

assured of Rs100, 000 your annual premium will be Rs 10,000.

INVESTMENTS

Traditionally, endowment plans have invested in government securities, corporate bonds

and the money market. They have shirked from investing in the stock markets, although

there is a provision for the same.

However, for some time now, endowment plans have discarded their traditional outlook

on investing and allocate about 10%-15% of monies to stocks. This percentage varies

across life insurance companies.

ULIPs have no such constraints on their choice of investments. They invest across the

board in stocks, government securities, corporate bonds and money market instruments.

Of course, within a ULIP there are options wherein equity investments are capped.

EXPENSES

ULIPs are considered to be very expensive when compared to traditional endowment

plans. This notion is rooted more in perception than reality.

Sale of a traditional endowment plan fetches a commission of about 30% (of premium) in

the first year and 60% (of premium) over the first five years. Then there is ongoing

commission in the region of 5%.

Sale of a ULIP fetches a relatively lower commission ranging from as low as 5% to 30%

of premium (depending on the insurance company) in the first 1-3 years. After the initial

years, it stabilizes at 1-3%. Unlike endowment plans, there are no IRDA regulations on

ULIP commissions.

Mortality expenses for ULIPs and traditional endowment plans remain the same as also

the administration charges.

One area where ULIPs prove to be more expensive than traditional endowment is in fund

management. Since ULIPs have an equity component that needs to be managed actively,

they incur fund management charges. These charges fluctuate in the 0.80%-1.50% (of

premium) range.

FLEXIBILITY

As we mentioned, one aspect that gives ULIPs an edge over traditional endowment is

flexibility. ULIPs offer a host of options to the individual based on his risk profile.

There are insurance companies that offer as many as five options within a ULIP with the

equity component varying from zero to a maximum of 100%. You can select an option

that best fits your objectives and risk-taking capacity.

Having selected an option, you still have the flexibility to switch to another option. Most

insurance companies allow a number of free 'switches' in a year.

Another innovative feature with ULIPs is the 'top-up' facility. A top-up is a one-time

additional investment in the ULIP over and above the annual premium. This feature

works well when you have a surplus that you are looking to invest in a market-linked

avenue, rather than stash away in a savings account or a fixed deposit.

ULIPs also have a facility that allows you to skip premiums after regular payment in the

initial years. For instance, if you have paid your premiums religiously over the first three

years, you can skip the fourth year's premium. The insurance company will make the

necessary adjustments from your investment surplus to ensure the policy does not lapse.

With traditional endowment, there are no investment options. You select the only option

you have and must remain with it till maturity. There is also no concept of a top-up

facility.

TRANSPARENCY

ULIPs are also more transparent than traditional endowment plans. Since they are

market-linked, there is a price per unit. This is the net asset value (NAV) that is declared

on a daily basis. A simple calculation can tell you the value of your ULIP investments.

Over time you know exactly how your ULIP has performed.

ULIPs also disclose their portfolios regularly. This gives you an idea of how your money

is being managed. It also tells you whether or not your mutual fund and/or stock

investments coincide with your ULIP investments. If they are, then you have the

opportunity to do a rethink on your investment strategy across the board so as to ensure

you are well diversified across investment avenues at all times.

With traditional endowment, there is no concept of a NAV. However, insurers do send

you an annual statement of bonus declared during the year, which gives you an idea of

how your insurance plan is performing.

Traditional endowment also does not have the practice of disclosing portfolios. But given

that there are provisions that ensure a large chunk of the endowment portfolio is in high

quality (AAA/sovereign rating) debt paper, disclosure of portfolios is likely to evoke

little investor interest.

LIQUIDITY

Another flexibility that ULIPs offer the individual is liquidity. Since ULIP investments

are NAV-based it is possible to withdraw a portion of your investments before maturity.

Of course, there is an initial lock-in period (3 years) after which the withdrawal is

possible.

Traditional endowment has no provision for pre-mature withdrawal. You can surrender

your policy, but you won't get everything you have earned on your policy in terms of

premiums paid and bonuses earned. If you are clear that you will need money at regular

intervals then it is recommended that you opt for money-back endowment.

