Create eli5-mutual-fund.md (#26)

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+---
+title: ELI5 Mutual Fund
+description: This is an explanation of what is meant by the term Mutual Fund.
+category: wiki
+position: 22
+---
+A mutual fund is an instrument / vehicle by which a company (called Asset Management Company or AMC) collects money from investors by selling units / shares and using that money to make investments. Depending upon the aim, a mutual fund can invest in equities, bonds, a mix of both, gold, international equities, other funds, etc. So, mutual fund automatically does not mean equity mutual fund. There are some 1800 odd funds presently (source: AMFI). 
+
+##### Portfolio: #####
+
+The entire combined list of different securities of the fund is called the Portfolio. Because of transparency requirements, the companies have to tell their detailed portfolios on their own sites on a monthly basis. Different sites like morningstar.in, moneycontrol.com, and valueresearchonline.com also show these details along with other characteristics.
+
+##### Net Asset Value (NAV) #####
+
+This is the price of 1 unit of the particular mutual fund. It is calculated by adding the market value of all the securities (equities, bonds, gold, etc), subtracting the market value of the liabilities and then dividing this value by the total number of shares / units.
+
+Mathematically, NAV = (Total market value of Assets – Total market value of liabilities) *divided by* (number of units / shares)
+
+*Features:*
+
+* It is calculated daily at the end of the trading sessions (working days) and should be available at 7pm. Some funds, like those which have securities of foreign assets, can have delayed announcements (for upto few days) of their NAVs. The aggregator sites tend to pull the NAV data and can have even later updates.
+* If the underlying market value of the securities (shares, bonds, gold) increases on that day, the NAV will increase and vice versa.
+* One can purchase / sell the mutual fund at the announced NAV of the day. Usually, the selling and purchasing NAV are similar, but in some cases that can be different.
+* Most funds allow buying / selling of fractional shares also, since, everything is mathematical. A fund can collect ₹1,00,000 and issue 1000 units with NAV of 100. Other one can collect the same ₹1,00,000 and issue 10,000 units at NAV of 10. The underlying net value of the fund is same, only the NAV value is different because of different number of units. **This is why when somebody tells you that a fund with NAV of 10 is better than a fund with NAV of 300, you should not agree to it.** The total fund value depends upon the securities and not the NAV. Better to run away from that guy for investing advice.
+
+**Dividend Income**
+
+When a mutual fund announces dividend, it pays out that dividend money from the net assets and gives it back to the investors. **There is no additional money generated.** If the NAV is 100 and the company announces a dividend of 5, you will get 5 in your account and the NAV would fall to 95. Your own money is given back to you. It is not like you will get 5 in your account *and the NAV would continue to be 100.*
+
+##### NFO (New Fund Offer) #####
+
+Companies come up with new portfolio guidelines or asset balancing, etc. and create a particular mutual fund for that purpose. One can read about the details of the NFO on their site or SEBI’s. Usually, they are sold at NAV of 10 (but it is just an arbitrary number). The underlying philosophy of the fund is what is important and before buying a NFO, one should see whether that philosophy fits into the overall requirement. Any NFO requires lot of advertisement (online, offline), seminars, selling, etc – all these expenses are deducted from the net assets (in the liabilities section specifically) and gets reflected in the NAV. For 99% cases, don’t invest in NFO.
+
+When to Invest in an NFO? If there is no equivalent fund, then you could start investing in a new one that gives you exposure. But you'd need to consider increasing the exposure slowly, giving yourself enough time to gauge the performance of the fund and its manager.
+
+##### Expense Ratio #####
+
+The funds charge a specific amount of money for using the services. In most cases, this charge is applied on a daily basis and comes under the Liabilities head in the calculations. If a fund charges 2.5% expense ratio, then it would cut about 0.01% on each working day (5 days a week for 52 weeks = 250 working days) from the net assets and give you the final NAV. For lower expense ratio funds, this value will be lesser.
+
+The Expense Ratio is not a fixed amount and can vary daily/monthly depending upon the expenses borne by the AMC. SEBI has mandated all AMCS to notify changes in ER to the unitholders.
