This is where Time-Weighted Rate of Return (TWRR) shines. Unlike other metrics, TWRR removes the impact of cash flows, offering a clearer and unbiased look at investment performance. 

This article demystifies TWRR meaning in depth, explaining how it works, how to calculate it, and how it stacks up against other return metrics like XIRR and CAGR.

What is TWRR?

The Time-Weighted Rate of Return (TWRR) is a financial metric used to measure the compound growth rate of an investment portfolio, excluding the impact of cash flows like deposits and withdrawals.

TWRR breaks down performance into distinct periods, each between cash flow events, and calculates the return for each period. This approach ensures that the metric reflects the fund manager’s performance, unaffected by investor actions. It’s like tracking how well a runner performs without factoring in interruptions like breaks or water stops.

Why is TWRR Important?

• Objective Comparison: TWRR allows for an unbiased comparison between funds, as it neutralises the effect of cash flows.
• Suitable for Fund Evaluation: It’s particularly useful for assessing fund managers, as it focuses solely on investment performance.
• Useful for Benchmarking: By comparing TWRR with a benchmark index, investors can understand whether the investment strategy meets its objectives.

How to Calculate TWRR?

Calculating TWRR is a straightforward task and can be done in a few steps. 

To calculate TWRR, you must first break down the mutual fund’s/portfolio’s performance into multiple periods between each cash flow (deposit or withdrawal). Calculate the potential return for each period separately and then compound them together. 

1. Spot the points at which cash flows occur. Each of these points marks the end of one sub-period and the beginning of another. 
2. For each period, calculate the return using this formula:

HP (Holding period return) = (End Value – (Beginning Value + Cash Flow)) / (Beginning Value + Cash Flow)

3. Multiply the potential returns of all periods together to get the total compounded growth rate. 

TWRR formula = [(1+HP1) x (1+HP2) x (1+HPn)] – 1

Example of TWRR Calculation

Let us use these steps to calculate TWRR. 

Assume you want to use TWRR to calculate your mutual fund’s performance. Say, you initially invest ₹1,00,000. At the close of the first month, your mutual fund portfolio stands at ₹1,01,000.

Here, calculate the first holding period return. 

HP1 = (101,000 – 100,000)/100,000 = 1%

In the following month, you contribute an additional ₹1,000. By the end of this period, your portfolio balance stands at ₹1,03,000.

Calculate the second sub-period return: 

HP2 = (103,000 – (101,000 + 1,000)) / (101,000 + 1,000) = 0.98%

In the third month – let us assume you redeem ₹1,000. At the month’s end, your portfolio balance stands at ₹1,04,000. 

The third sub-period return is as follows: 

HP3 = (104,000 – (103,000 – 1,000))/(103,000 – 1,000) = 1.96% 

The final step is to calculate the TWRR for 3 months:

TWRR = [(1+.01) x (1+.0098) x (1+ .0196)] – 1 = 2.04% 

Over a 3-month period, the TWRR was 2.04%. 

TWRR vs XIRR and CAGR

TWRR vs XIRR

Many investors confuse TWRR with XIRR (Extended Internal Rate of Return), but they serve different purposes:

• TWRR focuses purely on the timing of cash flows, providing an accurate measure of performance that disregards the amount of money involved.
• XIRR, on the other hand, considers both the timing and the size of cash flows, offering a complete picture of investment returns.

In essence, while TWRR is best for comparing fund performance, XIRR is more suitable for tracking individual portfolio returns, considering cash inflows and outflows.

TWRR vs CAGR

CAGR (Compound Annual Growth Rate) measures the average annual growth rate over a specified period.

• CAGR does not account for cash flows during the period.
• TWRR, by contrast, adjusts for cash flows, making it more precise for funds with frequent cash movements.

While TWRR is a superior performance metric for funds with high cash flow frequency, CAGR remains useful for investments with consistent growth over time.

Limitations of TWRR 

While TWRR is a powerful metric, it’s not without its limitations:

• Complex Calculation: Frequent deposits and withdrawals mean multiple sub-periods, making manual TWRR calculations tedious.
• Software Requirement: Accurately computing TWRR often requires sophisticated software, limiting its use among retail investors.
• Cash Flow Exclusion: By design, TWRR excludes the impact of cash flows, which may not always align with an investor’s real experience.

Despite these drawbacks, TWRR remains one of the most reliable ways to gauge true investment performance over time.

Final Thoughts: Is TWRR Right for You?

TWRR is a robust tool that reveals the true performance of an investment by eliminating the distortions caused by cash flows. However, it should not be the sole metric for decision-making. A well-rounded evaluation that includes other metrics like XIRR, expense ratios, and risk-adjusted returns will offer a more comprehensive view.

The essence of TWRR lies in its focus on pure performance, making it particularly useful for comparing mutual funds and portfolio management services. By understanding its mechanics and limitations, investors can use TWRR to gain deeper insights into how well their investments are really performing.

Frequently Asked Questions 

What is the meaning of TWRR?

TWRR, or Time-Weighted Rate of Return, measures the compound growth rate in a mutual fund/ investment portfolio, excluding the impact of cash flows such as deposits or redemptions. 

It breaks down the mutual fund’s/portfolio’s performance into multiple periods between each cash flow, then calculates the return for each period separately and then compounds them together. 

What is the difference between TWRR and XIRR?

TWRR and XIRR (Extended Internal Rate of Return) are not the same. TWRR focuses on the timing of the cash flows; it ignores how much money one has invested or redeemed (it’s weighted on time), whereas XIRR accounts for both cash flows and the timings of the cash flows. Thus, providing a true picture of the performance. 

How to explain time-weighted return?

TWRR employs a unique formula that eliminates the impact of cash flows (deposits and withdrawals), providing a better understanding of an investment’s performance. It takes into account when cash flows occur by segmenting returns into sub-periods. Thus, it provides us with a reliable indicator for determining how well such funds have performed over time.

What is the difference between TWRR and CAGR?

For an investment – the CAGR measures the average annual growth rate over a period greater than one year. TWRR indicates a return on investment that has been compounded after adjusting for any cash inflows or outflows arising from the portfolio.

TWRR is seen as a better performance measure when compared to CAGR because it accounts for any inflows or outflows that may occur, unlike CAGR, which treats these events as external to the investment process.

Mutual funds, on the other hand, collect the investor’s money and invest in the schemes as desired by the investor. It indirectly provides benefits of potential returns and seeks to protect them from market risk by diversification in the pool. Such benefits have increased the popularity of mutual funds in India. As of June 2024, average assets under management (AAUM) have reached the mark of  ₹61.3 Trillion. 

People are keen to invest and learn more about mutual funds. 

However, there is usually a doubt – Do equity mutual funds pay dividends like regular equity instruments? Well, we have a detailed answer to this question!

Read this article to understand how mutual funds pay dividends, and what are dividend options, dividend yield funds, their examples and taxation.

How Do Mutual Funds Pay Dividends?

Yes, mutual funds also roll out dividends, if the investors have chosen to select the dividend option under the said scheme while investing in the scheme. Mutual funds can pay such dividends only from their gains. These gains are from mainly two sources:

• Sale of securities from the fund
• Current incomes, such as dividends and interest

Moreover, the Asset Management Companies (AMCs) have to store these gains in their Dividend Equalisation Reserves. It implies that if the mutual fund is not in profit, then even if a company is distributing high dividends, unitholders will not get the benefit. We suggest that investors read the scheme information document before investing.

Dividend Options

There are two options provided to the investors while selecting the mutual funds:

• Growth option
• Dividend option is now known as IDCW (Income Distribution cum Capital Withdrawal)

In the growth options, all the potential returns on the plan of the scheme are accumulated and are not distributed as disbursed when there is profit under frequencies mentioned in the dividend option. While in the dividend option, this fund is distributed among the investors as per their preference i.e. frequency. Investors can claim the distribution or re-invest in the scheme, as per their preferences.

Today this option is known by a different name – Income Distribution cum Capital Withdrawal (IDCW).

What is IDCW in Mutual Funds?

From April 2021, the name of dividend options was changed to IDCW for better awareness of mutual fund investors. The name mentioned ‘income’, which comprehensively explains that it may consist of dividends, incomes such as interest, and capital appreciation due to the sale of investment. Moreover, the term ‘capital withdrawal’ explains that it is not a separate gain over an investor’s redemption value but a part of it.