TAX BENEFITS

Taxation is one area where there is common ground between ULIPs and traditional

endowment. Premiums in ULIPs as well as traditional endowment plans are eligible for

tax benefits under Section 80C subject to a maximum limit of Rs 100,000. On the same

lines, monies received on maturity on ULIPs and traditional endowment are tax-free

under Section 10.

ULIP - KEY FEATURES (IN GENERAL):

1. Premiums paid can be single, regular or variable. The payment period too can be

regular or variable. The risk cover can be increased or decreased.

2. As in all insurance policies, the risk charge (mortality rate) varies with age.

3. The maturity benefit is not typically a fixed amount and the maturity period can be

advanced or extended.

4. Investments can be made in gilt funds, balanced funds, money market funds, growth

funds or bonds.

5. The policyholder can switch between schemes, for instance, balanced to debt or gilt to

equity, etc.

6. The maturity benefit is the net asset value of the units.

7. The costs in ULIP are higher because there is a life insurance component in it as well,

in addition to the investment component.

8. Insurance companies have the discretion to decide on their investment portfolios.

9. They are simple, clear, and easy to understand.

10. Being transparent the policyholder gets the entire episode on the performance of his

fund.

11. Lead to an efficient utilization of capital.

12. ULIP products are exempted from tax and they provide life insurance.

13. Provides capital appreciation.

14. Investor gets an option to choose among debt, balanced and equity funds.

INTRODUCTION OF MUTUAL FUNDS

Mutual fund is a trust that pools the savings of a number of investors who share a

common financial goal. This pool of money is invested in accordance with a stated

objective. The joint ownership of the fund is thus “Mutual”, i.e. the fund belongs to all

investors. The money thus collected is then invested in capital market instruments such as

shares, debentures and other securities. The income earned through these investments and

the capital appreciations realized are shared by its unit holders in proportion the number

of units owned by them. Thus a Mutual Fund is the most suitable investment for the

common man as it offers an opportunity to invest in a diversified, professionally managed

basket of securities at a relatively low cost. A Mutual Fund is an investment tool that

allows small investors access to a well diversified portfolio of equities, bonds and other

securities. Each shareholder participates in the gain or loss of the fund. Units are issued

and can be redeemed as needed. The funds Net Asset value (NAV) is determined each

day. Investments in securities are spread across a wide cross-section of industries and

sectors and thus the risk is reduced. Diversification reduces the risk because all stocks

may not move in the same direction in the same proportion at the same time. Mutual fund

issues units to the investors in accordance with quantum of money invested by them.

Investors of mutual funds are known as unit holders.

When an investor subscribes for the units of a mutual fund, he becomes part owner of the

assets of the fund in the same proportion as his contribution amount put up with the

corpus (the total amount of the fund). Mutual Fund investor is also known as a mutual

fund shareholder or a unit holder.

Any change in the value of the investments made into capital market instruments (such as

share, debentures etc) is reflected in the Net Asset Value (NAV) of the scheme. NAV is

defined as the market value of the Mutual Fund scheme's assets net of its liabilities.

NAV of a scheme is calculated by dividing the market value of scheme's assets by

the total number of units issued to the investors.

HISTORY OF MUTUAL FUNDS

The mutual fund industry in India started in 1963 with the formation of Unit Trust of

India, at the initiative of the Government of India and Reserve Bank. The history of

Mutual funds in India can be broadly divided into four distinct phases.

First Phase – 1964-87

Unit Trust of India (UTI) was established on 1963 by an Act of Parliament. It was set up

by the Reserve Bank of India and functioned under the Regulatory and administrative

control of the Reserve Bank of India. In 1978 UTI was de-linked from the RBI and the

Industrial Development Bank of India (IDBI) took over the regulatory and administrative

control in place of RBI. The first scheme launched by UTI was Unit Scheme 1964. At the

end of 1988 UTI had Rs.6, 700crores of assets under management.

