1. What is Fund of Funds?
A mutual fund scheme that invests in other mutual fund schemes, Fund of Funds offer tax friendly rebalancing of your portfolio. The Fund of Funds that are offered in India belongs to the same fund house. The strategy is to invest in a portfolio that consists of underlying assets rather than directly investing in stocks and bonds and other securities. By broadly diversifying the asset allocation in a variety of fund categories, these allow you a good exposure without very high risk.
2. Who should invest in Fund of Funds?
Fund of Funds is a good bet for small investors who do not wish to take too much risk. The diversification of funds helps with reducing the risks to a certain extent. This is also a great medium of investment for an investor with small amounts of funds available for investment each month.
3. Most sought-after Fund of Funds in India
Of the many fund of funds available in India, the four most sought-after FoFs include:
a) Asset Allocation Funds
Asset allocation funds are mutual funds that invest in a varied class of assets. These assets range from equity-oriented, debt-oriented or even other asset classes like gold, other metals, and commodities. Visit ClearTax for more information on Asset Allocation Investment options.
b) Gold Funds
These funds invest in various forms of gold, be it in the form of physical gold or in the form of stocks of gold mining companies.
c) Foreign or International Fund of Funds
International funds are investments in mutual funds comprising bonds and stocks of international companies.
d) Multi-manager Fund of Funds
A multi-manager fund is one that comprises of many professionally managed funds but is a single portfolio.
4. Things to consider as an investor
Fund of Funds relies on the principle of deriving the maximum benefit out of single but diversified investment plans. As an informed investor you must weigh the pros and cons of this scheme before making any investment decision. Select an experienced fund manager and know your risk tolerance, transactional timelines, tax implications, etc. Listed below are some of the benefits and drawbacks of investing in Fund of Funds that one should be mindful of.
5. Advantages of Investing in Fund of Funds
If you wish to rebalance your assets, there will be no tax on capital gains for this internal transaction. Therefore, when your Fund of Funds is rebalanced to maintain a said allocation between debt and equity there will be no tax on capital gains.
b. Ease of Handling
There is just one NAV to track and just one folio. This makes it easy to handle the reduced number of funds that require managing.
c. Professional Fund Management Services
Investing in Fund of Funds allows you to try out investing in professionally managed funds before they can venture out on investing individually.
d. The Credibility of Portfolio Managers
As Fund of Funds requires the backgrounds of its managers to be checked and verified, you can be assured that your funds are handled by a credible person.
e. Opportunity for investors with limited capital
Fund of Funds allows investors who possess only limited capital to partake in diversified that have underlying assets. These assets would otherwise be hard for such investors to access individually.
6. Disadvantages of Investing in Fund of Funds
a. High Expense Ratio
Fund of Funds incurs expenses just like any other mutual fund schemes. But unlike mutual funds, there is extra cost involved. Apart from the usual management and administrative costs, there is an added expense pertaining to the underlying funds. Despite the FoF expense ratio being just 1%, as an investor, you will still pay this amount on every fund that the FoF owns.
b. Tax implications
If you get a dividend in excess of INR 10 lakh, there is an income tax of 10 percent
c. Too much diversification
Fund of Funds invests in many funds which further invest in a number of securities. This gives rise to the possibility of the Fund of Funds ending up owning the same stocks and securities through different funds. This reduces the potential for diversification.
Fund of Funds can be a good investment choice for an investor with limited experience and limited funds. Fund of Funds like mutual funds are subject to market risk and therefore mandate the investor acquaint him/herself with the market risks and the strategies of investment.
Not sure if Fund of Funds is the right fit for you? Visit ClearTax for the option of choosing from a mix of hand-picked funds tailored to meet your investing needs.