The schemes were known as Dividend Payout, Dividend Re-investment, and Dividend Transfer Plan. SEBI changed the names in the following manner:

• Payout IDCW
• Reinvestment IDCW
• Transfer IDCW

The IDCW option declares dividends as regular, daily, or weekly. Like stocks, a record date is announced, and the dividends are distributed. The NAV falls to the extent of dividend payout/declared. 

There is a misconception that when a fund has a dividend option, it generates more than regular profits to distribute the dividend among the investors. However, profits don’t differ in growth and dividend options. Profits are the same for the fund, and the only distinction is by the amount paid to investors in case of a dividend option or reinvested in a scheme under the growth option.

There is also another misconception that dividend options pay an extra income, and its Net Asset Value (NAV) is high. Before the distribution of dividends, the profit earned is reflected in the total value of the fund, which thus increases its NAV. When this dividend is distributed, the NAV falls to the extent of the dividend payout.  

Let us understand IDCW with an example.

Ms Abc has a corpus of ₹2 lakh in the mutual funds. She has opted for the IDCW plan. The following would be her dividend pay:

(The above figures are for illustration purposes only)

As this example explains, the ₹6/- dividend is distributed from the NAV, and thus, profits do not differ for growth and IDCW options. They are either kept in the fund or distributed among the investors, depending on the option selected by the investors.

Usually, investors think that the dividend yield funds and the dividend options are the same. But they aren’t.

Dividend Yield Funds

These funds are categorised under equity mutual funds. They invest at least 65% of their funds in equity instruments, and these are the ones yielding potential dividend income. 

The main focus here is to invest in the equity of companies with high dividend yields and not just high dividend rollouts. The dividend yield is calculated against the investment made. For example:

We hypothetically invest in an equity instrument at ₹120/-. It distributes 30% dividends on its face value of ₹10/- per share. So, dividend per share is ₹3/-. 

The dividend yield would be 0.025 or 25% (3/120).

Taxation of Dividend yield funds is as follows:

• Short-term capital gain tax = 20% 
• Long-term capital gain tax = 12.5%

Investors should consult their financial advisors before investing.

Let us understand dividend yield funds with an example.

HDFC Dividend Yield Fund-Direct-Growth

Source: HDFC Direct Yield Fund

In equity, its top holdings have potential dividend yields. These are as follows:

Source: HDFC Direct Yield Fund

Selecting a dividend yield fund doesn’t imply that the earned dividends will be straightly transferred to the investors; it ultimately depends on the investors’ choice, like every other fund. The dividend earned in these funds is distributed or reinvested as per the preference of investors regarding growth or the IDCW option mentioned in the application form. 

Are you willing to start your investment in dividend yield funds? Learn how to with Dezerv today!

Difference Between Dividend Yield Funds And Dividend Options

Usually, investors think that the dividend yield funds and the dividend options are the same. However, these two are not similar, and only the dividend option for any particular fund (not necessarily dividend yield funds) generates the dividend income. Their difference can be further discussed as follows:

Taxation of Dividends By Mutual Funds

In April 2020, the dividend distribution tax was abolished, and the dividend became taxable at the receiver’s hand. In mutual funds also, the taxation of the dividend received is as follows:

• Dividends income under IDCW: As per the unitholder’s slab rate
• The tax would be deducted at source (TDS) on this income: 

10% (Indian citizens) & 20% ( Non-Resident Indians)

• TDS is applicable as above if the dividends received per AMC are more than ₹5000/- for a financial year.

Conclusion

Mutual fund unitholders may receive dividends from dividend options (or IDCW). This dividend is paid by mutual funds from its dividend equalisation reserves. So, this reserve is the amalgamation of incomes like dividends, interest, and capital appreciation. 

Also, the dividend yield fund and the dividend yield option (IDCW) are not identical. Dividend yield funds are invested in equity instruments with high dividend yields. The IDCW/dividend option provides frequent dividend income, but that dividend is out of investors’ appreciated capital.

Hence, investors should have a correct knowledge of how dividends are paid by mutual funds and should evaluate them before investing. Vaguely selecting the funds only for dividends may hamper the compounding effect and, eventually, the investor’s corpus.

Unlock your investment potential. Call us today to learn more about our portfolio management service.

Frequently Asked Questions

How are dividends paid on mutual funds?

Mutual funds pay dividends as per the units. They cannot directly pay the dividends earned from companies. Funds must become profitable by selling the securities and earning incomes like dividends and interest to distribute the dividends. They create a dividend equalisation reserve, where they store the dividends earned from companies, and then the trustees decide upon its distribution.

How do I claim dividends from mutual funds?

If investors have a dividend yield fund or have opted for mutual funds with a dividend option (IDCW), one can claim his/her dividend when it is declared. Updates regarding the declaration of dividends are informed to customers on their registered email IDs. This dividend earned seeks to facilitate regular income for the investors, but it also diminishes the compounding effect as it is a part of the mutual fund.

Do mutual funds go down when dividends are paid?

When dividends are distributed among the investors on the record dates, NAVs increase, and as soon as the dividend is distributed, it falls to the extent of NAV payout. The reason for this is that the dividend is paid out of appreciated capital (NAV per unit). Let us simplify with this example:

• Mr. K has a corpus of ₹12000/- in the mutual fund. He has 30 units of NAV ₹400/- before the dividend is distributed. Now, the dividend is announced as 5/- per unit. 
• So, Mr. K’s dividend would be ₹150/- (30*5). However, this dividend would be paid out of the NAV. So, it would be ₹395/- (400-5), post dividends are distributed. 
• So earning a dividend of ₹150/- would also decrease his total investment to ₹11,850/- (395*30). 

What are the disadvantages of dividend options under mutual funds?

Dividend yield funds are invested mainly in companies with high dividend yields. However, they have some disadvantages, such as:

• It diminishes the compounding effect and thus decreases the growth.
• The dividend is paid only if the fund is profitable overall with all incomes and security sales. So, it depends on the fund whether the investor will get a dividend or not.
• Since April 2020, the abolition of the dividend distribution tax (DDT) has led to tax liability shifting to investors. So, earning a dividend is taxable.

Is mutual fund dividend tax-free?

The mutual fund dividend is not tax-free. It charges tax as per the investor’s total taxable income slab rate. Moreover, 10% (Non-NRIs) and 20% (NRIs) TDS are also charged while paying the dividends. This taxability for investors started after the abolition of DDT in March 2020.

Over the years, pooled funds like Alternative Investment Funds (AIFs) and mutual funds have become very popular with investors as these investment vehicles provide portfolio diversification through professional management.

As of June 30, 2024 – AIFs experienced the highest-ever investment commitments of more than ₹11 trillion, while funds raised exceeded ₹4 trillion. 

Source: SEBI 

Mutual funds’ assets under management (AUM) increased by over twofold over the last five years—from ₹24.25 trillion as of June 30, 2019, to ₹61.16 trillion as of June 30, 2024.

However, which choice will you choose for alternative investment funds vs mutual funds? 

Understanding Mutual Funds

Mutual funds are investment options where money from many investors is pooled to buy a range of traditional assets as per the investment objective of the scheme, which includes,

• Stocks
• Gold 
• Bonds
• Money market instruments

Professional fund managers take charge of these investment pools, researching and selecting assets that align with the investors’ goals.

Five types of mutual fund categories are: 

1. Equity schemes
2. Debt schemes
3. Hybrid schemes
4. Solution-oriented schemes – For Retirement and Children
5. Other schemes – Index funds & ETFs and Fund of Funds

What is an Alternative Investment Fund?

Alternative investment funds are privately pooled investment vehicles which collect funds from investors – whether Indians or foreigners – for investing in accordance with a defined investment policy for the benefit of its investors. 

AIFs invest as per the private placement memorandum in:  

• Hedge funds 
• Private Equity 
• Commodities 
• Venture capital 
• Real estate and 
• Derivatives

Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012 groups AIFs into three major categories. 

Category I AIFs: This includes:

• Venture capital funds (including angel funds), 
• Infrastructure funds
• Small and medium-sized enterprises funds and
• Social venture funds. 

This category focuses on encouraging entrepreneurship and development purposes.

Category II AIFs: This category includes: 

• Real estate funds 
• Private equity funds (PE) and 
• Distressed assets funds.

Category III AIFs: In this category, we have:

• Hedge funds, among others, and 
• Private Investment in Public Equity Funds.

Alternative Investment Funds vs Mutual Funds 

Here’s a quick difference between alternative investment fund and mutual fund:  

1. Investment Required 

AIFs: High – a minimum investment of ₹1 crore (India) is required.

Mutual Funds: Low – Investments can start as low as ₹100 for Systematic Investment Plans (SIPs).