Second Phase – 1987-1993 (Entry of Public Sector Funds)

1987 marked the entry of non- UTI, public sector mutual funds set up by public sector

banks and Life Insurance Corporation of India (LIC) and General Insurance Corporation

of India (GIC). SBI Mutual Fund was the first non- UTI Mutual Fund established in June

1987 followed by Canara bank Mutual Fund (Dec 87), Punjab National Bank Mutual

Fund (Aug89), Indian Bank Mutual Fund (Nov 89), Bank of India (Jun 90), Bank of

Baroda Mutual Fund (Oct 92). LIC established its mutual fund in June 1989 while GIC

had set up its mutual fund in December 1990.At the end of 1993, the mutual fund

industry had assets under management of Rs.47,004crores.

Third Phase – 1993-2003 (Entry of Private Sector Funds)

With the entry of private sector funds in 1993, a new era started in the Indian mutual fund

industry, giving the Indian investors a wider choice of fund families. Also, 1993 was the

year in which the first Mutual Fund Regulations came into being, under which all mutual

funds, except UTI were to be registered and governed. The erstwhile Kothari Pioneer

(now merged with Franklin Templeton) was the first private sector mutual fund registered

in July 1993.The 1993 SEBI (Mutual Fund) Regulations were substituted by a more

comprehensive and revised Mutual Fund Regulations in 1996. The industry now

functions under the SEBI (Mutual Fund) Regulations 1996.The number of mutual fund

houses went on increasing, with many foreign mutual funds setting up funds in India and

also the industry has witnessed several mergers and acquisitions. As at the end of January

2003, there were 33 mutual funds with total assets of Rs.1, 21,805 crores. The Unit Trust

of India with Rs.44,541 crores of assets under management was way ahead of other

mutual funds.

Fourth Phase – since February 2003

In February 2003, following the repeal of the Unit Trust of India Act 1963 UTI was

bifurcated into two separate entities. One is the Specified Undertaking of the Unit Trust

of India with assets under management of Rs.29,835 crores as at the end of January 2003,

representing broadly, the assets of US 64 scheme, assured return and certain other

schemes. The Specified Undertaking of Unit Trust of India, functioning under an

administrator and under the rules framed by Government of India and does not come

under the purview of the Mutual Fund Regulations.

ADVANTAGES OF MUTUAL FUNDS

The advantages of investing in a Mutual Fund to the small investors are as under:

Professional Management - The investor avails of the services of experienced and

skilled professionals who are backed by a dedicated investment research team, which

analyses the performance and prospects of companies and selects suitable investments to

achieve the objectives of the scheme.

Diversification - Mutual Funds invest in a number of companies across a broad cross-

section of industries and sectors. This diversification reduces the risk because seldom do

all stocks decline at the same time and in the same proportion. You achieve this

diversification through a Mutual Fund with far less money than you can do on your own.

Convenient Administration - Investing in a Mutual Fund reduces paperwork and

helps you avoid many problems such as bad deliveries, delayed payments and

unnecessary follow up with brokers and companies. Mutual Funds save your time and

make investing easy and convenient.

Return Potential Over a medium to long-term - Mutual Funds have the

potential to provide a higher return as they invest in a diversified basket of selected

securities.

Low Costs - Mutual Funds are a relatively less expensive way to invest compared to

directly investing in the capital markets because the benefits of scale in brokerage,

custodial and other fees translate into lower costs for investors.

Liquidity - In open-ended schemes, you can get your money back promptly at net asset

value related prices from the Mutual Fund itself. With close-ended schemes, you can sell

your units on a stock exchange at the prevailing market price or avail of the facility of

direct repurchase at NAV related prices which some close-ended and interval schemes

offer you periodically.

Transparency - You get regular information on the value of your investment in

addition to disclosure on the specific investments made by your scheme, the proportion

invested in each class of assets and the fund manager's investment strategy and outlook.

Flexibility - Through features such as regular investment plans, regular withdrawal

plans and dividend reinvestment plans, you can systematically invest or withdraw funds

according to your needs and convenience.

Choice of Schemes - Mutual Funds offers a family of schemes to suit your varying

needs over a lifetime.

Well Regulated - All Mutual Funds are registered with SEBI and they function within

the provisions of strict regulations designed to protect the interests of investors. The

operations of Mutual Funds are regularly monitored by SEBI.

