Mutual fund is an investment vehicle that is made up of a pool of funds collected from many investors for the purpose of investing in securities such as stocks,bonds, money market instruments and similar assets. Mutual funds investments are operated by money managers, who invest the fund's capital and attempt to produce capital gains and income for the fund's investors. A mutual fund's portfolio is structured and maintained to match the investment objectives stated in its prospectus.
Different Types of Mutual Funds have different levels of risks and benefits attached to them.
Diversified equity funds
Equity-linked savings schemes
Sector funds like Auto, Health Care, FMCG, IT, Banking, etc
Mixed/Balanced funds for those who aren't comfortable with just equity based funds
New Fund Offer (NFO)
An NFO works similarly to an IPO. Where a company takes out an IPO to raise funds to conduct business, a mutual fund takes out a NFO to raise funds to invest in bonds, stocks, commodities, currency, etc.
An NFO also comes with a prospectus and within it is contained all the information regarding the kind of fund it is, what securities it plans to invest in, what is the expected returns it is looking to deliver to its holders, what is the rationale of starting such a fund, etc.
When an investor will go in for an NFO, the first thing he will notice is that there is no portfolio of the fund. In an established mutual fund, the investor would look at the portfolio of the fund to see the kind of holdings that are present and the manner in which these are being managed to see the kind of potential that the fund holds. However, in case of an NFO since there is no money that has been collected yet there is no question of investing any funds and constructing a portfolio. Now it could be quite some time before the entire money of the fund would be invested so this is one additional risk that can arise for the investor as till the time that the money is entirely deployed there is no idea of what the actual portfolio of the fund will look like. In such situations, the guiding principles of the fund and its larger intention is the only thing the investor can refer to and fall back on. There is also a risk in case the fund acts hastily and quickly deploys all the money that has been collected because this could open it to the risk that sharp market movements after that would affect the fund.
There is the intention of the fund and its fund manager to construct a portfolio in a certain manner which has specific characteristics. This is an intention at the stage of the NFO and the final position might not be what the investor had expected. As against this when it comes to an existing fund the investor is clearly able to see the kind of portfolio that is present and also the manner in which the changes have been made to it under different market conditions. This gives an idea as to what the fund would do when faced with a specific condition. In most cases an actual action should be more confidence building as compared to mere intention.
For an investor to build wealth there is a need to ensure that they ride out an entire economic cycle and then see how their investments have performed. With anew fund this could take a lot of time and it would also lead to a new kind of uncertainty because the investor will not know how the fund emerges from this situation at the end of the whole process. This thus has an additional amount of risk in the form of not being sure of what the fund will end up doing and its results and hence needs to be taken into consideration as the investment is being planned.
New entrants to the equity markets have limited knowledge of the stocks. In such a situation, it is better to band together and invest with the help of an expert. The Indian markets provide this option for financial institutions to form funds by accepting money from multiple individuals and then investing the lump sum in the equity, bond and money markets.