2. Regulation 

AIFs: They are regulated by SEBI under Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012. 

Mutual Funds: These are also regulated by SEBI under Securities and Exchange Board of India (Mutual Funds) Regulations, 1996, but have more stringent regulations compared to AIFs.

3. Asset Type 

AIFs: They invest in a wider range of assets along with conventional asset classes like bonds and stocks. Including: 

• Real estate
• Hedge funds 
• Venture capital
• Private equity and 
• Derivatives

Mutual Funds: They invest in more conventional asset classes like:

• Stocks 
• Gold
• Bonds  
• Money market instruments.

4. Liquidity 

AIFs: AIFs have a commitment period. This is the period during which investors are generally not allowed to redeem their investments. The commitment period is essential for the fund manager to deploy the capital effectively, execute the investment strategy, and achieve the fund’s objectives. 

The commitment period makes this investment option less liquid than mutual funds. For instance, Category I and II AIFs have a lock-in period of 3 years. Category III AIFs can be both open-ended and close-ended. 

If investors redeem before the commitment period, a penalty might be imposed. 

Note: Please read the Private Placement Memorandum to know in detail about the category of the scheme, lock-in periods and other scheme details. 

Mutual Funds: Debt mutual funds are generally more liquid compared to equity mutual funds. For example, ELSS, or Equity Linked Saving Schemes, offer tax benefits, but they also have a lock-in period of 3 years.

5. Risk

AIFs: They carry higher risk due to complex strategies and less-traded assets. 

Mutual Funds: The risk can vary but is generally lower than AIFs due to diversification and focus on traditional assets. 

However, investors should consult their financial advisors before investing. 

6. Volatility 

AIFs: They are often thought to be more prone to volatility because they practise complex investment approaches and possess non-standard assets.

Mutual Funds: Volatility can vary depending on the type of mutual fund and other macro and micro economic factors. Stock-based funds are typically more volatile than bond funds.

7. Taxation

AIFs: Taxation depends on which category of AIF you own and the nature of your income. 

Source: Indiabudget

Mutual Funds: Taxation depends on the category of mutual fund and holding period. The taxation rules for mutual funds have changed in the Union Budget 2024. 

*Do note that LTCG exemption for equity-oriented funds has increased from ₹1 lakh to ₹1.25 lakhs. 

Source: Indiabudget

What Should You Choose?

The choice between AIFs and mutual funds depends on your risk tolerance, the amount to be invested and investment goals. 

Choose AIFs if:

• If you can invest significant capital.  
• If you can take high levels of risks and volatility. 
• You want to invest in funds beyond stocks, bonds, and mutual funds – These include portfolios like real estate or hedge funds. 
• You are ready for a lock-in period (applicable to Category I, Category II and Category III AIFs, if they are close-ended).

Choose mutual funds if:

• You want to take less risk compared to AIFs.
• If you want to put your money into gold, stocks and bonds, then think about investing in mutual funds. 
• You want a lower lock-in period. Lock-in periods do not apply to most mutual funds except ELSS; hence, they are flexible compared to AIFs.

Final Thoughts 

The universe of investment choices has expanded greatly. Although mutual funds remain attractive to some investors, alternative investment funds can be an option for many investors who would like to invest in comparatively riskier assets for potentially higher returns.

Looking at your own situation will help you determine what is “right.” Think about what you want to achieve financially, how much risk you can take on or possibly when you want to cash out an investment before deciding whether AIFs or mutual funds are more suitable.  

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Frequently Asked Questions 

Is AIF better than a mutual fund?

Individual investors decide whether to invest in AIFs or mutual funds based on their investment objectives and risk tolerance. If you can afford to invest a huge sum, desire higher potential profits along with higher risk and volatility, and don’t want to limit yourself to stocks and bonds, then AIFs would be preferable. 

Nonetheless, low-risk appetite investors might consider investing in different categories of mutual funds. 

What is the difference between mutual funds and alternative funds?

The key distinction between Alternative Investment Funds (AIFs) and Mutual Funds (MFs) lies in their accessibility and investment thresholds. AIFs are reserved for accredited investors and come with higher minimum investment requirements. 

On the other hand, mutual funds are designed to be more accessible to the general public, with lower entry barriers making them available to a broader audience.

What are the alternative investment funds?

Alternative investment funds are privately pooled investment vehicles which collect funds from investors – whether Indians or foreigners – for investing in accordance with a defined investment policy for the benefit of its inventors. 

AIFs invest in:  

• Hedge funds 
• Private Equity 
• Venture capital 
• Real estate, etc.

Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012 groups AIFs into three major categories: Category I, II and III. 

Is AIF risky?

Yes, alternative investment funds carry more risk compared to mutual funds. AIFs target unique assets like startups, real estate, or private debt. While these offer the potential for high returns, they are not traded, making them potentially volatile and harder to sell quickly (lower liquidity). This means your money might be tied up for longer and experiencing value fluctuations. 

The total assets under management (AUM) were at about ₹24.25 trillion in June 2019. Five years later, and the AUM has more than doubled! It reached ₹61.16 trillion on June 30, 2024! 

Source: Moneycontrol

So, the real question is, what’s fuelling this growth?

Is India taking to investing in mutual funds like never before? Do we suddenly have a lot more surplus funds?

Wouldn’t THAT be ideal?

No, one of the most significant reasons for this evolution is the impact of technology. Or rather, fintech. 

Let’s take a look at how fintech has evolved and changed the mutual fund distribution process as we know it.

Before Fintech

Well, there are about a hundred or so ways in which fintech and the evolution of technology have changed the face of the mutual fund industry.

But it comes down to two main things:

• Convenience
• Awareness

Let’s take a moment to reflect on why someone would choose to NOT invest in mutual funds. 

Scenario 1:

Arun has a basic understanding of the stock market and other forms of investment. He is aware of the importance of creating a portfolio for oneself, especially for the long term. 

Arun has been saving a fixed amount from his monthly salary. But sadly, these funds don’t get to travel much further than his savings account. 

His friends keep telling him to invest that money, to generate some returns for himself. He wants to do it. It’s just that he’s so busy at work, that he is not getting the time to do so.

Plus, he’s a little intimidated by the entire investment space, and he doesn’t know where to start. So many forms, so many documents — who has the time?

Scenario 2:

Arun has no idea where to invest his money. He believes that the stock market is akin to gambling, and he feels it will be safer to either keep his money in his savings account, or at most, set up a recurring deposit.

The world of mutual fund investments is not even in his orbit.

The growth of technology in the investment space has targeted these two root problems. 

First, the convenience factor. 

Gone are the days when you would have to go down to the AMC office and sift through a mountain of paperwork to start your investment. Now, you can do so in a few minutes from the comfort of your own home.

Second is the awareness factor.

This is something that both the regulatory bodies in India as well as the individual fund houses and investment platforms have been working on tirelessly. 

From television ads on Mutual Fund Sahi Hai to social media campaigns on the various benefits of investing in mutual funds — we have seen it all.  

Source: Mutual Funds Sahi Hai

And it has been working!

From 19 million investors in 2018 to over 40 million in 2024, we have certainly come a long way. It’s certainly impressive. 

But there’s still a lot more to go. 40 million in a country with a population of 1.4 billion comes up to less than 3%!

“The main objective we want to work towards is financial inclusion because we think the penetration level at this time is still limited with just 40 million unique PAN folios in a population of 1.4 billion.” — Vishal Jain, CEO, Zerodha Mutual Fund

After Fintech

Let’s take a look at some of the key innovations that fintech has brought into the mutual fund industry. 

1. Digital Onboarding and KYC (Know Your Customer)

Fintech has done away with paperwork and brought the onboarding process to your screens. Investors can now complete their KYC formalities online within minutes using Aadhaar-based verification, e-signatures and video KYC.

2. Online Investment Platforms

New-age investment platforms offer investors the ability to purchase and manage mutual fund investments entirely online. They focus on user-friendly interfaces and provide comprehensive information on various funds. 

Plus, you can even use tools like Dezerv’s Wealth Monitor to compare performance and see how your portfolio is doing.

3. Automated Investments

One of the main pain points that have held people back is the manual investment process. With SIPs and other forms of automated investments, this is no longer a concern. 

Let’s Talk Numbers

1. Increased Retail Participation

According to AMFI, there are currently about 19.10 crore investor accounts as of June 2024. Out of these the majority of these are retail investors. 

Source: Moneycontrol 

2. Growth in SIPs

According to AMFI data, the number of SIP accounts has been increasing steadily and reached 8.76 crores. In May 2024 alone, a total of ₹20,904 crores was invested.  