Other Special Features of Mutual Funds in terms of Portfolio Functions

These are special safeguards for the investor prescribed by SEBI.

Portfolio Investment operations are entrusted to a professional company, i.e. The

Asset Management Company. (AMC). Thus while MFs offer PMS functions on

behalf of its unit holders, the actual PMS services are rendered by the AMCs.

Physical custody of the securities is not with the AMC but with a custodian, an

independent organization, appointed for the purpose. For instance, the Stock

Holding Corporation of India Ltd. (SCHIL) is the custodian for most fund houses

in the country.

DISADVANTAGE OF MUTUAL FUNDS

1. Professional Management- Some funds doesn’t perform in neither the market,

as their management is not dynamic enough to explore the available opportunity in the

market, thus many investors debate over whether or not the so-called professionals are

any better than mutual fund or investor himself, for picking up stocks.

2. Costs – The biggest source of AMC income, is generally from the entry & exit load

which they charge from an investors, at the time of purchase. The mutual fund industries

are thus charging extra cost under layers of jargon.

3. Dilution - Because funds have small holdings across different companies, high

returns from a few investments often don't make much difference on the overall return.

Dilution is also the result of a successful fund getting too big. When money pours into

funds that have had strong success, the manager often has trouble finding a good

investment for all the new money.

4. Taxes - when making decisions about your money, fund managers don't consider

your personal tax situation. For example, when a fund manager sells a security, a capital-

gain tax is triggered, which affects how profitable the individual is from the sale. It might

have been more advantageous for the individual to defer the capital gains liability.

Categories of Mutual Fund

Mutual funds can be classified as follow:

Based on their structure:

Open-ended funds: Investors can buy and sell the units from the fund, at

any point of time. An open-end fund is one that is available for subscription all

through the year. These do not have a fixed maturity. Investors can conveniently

buy and sell units at Net Asset Value ("NAV") related prices.The key feature of

open-end schemes is liquidity.

Close-ended funds: These funds raise money from investors only once.

Therefore, after the offer period, fresh investments can not be made into the fund.

If the fund is listed on a stocks exchange the units can be traded like stocks (E.g.,

Morgan Stanley Growth Fund). Recently, most of the New Fund Offers of close-

ended funds provided liquidity window on a periodic basis such as monthly or

weekly. Redemption of units can be made during specified intervals. Therefore,

such funds have relatively low liquidity. A closed-end fund has a stipulated

maturity period which generally ranging from 3 to 15 years. The fund is open for

subscription only during a specified period. Investors can invest in the scheme at

the time of the initial public issue and thereafter they can buy or sell the units of

the scheme on the stock exchanges where they are listed. In order to provide an

exit route to the investors, some close-ended funds give an option of selling back

the units to the Mutual Fund through periodic repurchase at NAV related prices.

SEBI Regulations stipulate that at least one of the two exit routes is provided to

the investor.

Based on their investment objective:

Equity funds : These funds invest in equities and equity related

instruments. With fluctuating share prices, such funds show volatile performance,

even losses. However, short term fluctuations in the market, generally smoothens

out in the long term, thereby offering higher returns at relatively lower volatility.

At the same time, such funds can yield great capital appreciation as, historically,

equities have outperformed all asset classes in the long term. Hence, investment in

equity funds should be considered for a period of at least 3-5 years. It can be

further classified as:

(i) Index funds- In this case a key stock market index, like BSE Sensex or

Nifty is tracked. Their portfolio mirrors the benchmark index both in terms of

composition and individual stock weightages. Index Funds replicate the

portfolio of a particular index such as the BSE Sensitive index, S&P NSE 50

index (Nifty), etc. These schemes invest in the securities in the same

weightage comprising of an index. NAVs of such schemes would rise or fall

in accordance with the rise or fall in the index, though not exactly by the same

percentage due to some factors known as "tracking error" in technical terms.

Necessary disclosures in this regard are made in the offer document of the

mutual fund scheme. There are also exchange traded index funds launched by

the mutual funds which are traded on the stock exchanges.

