Investing in mutual funds has become a popular way for individuals to grow their wealth in India. However, with so many options available, it can be overwhelming to choose the right mutual fund for your investment goals. This is where a fund of funds (FoF) comes in.
What is a Fund of Funds?
A fund of funds is a type of mutual fund that invests in other mutual funds instead of investing directly in stocks, bonds, or other securities. In other words, it is a mutual fund that invests in other mutual funds.
The main objective of a fund of funds is to provide diversification to investors by investing in a variety of mutual funds across different asset classes, sectors, and geographies. This helps to reduce the risk of the portfolio and increase the potential for returns.
How Does a Fund of Funds Work?
A fund of funds works by pooling money from investors and investing it in a portfolio of other mutual funds. The fund manager of the FoF selects the mutual funds to invest in based on the investment objective of the FoF and the performance of the underlying mutual funds.
For example, if the investment objective of an FoF is to invest in equity mutual funds, the fund manager will select a portfolio of equity mutual funds that have a track record of delivering good returns. Similarly, if the investment objective is to invest in debt mutual funds, the fund manager will select a portfolio of debt mutual funds that have a track record of delivering good returns.
The FoF charges a management fee for managing the portfolio of mutual funds. This fee is in addition to the management fee charged by the underlying mutual funds. The total expense ratio (TER) of an FoF is higher than that of a regular mutual fund due to the additional management fee.
Advantages of Investing in a Fund of Funds
There are several advantages of investing in a fund of funds:
- Diversification: A FoF provides diversification by investing in a variety of mutual funds across different asset classes, sectors, and geographies. This helps to reduce the risk of the portfolio and increase the potential for returns.
- Professional Management: The fund manager of the FoF is responsible for selecting the mutual funds to invest in and managing the portfolio. This takes the burden of selecting and managing mutual funds off the investor.
- Convenience: Investing in an FoF is convenient as the investor only needs to invest in one mutual fund instead of investing in multiple mutual funds.
Disadvantages of Investing in a Fund of Funds
There are also some disadvantages of investing in a fund of funds:
- Higher Expense Ratio: The total expense ratio (TER) of an FoF is higher than that of a regular mutual fund due to the additional management fee.
- Double Taxation: Since an FoF invests in other mutual funds, the investor may be subject to double taxation on the dividends received from the underlying mutual funds.
- Limited Control: The investor has limited control over the selection of the underlying mutual funds and the management of the portfolio.
Types of Fund of Funds
There are different types of fund of funds based on the underlying mutual funds:
- Equity Fund of Funds: A FoF that invests in a portfolio of equity mutual funds.
- Debt Fund of Funds: A FoF that invests in a portfolio of debt mutual funds.
- Hybrid Fund of Funds: A FoF that invests in a portfolio of equity and debt mutual funds.
- International Fund of Funds: A FoF that invests in a portfolio of international mutual funds.
Examples of Fund of Funds in India
There are several funds of funds available in India:
- HDFC Fund of Funds: HDFC Fund of Funds invests in a portfolio of other HDFC mutual funds across different asset classes and sectors.
- ICICI Prudential Fund of Funds: ICICI Prudential Fund of Funds invests in a portfolio of other ICICI Prudential mutual funds across different asset classes and sectors.
- Aditya Birla Sun Life Fund of Funds: Aditya Birla Sun Life Fund of Funds invests in a portfolio of other Aditya Birla Sun Life mutual funds across different asset classes and sectors.
Conclusion
A fund of funds provides diversification to investors by investing in a variety of mutual funds across different asset classes, sectors, and geographies. While there are advantages to investing in a FoF, there are also some disadvantages such as higher expense ratio and limited control. It is important for investors to understand the pros and cons of investing in a FoF before making a decision.
