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Fund of Funds - The investment gift hamper

By Aayush Upadhyay

2nd May 2022

3 mins read

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Supermarkets are a psychology game. The first things that catch your eye (and for a good reason) are the plethora of “combos”--You get the best of all the worlds, and there exists a better value for money tangent.

This bliss should exist in the finance world, and well, no surprise, it does. Let’s explore Fund of Funds in this blog.

What is an FoF?

A Fund of Fund is a multi-manager pooled investment that, in turn, invests into other such pooled investments or funds. Unlike other mutual fund schemes, its portfolio might not contain equities, debts, or commodities directly but the strategies or funds that, in turn, invest in these assets.

How does a FoF work?

Fund of Funds is to mutual funds as mutual funds are to various asset classes. The fund managers utilise their skills and experience to invest in multiple available funds to achieve the fund's target.

Classification of FoFs

The Fund of Funds can be classified based on the constituent funds from the same or different AMCs.

  • Unfettered FOFs:

Unfettered FOFs include funds from various AMCs to achieve the FOFs' goal, i.e., the fund manager can invest in funds managed by other fund houses.

  • Fettered FOFs:

Fettered FOFs, on the other hand, involve funds from the same fund house.

Types of FoFs

There are various types of funds depending upon their investment scheme and objectives.

  • Asset Allocation or Resource Allocation Funds

These funds invest in a varied class of assets. These assets can be equity-oriented, debt-oriented, or assets classes like commodities.

  • Gold Funds

These funds invest in everything gold, i.e., gold ETFs, bonds, physical gold, and even gold mining companies.

  • Foreign or International Fund of Funds

These funds invest in mutual funds comprising foreign bonds or equities. The held mutual funds may be domestic or global.

Who should invest in an FoF?

The elephant in the room still is whether or not you should invest in an FoF? Since investing is a thing that significantly differs from one person to another, it wouldn't be a wise thing to give or imply any investment suggestion via a blog. However, here are a few things an investor might consider to gauge whether or not FoF is meant for them.

  • One who wants diversification

Although ordinary mutual funds offer an ample amount of diversification to one's portfolio, these often are sector-specific or theme-specific. What FoF does is that it further diversifies the portfolio by the inclusion of mutual funds targeting various themes and sectors.

  • One with less capital

These funds provide a good diversification of assets. It allows someone with limited capital to take advantage of many funds at once, which wouldn't have been possible otherwise.

  • One with a lower risk appetite

Another implication of diversification can be seen in the lowering of the risk profile of the investment. These funds can be a blessing for the rookies who wish to enter the market but neither have enough funds nor the experience to pick stocks and funds.

  • One who doesn't want the hassle

Multiple funds often become a headache to manage, and tracking their individual NAVs and returns is another nightmare. The FoFs solve this by providing the investor with a single NAV and thus a single return figure.

  • One who doesn't love the IT website

Filing your ITRs can be the most tedious part of the financial year, and often the pain seems to outweigh all the capital gains. When FoFs perform rebalancing to maintain the said allocation, there are no tax implications on the capital gains that arise in the process, thus providing some tax relief.

Downsides to FoFs

"Would have been so good if all that existed was good."

-The Guy writing this blog

FoFs seem to be a golden investment opportunity till now. Well, they are, but one must not forget to consider the arguments against these funds. Here are a few.

  • Too much diversification

These funds diversify the investment to an extent where it almost becomes impossible to reap massive gains in case of a sectoral growth in the market.

  • Overlapping of assets

Mutual funds strive to deliver maximum returns to the investor while staying aligned with the fund's objectives. This often results in funds investing heavily in particular companies due to their reputation or prospects. This kind of defeats the purpose of these funds.

  • Higher Expense Ratios

The biggest deal-breaker for an FoF has to be the massive expense ratio to be paid. Additional to the expense ratio directly to be paid to the fund house, the investor must also pay expense ratios corresponding to the underlying schemes.

This was some information on the financial hamper called Fund of Funds. We will be back with another blog with some more finformation.

Till Then, Stay Safe! Invest Safer!

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Made with ❤️ in India