(ii) Equity diversified funds- 100% of the capital is invested in equities

spreading across different sectors and stocks.

(iii) Dividend yield funds- it is similar to the equity diversified funds except

that they invest in companies offering high dividend yields.

(iv) Thematic funds- Invest 100% of the assets in sectors which are related

through some theme .e.g. -An infrastructure fund invests in power,

construction, cements sectors etc.

(v) Sector funds- Invest 100% of the capital in a specific sector. e.g. - A

banking sector fund will invest in banking stocks.

(vi) ELSS- Equity Linked Saving Scheme provides tax benefit to the investors.

These schemes offer tax rebates to the investors under specific provisions of

the Income Tax Act, 1961 as the Government offers tax incentives for

investment in specified avenues. These schemes are growth oriented and

invest pre-dominantly in equities. Their growth opportunities and risks

associated are like any equity oriented scheme.

Balanced fund : Their investment portfolio includes both debt and equity.

As a result, on the risk-return ladder, they fall between equity and debt funds.

Balanced funds are the ideal mutual funds vehicle for investors who prefer

spreading their risk across various instruments. The aim of balanced funds is 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.

These are appropriate for investors looking for moderate growth. They generally

invest 40-60% in equity and debt instruments. These funds are also affected

because of fluctuations in share prices in the stock markets. However, NAVs of

such funds are likely to be less volatile compared to pure equity funds.

Following are balanced funds classes:

(i) Growth / Equity Oriented Scheme: The aim of growth funds is

to provide capital appreciation over the medium to long term. Such

schemes normally invest a major part of their corpus in equities. Such

funds have comparatively high risks. These schemes provide different

options to the investors like dividend option, capital appreciation, etc.

and the investors may choose an option depending on their

preferences. The mutual funds also allow the investors to change the

options at a later date. Growth schemes are good for investors having a

long-term outlook seeking appreciation over a period of time. In Debt

oriented funds, investment is below 65% in equities.

(ii) Income / Debt Oriented Scheme: The aim of income funds is to

provide regular and steady income to investors. Such schemes

generally invest in fixed income securities such as bonds, corporate

debentures, Government securities and money market instruments.

Such funds are less risky compared to equity schemes. These funds are

not affected because of fluctuations in equity markets. However,

opportunities of capital appreciation are also limited in such funds.

The NAVs of such funds are affected because of change in interest

rates in the country. If the interest rates fall, NAVs of such funds are

likely to increase in the short run and vice versa. However, long term

investors may not bother about these fluctuations. In Equity-oriented

funds, Invest is at least 65% in equities, remaining in debt.

Debt fund: They invest only in debt instruments, and are a good option for

investors averse to idea of taking risk associated with equities. Therefore, they invest

exclusively in fixed-income instruments like bonds, debentures, Government of India

securities; and money market instruments such as certificates of deposit (CD),

commercial paper (CP) and call money. Put your money into any of these debt funds

depending on your investment horizon and needs.

(i) Liquid funds/ Money Market- These funds invest 100% in money

market instruments, a large portion being invested in call money market.

These funds are also income funds and their aim is to provide easy liquidity,

preservation of capital and moderate income. These schemes invest

exclusively in safer short-term instruments such as treasury bills, certificates

of deposit, commercial paper and inter-bank call money, government

securities, etc. Returns on these schemes fluctuate much less compared to

other funds. These funds are appropriate for corporate and individual investors

as a means to park their surplus funds for short periods.

(ii) Gilt funds ST- They invest 100% of their portfolio in government

securities of and T-bills. These funds invest exclusively in government

securities. Government securities have no default risk. NAVs of these

schemes also fluctuate due to change in interest rates and other economic

factors as is the case with income or debt oriented schemes.

(iii) Floating rate funds - Invest in short-term debt papers. Floaters invest in

debt instruments which have variable coupon rate.

(iv) Arbitrage fund- They generate income through arbitrage opportunities due

to mis pricing between cash market and derivatives market. Funds are

allocated to equities, derivatives and money markets. Higher proportion

(around 75%) is put in money markets, in the absence of arbitrage

opportunities.

(v) Gilt funds LT- They invest 100% of their portfolio in long-term

government securities.