Source: Business Today

3. Digital Transactions

In the last ten years or so, the share of digital transactions in total payments has been increasing steadily. Data from IBEF shows that the share of digital payments has increased from 1% to 21%!

This, of course, is driven by the new-age investors and the ever-growing popularity of UPI.

The Road Ahead

The question is, what does this mean for investors and advisors?

For investors, the road is just going to get easier. This is just the tip of the iceberg. As more and more innovations start coming up in fintech, the process of investing in mutual funds will become simpler.

As for advisors and distributors, it opens up a whole new demographic. If you consider how under-penetrated the Indian markets still are, it will show exactly how huge the opportunity is. And advisors can tap right into this.

However, it’s important to note that while fintech has made investing more accessible, it also comes with its own set of challenges. Cybersecurity risks, data privacy concerns, and the potential for impulsive investing decisions are areas that both investors and industry players need to be mindful of.

Furthermore, as per SEBI (Investment Advisers) Regulations, 2013, all financial advice must be given by registered investment advisors. Online platforms that provide automated recommendations must ensure they comply with these regulations.

Looking ahead, we can expect to see more innovations in areas like artificial intelligence for personalised investment advice, blockchain for transparent transactions, and maybe even virtual reality for immersive financial education. The key will be balancing innovation with investor protection and regulatory compliance.

The road ahead is bright, to say the least!

Frequently Asked Questions

What is the role of fintech in mutual funds?

Fintech has allowed the growth of mutual funds to amplify and reach new heights. The sheer convenience that fintech brings to mutual fund investments has allowed thousands of new investors to enter the space and invest their savings.

How does fintech affect financial services?

The main advantage of fintech is that it has brought financial services to the larger masses. There is no gatekeeping in terms of complicated onboarding processes, lengthy documentation, or even any requirement to go down to the actual office. No matter where you are and what you’re doing, you’ll be able to access basic to intermediate financial services, all thanks to fintech.

How does fintech affect traditional financial institutions?

The rise of fintech has brought about a change in traditional financial institutions and the way we view financial services in general. The focus has shifted to making the process seamless and convenient for all investors. 

Who among us hasn’t woken up and checked their portfolio to see if they became a millionaire overnight and could quit their jobs? The mind understands that we need to make our peace with sustainable returns. But the heart wants what the heart wants.

Well, what if you could listen to both? What if you could switch your portfolio allocation to take advantage of the changing market conditions without compromising on its integrity?

Tactical Asset Allocation can help you with just that. How? Let’s find out!

Understanding Tactical Asset Allocation

As the name suggests, this is an investment strategy that adjusts a portfolio’s asset mix in response to changing market conditions. 

It’s a more fluid approach, as you can imagine. Nothing is set in stone over here, and we keep adjusting the portfolio allocation depending on how the market reacts.

Imagine, for instance, that you’ve created a well-balanced portfolio for yourself, with a primary concentration of large-cap stocks.

Now your portfolio is stable and it’s doing well. But you want more. What you can do, is set aside a certain amount that you can invest more tactically.

What does this mean?

Well, let’s say the fintech sector is starting a bullish run. You have a couple of large banking stocks in your portfolio already. But you want to invest in a few other promising companies coming up in the investment space.

Setting aside a fraction for tactical allocation allows you to do just that. You don’t have to sell off any of your long-term investments. 

Oh no, your strategic asset allocation remains undisturbed. Instead, you make some extra investments in some mid-caps in the BFSI space, with the objective of earning higher returns. This can, of course, be for the short-term or the long-term, depending on how the investment plays out.

But that’s the beauty of tactical allocation. You have the flexibility to alter your investments whenever you want.

Principles of Tactical Allocation

• Flexibility

This is the premise on which tactical asset allocation is based. You need flexibility in order to adjust your portfolio.

It doesn’t mean you need to switch up your entire portfolio. But at least a portion of it needs to be dynamic.

• Market Analysis

This is a prerequisite. You need proper and rigorous market analysis in order to capitalise on macroeconomic trends, interest rates, corporate earnings, geopolitical events and the like.

• Risk Management

Now, tactical asset allocation is not just about increasing your returns. Often, it is also used as a hedging and risk management technique. 

Imagine, for instance, that the market is going through a downturn. In such a situation, you’ll want to add some contra or defensive stocks to your portfolio to weather the storm. 

Tactical Asset Allocation in Mutual Funds

As you can imagine, tactical asset allocation is a strategy used by actively managed mutual funds. The objective here is to beat the market and generate higher returns for the portfolio. 

Funds like dynamic asset allocation funds, or even multi-asset allocation funds use the concept of tactical asset allocation to maximise returns to their portfolios. 

The fund managers, in this case, use a variety of indicators to gauge what the overall outlook of the market is, and which way it’s going to go.

For example, macroeconomic indicators like GDP growth and interest rates can have quite an impact on investment decisions. 

Say, for instance, GDP growth is in line with the expectations, and inflation is within RBI’s acceptable limits. The market outlook is positive overall, and the fund manager decides to increase the equity allocation to take advantage of the anticipated growth in the stock market.

How?

They increase exposure to sectors like consumer goods, technology and others that are expected to benefit from the economic growth.

Similarly, if the market starts to anticipate that RBI will introduce a rate hike, the situation will change again. From optimistic, the mood will now change to cautious.

In this situation, the fund manager will decrease exposure to interest rate-sensitive sectors and increase allocation to sectors that benefit from higher rates like financials. 

The fund manager may also go one step beyond and increase the allocation to short-term bonds to reduce interest rate risk.

What are the Challenges?

Tactical asset allocation can offer numerous benefits for your portfolio. After all, the entire objective of this strategy is to maximise your returns. Can there be anything more ideal?

Having said that, however, you must remember that this strategy does not come without risks. 

• Market Timing

Timing the market is the key here.

The fund manager needs to anticipate and take the right call before the tide actually turns. But that is hard to do as it sounds. 

It is very easy to go wrong when you’re playing with the edge of a knife, and any missteps can be disastrous. Incorrect timing decisions can lead to suboptimal performance and increased volatility.

For example, if the fund manager increases equity exposure just before a market correction, it can result in significant losses to the portfolio!

• Higher Costs

Tactical asset allocation involves active management. You need to keep buying and selling shares and rebalance the portfolio frequently. 

This can lead to higher transaction costs and taxes, which in turn, can erode returns.

• Complex

Although this explanation of tactical asset allocation can sound simple, let me assure you that implementing this strategy is anything but. Fund managers use sophisticated models and tools for effective implementation.

• Behavioural Biases

No matter how hard we try, there is some bias in our decisions. Fund managers, of course, are experts. But even then, behavioural biases creep in. 

Now, in normal situations, this might not even matter.

But, when you’re attempting to beat the market, this can often lead to overconfidence or even herd behaviour. This, in turn, can have an impact on decision-making and performance.

Summing Up

Tactical asset allocation is powerful. But don’t go all out with it.

“Tactical portfolio generally shouldn’t be more than 20-25% of the overall portfolio based on product availability, lock-in and client comfort, and are generally meant for short periods.” — Nitin Rao, CEO, InCred Wealth,  in a 2023 interview with Mint.

As with all other investment strategies, only go as far as you’re comfortable. With mutual funds, of course, you can explore tactical asset allocation in a safer manner. 

Remember, TAA isn’t about becoming a millionaire overnight. It’s about being nimble, adapting to market conditions, and potentially enhancing your returns. But like a powerful sports car, it needs skilled handling. For most of us, a TAA mutual fund might be the equivalent of taking that sports car for a spin with a professional driver at the wheel.

Simply choose the fund you’re comfortable with and invest!

Oh, and don’t forget to track the performance of your portfolio with Dezerv’s wealth monitor!

After all, in the world of TAA, knowledge isn’t just power – it’s profit!

There are various norms laid by the Securities Exchange Board of India (SEBI) and the Association of Mutual Funds in India (AMFI) to regulate the mutual fund industry and aim to protect investor’s hard-earned money. AMFI Registration Number (ARN) or ARN code in mutual funds is one of the crucial documents for distributors. Investors and intermediaries willing to enter this industry must know about the ARN code.

Let’s explore every aspect of this code, its significance, eligibility, and process to get an ARN code.

What is the ARN Code?

The person or entity selling mutual fund units to the investors is known as a distributor. Every distributor goes through several eligibility tests and formalities to get the role to become an AMFI empanelled distributor. Finally, after passing all these, the person/entity is allotted an ARN number. It is a unique identity code provided by the AMFI with an ID card. 