+
+Presently, each of the mutual fund have 2 types – a regular / retail plan and a direct plan. In the direct plan, if you invest directly with the AMC through their office / website AND you opt for Direct plan, you will get a lower expense ratio plan (by about 0.5-0.6%). All other methods of investing, namely distributor agents, demat account, banks, investment accounts, etc can only use Retail / Regular plan. There are multiple aggregator websites/apps nowadays which only use Direct plans; in no particular order of preference, some of this growing list are MFU, Kuvera, Paytm Money, Groww, Invezta, Goalwise, Zerodha's Coin, Wealth Trust, etc.
+
+**Special Note:**
+
+_Funds with a high AUM (Assets Under Management) value, often have lower expense ratios than those with lower AUMs. Stocks and commodities are cheaper to purchase in bulk, and so, funds with huge AUMs have an advantage._
+
+_As a fund grows and accumulates assets, it's expense ratio also drops, and thus, newer funds tend to have higher expense ratios than existing funds. All things being the same, newer funds need to work more to match the returns from existing ones. This is another reason to not invest in NFOs unless you are seeking exposure that you cannot obtain otherwise._
+
+_As a result of this, if you find two funds with a similar portfolio and investment objective, the one with higher AUM might tend to have a lower expense ratio, and would be a better fund to invest in._
+
+##### Advantages of Mutual Fund #####
+
+1.	**Diversification:** Most funds have a number of different securities in their portfolio. Some can have stocks of 25 companies, while others can have stocks of 100 companies. There are guidelines which prevent the companies to invest in only 3-4 companies. This prevents severe loss in case 1 company does a fraud and its stock price collapses. Same is the case with the bond funds. They can have bonds of different companies and even if 1 or 2 companies default, the overall NAV does not go down to zero.
+2.	**Affordable:** With ₹500 / 5000, you can go and buy a mutual fund and get that diversified portfolio. If you want to replicate that kind of diversified portfolio on your own, you will have to have a big amount.
+3.	 **Professional Management:** The management team employed by the AMC use their expertise, research and analyses to manage the portfolios. This is better than most of the investors. The main point is that the aim of the management is *same* as that of the investor – to maximize the NAV (investment value).
+4.	**Liquidity:** By definition, the open-ended mutual funds can be sold back to the AMC and the money can be received in the bank account. Depending upon the type of fund (this will be mentioned in the scheme document), it can take 1 to 10 days for the amount to get transferred.
+5.	**Convenience:** Most of the things like buying, selling (partial/full), statements, tax statements, etc. can be done online. Except for the KYC (know your customer) norms which has to be done in person (called In Person Verification). And everything can be done by going to the AMC office or common services like of CAMS / Karvy. Automated investment plans can be done in the form of SIP (Systematic Investment Plan) or SWP (systematic withdrawal plan) and their variations.
+
+## Types of Mutual Fund ##
+
+#### Open versus Closed ####
+
+*Open-ended Mutual Fund* – The buying and selling of the units from the AMC is open. If you buy, they create more units at the day’s NAV and if you sell, they remove those units.
+
+*Closed-ended Mutual Fund* – For a 3 year closed fund, the AMC does not allow creation / deletion of units for that period of 3 years. After 3 years, it can either convert it into an open ended fund or pay back the money and close it. During the 3 year period, the investor can buy/sell the units on the exchange (NSE/BSE) from other unit holders. Sometimes, the buying / selling price can be different from the NAV of the fund because of supply and demand forces. And sometimes, one may not be able to sell it if there are no other buyers. There can be 5 year funds too. FMPs (Fixed Maturity Plans) are a type of closed-ended funds.
+
+### Based on Objective ###
+
+### INCOME OBJECTIVE ###
+
+You have to opt for dividend option if you want to get the dividend declared to come to your account. Alternatively, you can opt for growth option and ask for a specific amount of money as per needs to get the actual income. This can be automated with SWP or it can be done as per your request.