(vi) FMP’s (Fixed Maturity Plans): These are close-ended income schemes

with a fixed maturity date. The period could range from fifteen days to as long

as two years or more. When the period comes to an end, the scheme matures

and money is paid back. Like an income scheme, FMPs invest in fixed income

instruments i.e. bonds, government securities, money market instruments etc.

The tenure of these instruments depends on the tenure of the scheme.

FMPs effectively eliminate interest rate risk. This is done by employing a

specific investment strategy. FMPs invest in instruments that mature at the

same time their schemes come to an end. So a 90-day FMP will invest in

instruments that mature within 90 days.

For all practical purposes, an FMP is an income scheme of a mutual fund.

Hence, the tax incidence would be similar to that on traditional income

schemes. The dividend from an FMP will be tax free in the hands of an

individual investor. However, it would be subject to the dividend

distribution tax.

Redemptions from investments held for less than a year will be short-term

gains and added to the investor's income to be taxed at slab rates

applicable. If such an investment were held for more than a year, the long-

term gains would get taxed at 20 per cent with indexation or at 10 per cent

without. These rates are subject to the surcharge and education cess as

normally applicable. One can avail the benefit of double indexation and

save tax on FMPs held for more than one year.

INVESTMENT STRATEGIES

1. Systematic Investment Plan: under this a fixed sum is invested each month on a

fixed date of a month. Payment is made through post dated cheques or direct debit

facilities. The investor gets fewer units when the NAV is high and more units when the

NAV is low. This is called as the benefit of Rupee Cost Averaging (RCA)

2. Systematic Transfer Plan: under this an investor invest in debt oriented fund

and give instructions to transfer a fixed sum, at a fixed interval, to an equity scheme of

the same mutual fund.

3. Systematic Withdrawal Plan: if someone wishes to withdraw from a mutual

fund then he can withdraw a fixed amount each month.

RISK V/S. RETURN

RISK FACTOR

All investments involve some form of risk. Even an insured bank account is subject to the

possibility that inflation will rise faster than your earnings, leaving you with less real

purchasing power than when you started (Rs. 1000 gets you less than it got your father

when he was your age). The discussion on investment objectives would not be complete

without a discussion on the risks that investing in a mutual fund entails.

At the cornerstone of investing is the basic principle that the greater the risk you take, the

greater the potential reward. Remember that the value of all financial investments will

fluctuate. Typically, risk is defined as short-term price variability. But on a long-term

basis, risk is the possibility that your accumulated real capital will be insufficient to meet

your financial goals. And if you want to reach your financial goals, you must start with an

honest appraisal of your own personal comfort zone with regard to risk. Individual

tolerance for risk varies, creating a distinct "investment personality" for each investor.

Some investors can accept short-term volatility with ease, others with near panic. So

whether you consider your investment temperament to be conservative, moderate or

aggressive, you need to focus on how comfortable or uncomfortable you will be as the

value of your investment moves up or down.

Managing risks

Mutual funds offer incredible flexibility in managing investment risk.

Diversification and Systematic Investing Plan (SIP) are two key techniques you can use

to reduce your investment risk considerably and reach your long-term financial goals.

Diversification

When you invest in one mutual fund, you instantly spread your risk over a number of

different companies. You can also diversify over several different kinds of securities by

investing in different mutual funds, further reducing your potential risk. Diversification is

a basic risk management tool that you will want to use throughout your lifetime as you

rebalance your portfolio to meet your changing needs and goals.

Investors, who are willing to maintain a mix of equity shares, bonds and money market

securities, have a greater chance of earning significantly higher returns over time than

those who invest in only the most conservative investments. Additionally, a diversified

approach to investing -- combining the growth potential of equities with the higher

income of bonds and the stability of money markets -- helps moderate your risk and

enhance your potential return.

Types of risks:

Consider these common types of risk and evaluate them against potential rewards when

you select an investment.

Market Risk

At times the prices or yields of all the securities in a particular market rise or fall due to

broad outside influences happens, the stock prices of both, an outstanding, highly

profitable company and a fledgling corporation may be affected. This change in price is

due to "market risk.”