The ARN code full form stands as AMFI Registration Number. This number is mandatory for every distributor selling any mutual fund scheme. Asset Management Companies (AMCs) are responsible for checking this code from all the distributors selling its units. Also, the investors can ask any distributor to show his ARN code and ID card to authenticate his/her role as a distributor. 

This code has a unique combination of numerical digits and letters.

• First digits: alphabets – alphabetical code
• Two digits: numeric – State code
• Two digits: numeric – Month
• Two digits: numeric – Years 
• Six digits: numeric – Main code generated by the system
• Last digit: numeric – checksum digit

It is the format of the ARN code; the six-digit code in it is the most crucial number. So, distributors usually share ARN in this form as it is the main unique identification number. For example, the ARN code of Dezerv is – 248439.

Significance

• SEBI through AMFI are keen to provide seamless service to the investors and distributors, and agents are constantly in touch with AMFI. So, distributors are duly authorised by AMFI.
• The eligibility exams for distributors are professionally designed. Usually, the people who clear these exams have a proper knowledge of the mutual fund industry. One can obtain the ARN code only after passing these exams, so they aim that the distributors are educated and in a way set high standards for the distributors.
• Investors can identify the authorised person with this ARN number. These distributors would also make investors aware of all the risks in the market. Moreover, it is also the responsibility of investors to take advice only from the registered distributors who have this code. 
• ARN code would also help investors track the transactions made by the distributor on their behalf. 

Your portfolios should be managed with the utmost care as it has your hard-earned money, isn’t it? Check out the portfolio management service by Dezerv and get started today!

Eligibility Criteria

The individuals and corporations willing to work as distributors should fulfil all the requirements as follows:

• A person should be 18 or older to apply for the ARN code.
• Intermediaries must clear the ‘NISM-Series V-A: Mutual Fund Distributors Examination’ conducted by the National Institute of Securities Markets. This certification is valid for three years from the issuing date.
• Senior citizens intermediaries should have attended the ‘Continuing Professional Examination’. This certification is valid for three years from the issuing date.
• Corporations in mutual funds unit distribution business should apply to AMFI as per the code of conduct. The directors or top management personnel should also clear the NISM certification for the corporation.
• The company would have an ARN code, and its employees would have an Employee Unique Identity Number (EUIN).
• One can apply for the ARN code only with these certifications as required for the particular individual.

Employee Unique Identity Number (EUIN)

It is the number given by the AMFI to the people employed in the mutual fund distribution company/firm. These individuals are usually in the post of relationship manager. They are the ones in direct contact with the investors.

They are also provided an EUIN card that contains information such as name, EUIN ID, validity, etc. If an employee changes his job and shifts to a different distributor, his/her EUIN will remain the same. Only this development should be intimated to the AMFI with this form: EUIN mapping form.

How to Get an ARN Code?

After fulfilling all the required eligibility criteria, the applicant should start the registration process. Simultaneously with this application, the KYD application should also be processed.

Know Your Distributors (KYD) 

The Computer Age Management Services Pvt. Ltd. (CAMS) assists the KYD process of AMFI. Ltd. (CAMS). It is the process for verification of all the documents, such as photo PAN card or other photo and address proofs, and the biometric credentials of an individual or entity to know in detail you may visit AMFI. 

KYD process is possible physically by visiting any CAMS point of service (CAMS POS) or online on the CAMS website.

The registration process for ARN code is possible both – online and offline as follows:

Online Registration

• First, visit the AMFI website and register your email ID.
• Enter the PAN number.
• Proceed to enter the NISM certification credentials, such as registration ID, certification number, issue date, etc.
• Further, the document uploading window will open. Those should be uploaded as per the required criteria of pixel or size.
• Finally, fees should be paid by the applicant according to the status of the individual, proprietary firm, LLP, banks, etc. The revised fee structure is available here: Registration and renewal fees with GST.

Offline Registration

Offline application is processed at CAMS-POS, along with biometric credentials. The following documents should be submitted along with this application:

• The registration form, as per the category, can be found in the Registration Forms section of the AMFI site.
• Stamp-size colour photographs.
• Photocopy of other documents, such as PAN card, bank proof, etc, should be submitted.
• The demand draft for the payment of fees should be sent in favour of – ‘Association of Mutual Funds in India’.

The validity of ARN registration and certifications like that of NISM is limited and thus should be renewed on the expiry date or six months before, on the following link – RENEWAL FORM.

Renewal Process

• The applicant can visit an online website, upload all updated documents, and pay the fees digitally.
• Applicants can also visit CAM-POS for this process.
• Renewal before the end of validity – further new validity would be provided for the expiry date of the previous application.
• Renewal after the end of validity – new validity will then be provided from a later date.

Bottomline

The ARN code in mutual funds is a crucial detail in identifying an authorised distributor. It is a code given by AMFI to the agents/distributors that acts as a bridge between the investors and the AMCs. It is significant for maintaining a good standard of the intermediary and safeguarding the interest of the investors since the distributors need to adhere to the code of conduct for the distributors.

An individual/corporation can easily apply for the ARN code if the eligibility criteria are fulfilled. Moreover, after obtaining this code, one should be alert about the expiry and renewal process.

Are you ambiguous about how your wealth can be planned or managed? Worry not, Dezerv seeks to help you with this! Connect with us today!

Frequently asked questions

How do I register for an ARN number?

The applicant who has cleared the NISM or CPE examination can apply for the ARN code by visiting the AMFI website and offline at CAMS-POS. The required documents would be certification, photo and address proof, and bank statement etc to know in detail visit AMFI site. Fees can be paid online by making digital payments. Offline, the payment should be made with a demand draft.

How do I renew my ARN number?

The renewal process should be done within six months of the expiration date. This process can be done by visiting the nearest CAMS-POS and submitting the renewal form, attested with different required documents. Also, one can renew it online by visiting the official website of mutual funds. Along with this renewal, applicants are advised to check the validity of the certification. If required, update it before the renewal process.

What documents are needed for ARN code registration?

ARN code can be availed by applying online or offline. In both cases, the following documents should be ready with the applicant:

• The NISM-Series-V or CPE examinations certificate. One should have successfully cleared this exam while applying for the ARN code.
• Original or photocopy of photo and address proof, as per the online or offline process preference.
• Bank Account statement.
• Passport-size photograph of the applicant.

If you are applying offline, the required form should be downloaded or availed from the nearest CAMS-POS and duly filled in while submitting the above-given documents.

Can I apply for ARN without any certification?

No, the ARN code or AMFI Registration code cannot be availed without clearing the examinations and obtaining its completion certificate. Any individual must clear the following exams:

• ‘NISM-Series-V-A: Mutual Funds Distributors Examination’ or
• Continuing Professional Examination (CPE) – senior citizens.

Without these certifications, distributors are not eligible and would not be able to apply for the ARN code.

The senior citizen age is critical for an individual. The retirement stage is difficult as there is no fixed income like a salary, increasing medical expenses, and increasing family expenses. Managing all these circumstances would be easy if an individual earned a fixed regular income. 

So, how can senior citizens earn regular income? In this article, we will explore various senior citizens’ regular income schemes.

1. Mutual Funds

If diversified well, investments have immense potential to give competitive market returns and provide a space to curb the risk. Mutual funds are one of the best investment instruments for this. It creates a pool of investor’s money to invest in various schemes launched by the fund. There are several facilities for investors to save systematically and seek to earn returns, such as:

• Systematic Investment Plans –  This enables investment of small regular sums.
• Systematic Transfer Plans – This enables transfer from one fund to another over a period of time. 
• Systematic Withdrawal Plans – This enables withdrawal of small regular amounts.

Systematic Withdrawal Plans (SWP)

It may be a feasible option for senior citizens to opt for SWP. If the senior citizen investor has a large lump sum amount, if kept idle, its value may be depreciated off by the time value of money. So, the individual can invest such a large amount in SWP and have regular withdrawals every month. Further, we suggest that an investor consult his financial advisor before investing to know the facility and, depending on his risk appetite, invest in the scheme.

Let’s understand SWP with this example:

Mr Mehta has a ₹10 lakh corpus invested in a balanced mutual fund. To liquidate this investment, he has opted for SWP. He sets a withdrawal amount of ₹25,000/- per month. Mutual fund investment for some of the starting months would be as follows:

Learn how NRIs Can invest in mutual funds.

2. Senior Citizen Savings Scheme (SCSS)

The government of India aids senior citizens with this scheme, seeking to ensure that they are financially independent. Any senior citizen (as per age criteria) can open an account under this scheme. The scheme is an excellent investment for retired individuals who want to invest their retirement benefits in a lump sum and earn interest income every quarter. 