+
+#### Liquid Funds ####
+
+These are also called Money-market funds. These types of mutual funds invest in highly liquid and high credit rated securities with very short maturity time frames (usually less than 1 year) like CD (certificate of deposit which is a big FD), government securities, commercial papers, and corporate bonds (AA+ and above, mostly). They usually pay higher interest rates than corresponding FD or savings account rates and are extremely safe.
+
+#### Bond Funds (Debt Funds) ####
+
+Bond funds have the aim to earn more than the liquid funds by investing in a portfolio of bonds and other instruments. Depending upon the underlying specific objective, bond funds can be of the following types:
+
+**Ultra-short Term Bond funds**
+
+These use bonds for up to 3-6 months in most cases. They can invest in government as well as corporate bonds.
+
+**Gilt Short Term Bond funds**
+Funds which exclusively invest in government (gilt is for gilded = backed by govt) short-term securities. They are safer than funds which invest in corporate bonds.
+
+**Short Term Bond funds**
+These use bonds up to 1-3 years.
+
+**Income Funds**
+These are usually flexible funds which can change their portfolio according to the interest rate outlook and tend to provide with a less fluctuating income.
+
+**Gilt Medium to Long Term funds**
+
+These use government (gilt) bonds, which have longer maturities. Currently, some of the funds have average maturities of 20-25 years.
+
+### GROWTH OBJECTIVE ###
+
+These funds have the objective of increasing the value of the fund. The equity funds will come under this group.
+
+**Large cap funds**
+These funds invest in equities / stocks of the top 30/50/100 companies. Cap is for capitalization, which refers to the total stock market value of the company.
+
+**Mid and Small cap funds**
+These funds invest in stocks of companies which are not Large-cap. They do so by having a mandate of not investing in companies which are in the top 50 or top 100 by market capitalization size.
+
+**Micro cap funds**
+These funds invest in companies which are not in the top 200 or top 300 companies.
+
+**Flexi cap or Multi-cap funds**
+
+These have flexible mandate to invest in any group of stocks and not limited like the above 3 groups. They may additional restrictions like not investing in very small stocks. The idea is to invest in a particular group according to market conditions – so they can become large cap during one phase and small cap in another phase. Or they can have some money in large cap and some money in mid-small cap phase so as to have benefits of all worlds in a single fund.
+
+**Sectoral Funds**
+
+These funds in a particular sector only, like infrastructure, banking, capital goods, pharma, etc. which are defined in their scheme document. Many infrastructure funds have pretty wide coverage and do not invest only in specific infrastructure companies.
+
+**Regional and Country Specific Funds**
+
+These funds invest in a particular region / country of the globe.
+
+**International Funds**
+These funds invest internationally without restriction to a specific country.
+
+**Gold / Thematic funds**
+Thematic funds appear like sectoral funds on the surface, but a theme is much larger than a single sector. Infra funds are usually considered thematic instead of sectoral, since the companies cut across various sectors related to infrastructure - banking and finance, engineering (who finances the projects), construction (who builds them), energy, metals and automobiles (where do the raw materials come from and who transports them) etc. Investing in thematic funds is to be done in the same way as investing in a sectoral fund - you invest in one only to increase exposure to one or more sectors that you believe is bound to perform better than the rest of the market.
+
+**Ethical / Socially Responsible Funds**
+These funds do not invest in companies associated with “sin products” like gambling, cigarette, porn, alcohol, etc. The Shariah related funds come under this.
+
+### GROWTH AND INCOME OBJECTIVE ###
+
+**Balanced Funds**
+These have variable allocation to equity and debt. There are equity-oriented hybrid funds which have >65% equity allocation, while others are debt-oriented hybrid funds which have lesser amounts of equity (can go to 5-10%). They have an in-built asset re-allocation based on changes in the values of the securities.
+
+**Asset Allocation funds**
+These funds use other funds to manage the assets. Many life cycle funds and dynamic ratio funds come under this head.
+
+### ETF ###
+---
+
+Exchange traded funds are a separate type of mutual fund. These funds can be bought / sold during the trading hours on the Exchange and these track the price of the underlying portfolio. So, a nifty index ETF can have a variable NAV throughout the trading period, while a nifty index mutual fund will only have a single NAV for the day declared at the end of the trading hours.