Inflation Risk

Sometimes, it also referred to as "loss of purchasing power." Whenever inflation sprints

forward faster than the earnings on your investment, you run the risk that you'll actually

be able to buy less, not more. Inflation risk also occurs when prices rise faster than your

returns.

Credit Risk

In short, how stable is the company or entity to which you lend your money when you

invest? How certain are you that it will be able to pay the interest you are promised, or

repay your principal when the investment matures?

Interest Rate Risk

Changing interest rates affect both equities and bonds in many ways.

Investors are reminded that "predicting" which way rates will go is rarely successful. A

diversified portfolio can help in offsetting these changes.

Effect of loss of key professionals and inability to adapt business to the rapid

technological change

An industries' key asset is often the personnel who run the business i.e. intellectual

properties of the key employees of the respective companies. Given the ever-changing

complexion of few industries and the high obsolescence levels, availability of qualified,

trained and motivated personnel is very critical for the success of industries in few

sectors. It is, therefore, necessary to attract key personnel and also to retain them to meet

the changing environment and challenges the sector offers. Failure or inability to

attract/retain such qualified key personnel may impact the prospects of the companies in

the particular sector in which the fund invests.

Exchange Risks

A number of companies generate revenues in foreign currencies and may have

investments or expenses also denominated in foreign currencies. Changes in exchange

rates may, therefore, have a positive or negative impact on companies which in turn

would have an effect on the investment of the fund.

Investment Risks

The sectoral fund schemes, investments will be predominantly in equities of select

companies in the particular sectors. Accordingly, the

NAV of the schemes are linked to the equity performance of such companies and may be

more volatile than a more diversified portfolio of equities.

Changes in the Government Policy

Changes in Government policy especially in regard to the tax benefits may impact the

business prospects of the companies leading to an impact on the investments made by the

fund.

Risk Return Trade Off

In selecting asset classes for portfolio allocation, investors need to consider both the

return potential and the riskiness of the asset class.

It is clear from empirical estimates that there is a high correlation between risk and return

measured over longer periods of time.

Furthermore capital market theory, posits that there should be a systematic relationship

between risk and return. This theory indicates that securities are priced in the market so

that high risk can be rewarded with high return, and conversely, low risk should be

accompanied by correspondingly lower return.

Measuring Risks:

UNIT LINK INSURANCE POLICY V/S

MUTUAL FUND

ULIP and MF may sound similar in structure, but there are various other things which

separate these two investment tools. Below is a brief comparison of ULIP and MF

specific to the Indian market.

Primary Objective

MFs : Investments

ULIPs: Protection + Investments

Investment Duration

MFs: Works out for Medium term, Long Term Investors. It is risky for Short Term

investors.

ULIPs: Works out for Long Term Investors only.

Flexibility

MFs: Very flexible. Plenty of scope to rectify your investment mistakes if one made any

wrong investment decisions. One can easily shuffle your portfolio in MFs. If a mutual

fund investor in a diversified equity fund wishes to shift his corpus into a debt from the

same fund house, he could have to bear an exit load and/or entry load.

ULIPs: Flexibility is limited to moving across the different funds offered with your

policy. Correcting mistakes can turn out to be expensive. Moving funds from one ULIP

to another ULIP of a different fund house can be expensive.

Insurance companies permit their ULIP investors to shift investments across various

plans/asset classes either at a nominal or no cost (usually, a couple of switches are

allowed free of charge every year and a cost has to be borne for additional switches

Liquidity

MFs: Very liquid. You can sell your MF units any time. Some MF's like those from

Reliance has introduced redemptions at ATMs.

ULIPs: Limited liquidity. Need to stay invested for the minimum number of years

specified before you can redeem.

Investment Objective

MFs: MF's can be used as vehicle for investments to achieve different objectives.

(Example: Buying a car three years from now, Down payment for a home five years from

now, Children’s education 10 years from now, Children’s marriage 15 years from now.

Retirement planning 25 years from now, Medical expenses after retirement 25 years from

now)

ULIPs: ULIPs can be used for achieving only long term objectives

(Example: Children’s education, Children’s marriage, Retirement planning)

Tax Implications

MFs: All investments in MF's don't qualify for section 80C.

