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Mutual funds must now toe the line


Sebi has recently moved to correct two HUGE problems with mutual fund offers in India.

1) MF Issue Expenses: Earlier, Mutual Funds used to charge upto 6% of the collections of a “New Fund Offer” (NFO) to the investors as “Initial Marketing Expenses”. And then, they could spread this over Five Years. This means that of every Rs. 1000 you invest in an NFO , upto Rs. 60 could be spent as issue expenses – and this could be spread out as Rs. 12 per year for five years!

What this really means is that if you invested the same amount of money in a fund that was over five years old, your return would be greater than investing in an NFO!

The biggest losers would usually be the BIG investors. The guys who put in 10 crores into an NFO have ZERO entry load. They then exit immediately after the NFO with even small gains – remember a 1% gain is equal to 10 lakhs (for investment of 10 crores). So the issue expenses – that is upto 60 lakhs (6% of that 10 crore) – will be borne by the small investor who put in around Rs. 10,000 or so in the fund, for the next five years!

Sebi has balanced this by proposing that all NFOs should cover the Initial Marketing Expenses by either charging the amount as entry load, or absorbing the cost without passing it to the investor. That means Asset Management Companies (AMCs) who are basically the people behind the fund cannot amortise costs across five years and have to charge it initially only. Great stuff: means you are not at a disadvantage compared to older funds and bigger investors.

2) Dividend payment abuse: Mutual Funds put HUGE advertisements saying “50% dividend” etc. This excites investors thinking that if I put in Rs. 1,000, I will get Rs. 500 back immediately, and then I still have Rs. 1,000 in the fund! Fantastic, right?


Mutual Funds are just a collected investment. So the current “NAV” – Net Asset Value – is simply equal to Total Value of Investments plus Cash, Divided by Total Number of Units. This means that if they pay out dividend today, then that much cash is less tomorrow and therefore the NAV will FALL to the extent of the dividend paid.

This simply means that if you had a Mutual Fund Unit whose NAV was Rs. 15 today, and you got a Rs. 5 dividend per unit, tomorrow the NAV will be Rs. 10. Net value is the same, whether they pay dividend or not.

SEBI now will make it mandatory to specify that such fall in NAV will take place. Secondly, MFs cannot announce dividends more than five days before they actually pay. That means announcements like this (Tata Mutual Fund announcing a dividend for April 12 on March 27) will no longer be legal, so it reduces the amount of “dividend greed” investments.

Happy Investing! A new financial year has started, and considering the above two announcements, on a good regulatory note!


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