Moreover, the interest rate since the last few quarters has been nearly 7%-9%*, which is comparatively better than that of traditional instruments. Some key features of this scheme are:

• Interest = 8.2% per annum (From April 1, 2024 to September 30, 2024)
• Interest receiving date (every year): At the last date of every quarter
• No. of deposits: only one
• Minimum deposit = ₹1,000/- and more in its multiple
• Maximum deposit = ₹30 lakh
• Tenure: 5 years. Within a year, the application should be made to extend this tenure for a further three years if investors are willing to
• Account type: Individual or Joint (with a spouse)
• Tax benefit: Section 80C of Income Tax Act, 1961

(*The rate of interest is as of July 24, 2024; please read the scheme documents before investing)

3. Monthly Income Scheme by Post Office (MIS)

This scheme is offered through the post office under the guidance of the Ministry of Finance. It seeks to enable monthly returns at a prescribed interest rate against a lump sum investment made by the investor. The scheme is one of the suitable options for senior citizens who want to invest small lump-sum amounts to earn potential interest every month. 

The MIS features are as follows:

• Interest = 7.4%* per annum
• Interest received: Every month
• Account type: Individual or Joint (max three people)
• No. of deposits: only one
• Minimum deposit = ₹1,000/- and more in its multiple
• Maximum deposit = ₹9 lakh (individual), ₹15 lakh (joint)
• Tenure: 5 years 
• Tax deduction: Section 80C of Income Tax Act, 1961

*(This rate is as on July 24, 2024, please read the scheme documents before investing)

4. REITs & InvITs

These innovative investment vehicles are gaining attention these days. Direct investment in sectors like real estate requires a hefty sum. However, investing in the units of Real Estate Investment Trusts(REITs) and Infrastructure Investment Trusts(InvITs) can make it easy.

These instruments are relatively new compared to traditional investment avenues in India, but they have gained traction in recent years. They offer income in the form of dividends. However, they are accompanied by market risk. 

For senior citizens, who typically have a low-risk appetite, balancing these instruments with other fixed-income investments becomes crucial. Diversification is the key to managing risk and ensuring steady income.

• REITs

These trusts operate similarly to companies that issue shares and raise funds. The trusts offer units to the public, raise funds from them and invest them in real estate. Usually, these investments are in highly sophisticated residential or commercial properties. 

Investment in REITs can be made through its Initial Public Offer (IPO), starting from ₹10,000/- per unit. Investment in REITs trading on the exchange does not have any minimum limit. Trusts generate rent income, which is distributed among unitholders as dividends. However, due to their market exposure, the risk is close-knit to such investments.

• InvITs

The trusts invest in finished or under-construction infrastructure projects like flyovers, parks, airports, etc. Such projects need a high amount of capital, which the pooled funds of InvITs easily provide. 

Minimum investment in Public InvITs can be made in its IPO with ₹10,000/-. While trading on the exchange, there is no minimum investment constraint. Also, risk is an inherent part of it.

5. Bonds for Senior Citizens

Bonds are debt instruments offered by companies to raise capital. The government also provides bonds known as G-secs. The key feature of this instrument is that it seeks to earn fixed interest payments at regular intervals, which would suit senior citizens. Investment should be made by assessing the associated risk, returns (coupon rates), market conditions, and ratings. 

6. Fixed Deposit (FD) Plans For Senior Citizens

Many banks provide special fixed deposit plans for senior citizens, which offer higher interest rates than regular FDs. For example, some banks offer senior citizen FDs at a 0.5% higher interest rate than regular rates. Also, the post office has a scheme similar to fixed deposits known as the National Savings Time Deposit Account (TD), which offers returns of 6.9% to 7.5%* for different periods, such as one year, two years, five years, etc.  Further, investors should consult their tax/financial advisor before investing.

(The above figures are only for reference purposes)

*(Mentioned rates are as of July 24, 2024, please refer the scheme document before investing)

Factors to Keep in Mind While Investing

Consider aspects like these while aiming to select options for regular income for senior citizens:

• Identify your needs before investing and select the most suitable investment option. One size may not fit all.
• Investing part of your amount in diverse options would help curb the risks and aim to generate regular returns at different intervals.
• One government savings scheme, like SCSS, would help minimise the risk of your returns in times of market volatility.
• Tax liability, deductions, and tax-saving investment schemes should be considered, as they can help reduce tax payments on any investment.

Bottomline

Early investment is beneficial for all individuals. However, senior citizens should not worry, as several investment schemes can provide them with regular returns, even after retirement. The different factors mentioned above should be considered when investing. If needed, help should be sought from professionals for this planning. 

Are you worried about planning your wealth? Dezerv is at your service! Call us to book an appointment with an expert and get started today!

Frequently Asked Questions

How do senior citizens earn regular income?

Senior citizens earn regular income from government schemes like post office monthly income schemes, senior citizen savings schemes, fixed deposits, etc. Also, other instruments, such as mutual funds, bonds, REITs, InvITs, etc, seek to offer regular income to investors. However, it is suitable only if the senior citizen is willing to expose investment to market risk.

Which scheme is good for senior citizens?

The government offers various schemes for senior citizens to earn regular income in retirement. Certain investment instruments, such as mutual funds, bonds, fixed deposits, etc., can also be considered. Factors such as return needs, risk appetite, market conditions, etc., may be considered when choosing a suitable scheme. 

What is a senior citizen savings scheme?

The Indian government offers regular income to senior citizens through a senior citizen savings scheme. Lump-sum investments can be made of a minimum ₹1,000/—and a maximum ₹30 lakhs. The interest is paid quarterly. As of July 2024, the rate is 8.2%*. The per annum interest rate has usually varied around 7% to 9% since the last few quarters. 

*(The above rates are as on July 24, 2024. Please refer scheme document before investing)

How can retired people seek to earn money?

Retirement age is financially challenging to manage. However, there are various ways for retired people to make money, such as investing in senior citizen schemes, working part-time, freelancing with skills, etc. Financial independence during retirement also provides mental peace.

For beginners, investing can seem like a difficult and intimidating chore. Given the many possibilities, understanding where to put your money for potential returns while controlling risk is essential. 

This article will delve into passive funds like ETFs, index funds, and actively managed mutual funds, what they are all about, how they operate, and, most importantly, their fundamental differences.

Find the right mutual fund and grow your wealth with Dezerv! 

Understanding the Basics

What are ETFs?

An Exchange-Traded Fund (ETF) is a marketable security that tracks an index, a commodity, bonds, or a basket of assets like an index fund. ETFs combine elements of stocks and mutual funds. While they are traded like stocks on exchanges, with prices changing throughout the day, they provide diversified portfolios overseen by professionals. 

You can imagine an ETF as a box of fruits, with every piece representing a unique instrument, such as apples, bananas, and mangoes. These boxes are bought and sold just like stocks.

Advantages and disadvantages of ETFs:

What are Index Funds?

Index funds are a type of mutual fund that mimics the performance of a specific market index, such as Nifty 50 or Sensex; they invest in the same instruments as the index and replicate its performance in equal proportions but at lower costs.

Advantages and disadvantages of Index Funds:

What are Actively Managed Mutual Funds?

Let’s understand the meaning of mutual funds. A mutual fund invests in a broad range of stocks, bonds, and other instruments by combining the funds of multiple investors. Actively managed mutual funds are a type of mutual fund in which fund managers actively buy and sell investment assets with the explicit intention of beating some benchmark or index like BSE Sensex, Nifty 50, etc. 

Advantages and Disadvantages of Actively Managed Mutual Funds:

Key Differences between ETF vs Index funds vs Actively Managed Mutual funds

Exchange-traded funds, index funds, and actively managed mutual funds all pool money from numerous investors to buy diversified portfolios of assets; however, there are differences. Comprehending these differences will assist you in selecting an appropriate investment.

Management Style – Passive vs. Active Management

• ETFs and Index Funds: Under passive management, their objective is to emulate the performance of a specific index instead of surpassing it. This results in less frequent trading and reduced management costs. 
• Actively Managed Mutual Funds: They are actively managed, in which case fund managers decide on asset allocation in an effort to beat the market. This can lead to higher management fees and more regular trading.

Trading Methods

• ETFs: They are traded on stock exchanges all day, the same as individual stocks. This allows investors to purchase and sell ETFs at market price.
• Index Funds and Actively Managed Mutual Funds: Each fund’s net asset value (NAV) is determined at the end of each trading day based on the closing market prices of its securities. Thus, investors can only purchase or sell units at the closing price. 