ULIPs: Provide Tax Benefits under section 80C, but Tax liabilities when moving across

from debt to equity funds. (Returns from debt MF's are taxed.)

ULIPs: Very flexible in moving between equity and debt funds (not tax implications

until maturity of the policy).

Strings Attached

MFs: None so ever. At most you pay a small exit load if any.

ULIPs: Some strings attached for your policy to be in effect. Minimum number of

premiums needs to be paid. Minimum fund balance needs to be always maintained.

Mode of investment/Investment amount

MFs: Mutual fund investors have the option of either making lump sum investments or

investing using the systematic investment plan (SIP) route which entails commitments

over longer time horizons. The minimum investment amounts are laid out by the fund

house.

ULIPs: ULIP investors also have the choice of investing in a lump sum (single

premium) or single the conventional route, i.e. making premium payments on an annual,

half-yearly, quarterly or monthly basis. In ULIPs, determining the premium paid is often

the starting point for the investment activity. The freedom to modify premium payments

at one's convenience clearly gives ULIP investors an edge over their mutual fund

counterparts.

Expenses

MFs : In mutual fund investments, expenses charged for various activities like fund

management, sales and marketing, administration among others are subject to

predetermined upper limits as prescribed by the Securities and Exchange Board of India.

Entry/exit loads have to be borne by the investor.

ULIP: Insurance companies have a free hand in levying expenses on their ULIP

products with no upper limits being prescribed by the regulator, i.e. the Insurance

Regulatory and Development Authority. This explains the complex and at times

unwieldy' expense structures on ULIP offerings. The only restraint placed is that insurers

are required to notify the regulator of all the expenses that will be charged on their ULIP

offerings.

Portfolio disclosure

MFs: Mutual fund houses are required to statutorily declare their portfolios on a

quarterly basis, albeit most fund houses do so on a monthly basis. Investors get the

opportunity to see where their monies are being invested and how they have been

managed by studying the portfolio.

ULIP: There is no legal obligation for insurance companies do declare their portfolios

on a monthly/quarterly basis. However the lack of transparency in ULIP investments

could be a cause for concern considering that the amount invested in insurance policies is

essentially meant to provide for contingencies and for long-term needs like retirement;

regular portfolio disclosures on the other hand can enable investors to make timely

investment decisions.

Types of Charges

MFs:Mutual Fund's have the following charges :

a) Up-front charges ( Marketing, Advertising, distributors fee etc.)

b) Fund Management Charges ( expenses for managing your fund)

ULIP: ULIP's usually have following charges built into it :

a) Up-front Charges

b) Mortality Charges ( Charges for providing the risk cover for life)

c) Administrative Charges

d) Fund Management Charges

Cost of life insurance

MFs: In a term policy, your premium will remain fixed throughout the term of the

policy. So that means, if you opt to invest in a mutual fund and buy a term policy, the

amount of investment and cost of insurance will not change over a period of time. For

example as above, if the 30 year old were to take a term insurance policy for Rs 5 lakh,

he would end up paying anywhere between Rs 40,000 to Rs 50,000 as insurance

premium.

This vast difference in cost of insurance is mainly because of cost of distribution and

administration as also the margins of the insurer. In a ULIP, costs and margins are

recovered commonly between the investment portion and the insurance portion.

However, if you were to buy a term policy and a mutual fund, the insurance company

will recover its costs of distribution and administration as well as margins. The mutual

fund would again recover the same costs from your investment portion.

ULIP: In a ULIP, your premium is divided into your risk cover and your investment.

That means, out of the total premium that you pay, a certain percentage will be deducted

as risk cover to provide for your insurance and the balance will be invested in a fund.

Your risk cover charge will increase every year with your age. As a result the investment

allocation will reduce. Suppose that you buy a ULIP when you are 30 years old. The sum

assured is Rs5 lakh and the term is 20 years. The premium that you will pay over a period

of 20 years will work out to around Rs 25,000 to Rs 30,000 depending on the company

you choose.