Liquidity

• ETFs: Since they can be traded all day, they generally provide more liquidity. This will be helpful for investors who need quick access to their money or the option to have flexibility.
• Index Funds and Actively Managed Mutual Funds: Compared to ETFs, they are less liquid because they can only be traded at the end of the day.

Expense Ratios

• ETFs: Typically, ETF administrative costs are much lower than those of actively managed funds at below 0.20% per annum compared to some active fund schemes, which cost more than 1% yearly. Hence, they are a reasonably cheap choice for investors. 
• Index Funds: Like ETFs, index funds have low expense ratios due to their passive management strategy. The total expense ratio for index funds and ETFs includes investment and advisory fees, and it should not exceed 1% of the average daily net asset over a fiscal year.
• Actively Managed Mutual Funds: They usually have higher expense ratios (>1%) because active management involves administrative expenses, fund management expenses, etc. 

Trading Fees

• ETFs: Depending on the broker, they may pay commissions or trading fees, whether bought or sold.
• Index Funds and Actively Managed Mutual Funds: While mutual funds may have sales loads—fees paid when purchasing or selling units—you do not pay any trading fees in this case. 

For first-time investors in any mutual fund, a fund house is allowed to charge ₹150 as a transaction fee where such transaction value is more than ₹10,000. This fee is ₹100 in the case of an existing investor.

Track, manage, and invest your money better with Dezerv!  

Which One is Right for You – How to Choose Between ETFs, Index Funds, and Actively Managed Mutual Funds?

1. Investment Goals: 

ETFs offer flexibility and all-day trading, ideal for both short-term and long-term investors. Index funds are perfect for long-term investors seeking a low-cost, hands-off approach to match potential market returns. Although they have higher fees, mutual funds, especially actively managed ones, offer professional management and the chance to beat the market.

2. Risk Tolerance: 

Your comfort with market volatility greatly influences your choice. ETFs and index funds offer broad market exposure and diversification, reducing risk. Actively managed mutual funds provide focused strategies for specific risk profiles. For a consistent, low-cost approach, choose index funds. Consider ETFs or actively managed mutual funds if you can handle more complexity and potential return volatility.

3. Convenience and Simplicity: 

If simplicity without regard to trading strategies or market timing is what you value in management, ease and simple investment options provide it. Index funds and no-load mutual funds offer simplicity. ETFs’ trading character calls for more attention, even if they are flexible. Professional management offered by actively managed mutual funds can be handy if you want to let professionals make investment decisions.

Planning to start your investment journey? Connect with Dezerv.

To Sum Up

Your investment goals, risk tolerance, and cost preferences determine whether you choose ETFs, index funds, or actively managed mutual funds.

ETFs offer tax efficiency and flexibility for both short-term and long-term investors. Index funds provide a low-cost, passive approach to potential market returns. Even though they are more costly, actively managed mutual funds have professional management and seek potential returns.

Use this information to match your investment plan to your financial objectives.

Frequently Asked Questions 

Is it better to invest in mutual funds or index funds?

Among other types of investments available, Index Funds might be the best choice for passive investors, given their potential returns that match those of the market coupled with minimal fees. Professionally managed mutual funds can outperform the market; however, their performance is erratic, and they charge higher fees. This choice will depend on personal risk level, goals, and whether an individual prefers active to passive management.

Do ETFs pay dividends?

Yes, exchange-traded funds (ETFs) can pay dividends if the underlying investments, such as dividend-paying stocks or bonds, generate income. In most cases, shareholders receive dividends regularly. However, investors must choose whether they would like the dividends to be issued in cash or invested back into more units of the ETF, following the regulations guiding it.

Which investment form diversifies the investor’s risk?

All three investment forms—ETFs, index funds, and mutual funds—provide diversification by pooling assets from many investors who buy a wide range of instruments. However, index funds and ETFs often offer more extensive, reasonably priced diversification through passive management. At the same time, mutual funds that are actively managed may also achieve diversification, but usually at higher costs.

Are ETFs better than index funds?

No, ETFs are not necessarily “better” than index funds in India. Both have advantages and disadvantages; the best choice depends on the individual investor’s needs and preferences.

Non-resident Indians are usually looking to invest in India, which can provide potential for their funds. 

In India, Non-resident Indians (NRIs) are allowed and welcome to invest in mutual funds. Let’s explore who are termed as NRIs, the benefits of mutual funds, how NRIs can invest in mutual funds, and some intricacies.

Who is a Non-Resident Indian (NRI)?

As per FEMA (Foreign Exchange Management Act):

An NRI is an Indian citizen who resides outside India for employment, education, business, or any other reason. Source: FEMA

As per the Income Tax Act, 1961:

You’re an NRI if:

• You’ve stayed in India for less than 182 days in the previous financial year
  OR
• You’ve stayed in India for less than 60 days in the previous year and for less than 365 days in the last 4 years combined

Examples:

• Mr Kashi, working in London, spent ~150 days in India last year. He’s an NRI.
• Ms Sneha, residing in Paris for 10 years and only visiting for 2 months annually, is also an NRI.

Some features of Mutual Funds to NRIs

• Diversification

Mutual funds collect money from several investors to form a large pool and invest it in sector-specific, instrument-specific, or theme-specific units. Moreover, diversification is crucial for investors seeking to earn potential returns from the market with direct or indirect risk exposure. 

Further, NRIs would greatly benefit from this diversification. For example:

During FY 2021-22, the world was experiencing a pandemic crisis, the Russia- Ukraine war, etc. The annualised volatility of NIFTY 50 during this time was 18.4%, while that of others like NIKKEI 225 (Japan) was 27.5%, Hang Sang (Hong Kong) was 51.2%, and NASDAQ COMPOSITE (USA) was 31.8%. In such situations, equity-focused mutual funds in India would give potential returns to NRIs. 

• Diversified risk

Due to their diversification, mutual funds are less exposed to market risk. Diversification can curb risk and spread it across different investments in the pool.

• Affordability

Mutual funds in India offer various facilities. Systematic investment plan (SIP) for small regular investments. The systematic transfer plan(STP) to transfer from one scheme to another. The systematic withdrawal plan (SWP) is to withdraw in small amounts. It aims to generate wealth over a period of time and induces savings behaviour in investors. For example, 

SIPs start at a minimum amount of ₹500, ₹1000, etc, and could be later increased with the step-up plans. 

• Professional management

The funds pooled from investors are managed by experienced fund managers, who make investment decisions according to the market conditions. Moreover, they have appropriate knowledge of market movements, strategies, instruments, etc. 

An added advantage is that investors do not need to actively manage their funds or evaluate market conditions every time, as professionals, i.e., fund managers, help them with this.

• Tax benefit

Specific mutual funds provide taxation benefits to the portfolio. Investors can get a deduction under Section 80C of the Income Tax Act, 1961, with the Equity-linked Savings Schemes (ELSS). These tax-saving category funds have generated potential returns of 35.25% in a year. These schemes may be feasible for investors seeking potential returns with tax benefits.

How can NRIs invest in Mutual Funds in India?

Step 1: Open an NRE/NRO/FCNR Account

NRIs can’t invest using foreign bank accounts. Instead, use:

💡 Repatriable = Funds can be transferred back overseas.

Step 2: Complete KYC

KYC is mandatory. You’ll need:

• PAN card
• Valid passport
• Overseas address proof
• Indian mobile number
• Recent photographs

Step 3: Choose Investment Route

Option 1: Direct Investment

NRIs can invest directly via AMC websites or fintech platforms. Choose between a repatriable or non-repatriable basis.

Option 2: Power of Attorney (PoA)

Designate a trusted person in India to manage your investments. Both NRI and PoA holders must complete KYC.

How can NRIs redeem their investment?

Different fund houses have different redemption processes. NRIs should check this process before investing as it affects their liquidity. Also, the total amount (investment and gains) will be provided to the investors during redemption (if not opting for plans like SWP).

The funds would be redeemed to the investor’s selected account (whether NRE or NRO). However, as given below, these funds will be redeemed after the required tax is deducted.

Taxation norms

Previously, NRIs had to pay taxes on their investments in India and their country of residence. However, the Double Taxation Avoidance Agreement (DTAA) changed the landscape. Now, investors only have to pay tax in the source country (Investing in India, then paying tax in India). 

In India, the taxation norms for the transfer of units after July 23, 2024 are categorised as follows:

Source: AMFI

Things NRIs Must Check Before Investing

• Choose AMCs that accept NRI investments from your current country
• Read the Scheme Information Document (SID) carefully
• Understand exit loads, lock-in periods, and liquidity
• Repatriation rules based on the account used (NRE/NRO)
• Use step-up SIPs and SWPs for better cash flow management

Conclusion

NRIs in India are allowed to invest in mutual funds. Mutual funds offer the unique benefits of diversification, less risk, affordability, and professional management. 

NRIs willing to invest in mutual funds should properly open their bank accounts in India, make the necessary KYC arrangements, select the method of direct investment or PoA, and invest in the desired fund. Moreover, one should most crucially check their investment growth and value (according to their earning in foreign currency) while investing in mutual funds in India. NRIs should also read the scheme information document and consult their financial advisor before making an investment decision.

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Frequently Asked Questions

Can NRIs invest in all Indian mutual funds?

Not all AMCs accept investments from NRIs in the US/Canada due to FATCA. Check eligibility on the fund house website.

Do NRIs have to pay tax on investments in mutual funds?

NRI investors are liable to pay tax on their mutual fund investment at the rates prescribed by the regulator or at the tax slab rate of the investor’s total taxable income. Tax is levied on short-term and long-term capital gains. Moreover, tax is also deducted at the source (TDS). 

Can I start SIP as NRI?

Yes. NRIs willing to invest in mutual funds can start gradually with a systematic investment plan (SIP). This would help investors make disciplined regular investments and induce saving behaviour. Moreover, these SIPs can be increased with step-up plans for better returns in the long term.

What investments can NRIs do in India?

Today, India is considered an attractive market worldwide. Non-resident Indians (NRIs) can invest their funds in assets like gold, stock market instruments, debt instruments, and bank instruments like fixed deposits. Moreover, they can also take advantage of multiple assets in an investment, like mutual funds and alternative investment funds (AIFs). Investors should know the recent regulations before investing in the above securities.

Is mutual fund income taxable in both countries?

Thanks to DTAA, you typically pay tax only in India. However, consult a tax expert for your country’s rules.

Should I use an NRE or NRO account for mutual funds?

NRIs can invest in mutual funds using a Non-Resident (External) Rupee account and a Non-Resident Ordinary Rupee account. The former deals with the transfer of income earned abroad, while the latter deals with income earned in India. Both accounts help them transact in Indian rupees. NRE account funds are repatriable, but NRO accounts are not. Suitability and compliance should be checked before investing.

Can overseas citizens of India invest in mutual funds?

Yes! Overseas citizens can invest in mutual funds and many more assets in India. Mutual funds would give them the benefits of fund diversification, affordability, low risk, tax benefits, professional fund management, etc.

The necessary regulations of account opening and KYC should be followed for investing. Also, the ‘repatriable’ feature should be taken into consideration. Moreover, Persons of India Origin (PIO) and Non-Resident Indians (NRIs) can also invest in mutual funds in India. Investors should check with their tax consultants before investing.

Source: Securities Exchange Board of India (SEBI)

However, before investing, investors should understand their mutual fund investment or consult their investment advisors. Every time a mutual fund launches a scheme, it has to file a prospectus with the Securities Exchange Board of India (SEBI), known as a mutual fund prospectus. Investors should thoroughly understand this document before making any investment decision.

What is a Mutual Fund Prospectus?

The formal legal document, consisting of information about a mutual fund scheme, is known as a mutual fund scheme. It is also known as a Scheme Information Document (SID). It has several sections regarding risk associated, New Fund Offer (NFO), asset allocation, objectives, etc. 

SEBI has prescribed a standard format for this scheme information document. It is a legally binding document. So, investors will find every minute detail of a scheme. However, it is a long document, and investors may find it cumbersome to read. Investors can request a particular scheme’s prospectus via email or access it here: SEBI SIDs.

Key Sections to Focus on in a Mutual Fund Prospectus

1. Scheme summary

The summary for a particular mutual fund scheme consists of information regarding name, category, objectives, plans and options, risk-o-metre, etc. It is a clear overview of the scheme. Investors should understand this section well and analyse whether it aligns with personal investment objectives.

However, investors cannot rely only on this summary. One should understand the whole prospectus before investing in the scheme.  

2. Risk factors

Mutual funds are directly or indirectly investing in the stock market, bonds, debentures, government securities, etc. This market exposure may invite market risk along with returns. Risk differs for every mutual fund scheme. As per SEBI’s standard format, the risk factors are divided mainly into two different parts:

Standard risk

It is the common fund house or scheme risk. It includes factors such as volume, liquidity, past performance of the scheme or Asset Management Company (AMC), etc. Investors should determine whether this risk is feasible and match it with personal risk appetite to analyse it.

Scheme specific risk

Investment in a particular scheme is associated with its specific risk. Thus, it differs from scheme to scheme. These risks are as follows:

1. Equities scheme: It has the risk of the stock market and its volatility. It may also include derivatives and short-selling risks, for schemes particularly investing in them.
2. Bonds scheme: It has risks regarding the credit, liquidity, and other fixed-income asset markets.
3. Foreign securities scheme: It has risks of global events, foreign markets, etc.

3. Asset allocation, strategies and benchmark

According to the SEBI categorisation, there are five types of schemes. These five types are further categorised based on fund allocation and holding period. The allocation of funds/assets in different securities affects crucial factors such as taxation.

Fund allocation

SEBI suggests a specific format for disclosure of this fund allocation of a particular scheme. It includes:

• Instrument name
• Maximum and minimum % of allocation
• Risk profile of the instrument – high, medium or low.

Strategies employed

Other than asset allocation, investment strategies followed by a scheme are crucial points to seek suitability. If the scheme invests in risky assets, like derivatives, its basic strategy and risk mitigation plans are mentioned.  

Benchmark for the scheme

The fund makes investment decisions according to a benchmark security or market index. It provides investors with better information regarding investment patterns and potential returns of a particular scheme.

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4. Investment requirement and redemption policies

This section seeks to help investors determine the minimum investment required, plans, options and the NFO details. 

The NFO details include minimum amount, NFO price per unit, allotment, plans, options, listing, application, redemption policies, etc.  As per SEBI, an open-ended fund must have a minimum of 20 investors, and any single investor cannot be more than 25% of the total fund size. Minimum investment, Systematic Investment Plan (SIP) or lump-sum amounts, and frequency should be checked.

Moreover, redemption details should be checked to ensure the fund’s liquidity. These should include its price, units, method, tenure, Net Asset Value (NAV), and the frequency of account statement disclosure.

5. Expense table and load structure

For an NFO, details regarding sources of marketing expense, advertising, bank, printing charges, etc. However, this is not a compulsory disclosure. Apart from this, the annual scheme recurring expense table is a mandatory disclosure. It explains different fees related to the scheme in terms of % of net assets of that scheme. The Total Recurring Expenses (TRE) include management fees, audit fees, brokerage costs, transaction costs, custodial fees, etc.

Entry and exit load of a scheme indicates the amount paid by investors for the purchase or redeem the scheme units, respectively. It is expressed as the % of NAV.

6. NAV computation and scheme performance

There can be two schemes – an NFO and an already-launched open scheme. The NAV computation is explained along with a hypothetical example for investors. It seeks to help investors to determine how their price/NAV would be determined.

The NFOs will not have historical performance data. However, such schemes may have historical performance data of other schemes by that AMC. Investors can analyse this data and understand AMC’s performance.

The open-ended scheme units are available for purchase and sale in the market. So, it is mandatory for such schemes to publish this data in the SEBI-prescribed format. It includes a compounded annualised scheme and benchmark returns for 1 year, 3 years, five years, and since inception.

Moreover, a graph of the scheme and benchmark returns for the past 5 financial years is presented. Investors can analyse this data and decide whether it will match their expectations from a particular investment.

7. Taxation

The taxation of different mutual fund schemes should be explained. It seeks to help investors determine their capital gain tax liability from a particular scheme. SEBI has prescribed a format for taxation, which will disclose tax % for a resident investor, non-resident investor and mutual fund on the following:

• Dividend option or Income Distribution and Capital Withdrawal (IDCW)
• Capital gains: long-term and short-term

Investors should consult their tax advisors for any detailed information regarding this.

Note: Investors should read all information in the scheme information document.

Takeaway

Investors invest their hard-earned money into mutual fund schemes while seeking potential returns. However, for any investment, one should understand its dynamics in detail before investing. Mutual fund prospectus seeks to help investors understand the scheme in detail. The factors mentioned above seek to help investors understand some crucial elements of a mutual fund prospectus. However, investors should consult their investment advisor before making any investment.