Mutual Fund – AHSEC Class 12 Finance Chapter 16

Here is a comprehensive study note for the AHSEC Class 12 Finance textbook, focusing on Chapter 16: Mutual Fund.

Chapter 16: Mutual Fund – Summary Note

This chapter introduces Mutual Funds, a popular investment vehicle that pools money from many investors to invest in a diversified portfolio of securities like stocks and bonds.

• Meaning of Mutual Fund:
  • A mutual fund is a collective investment created through contributions from a large number of small savers.
  • It is an investment vehicle where a fund manager pools the money to invest in a diversified portfolio of shares, debentures, and other securities.
  • The fund is divided into equal portions called units. The value of each unit is determined by its Net Asset Value (NAV).
  • NAV is calculated as: (Total value of a scheme’s assets – Total liabilities) / Total number of outstanding units.
• Parties Involved in a Mutual Fund:
  • Sponsor: The entity that establishes the mutual fund.
  • Trustee: Holds the fund’s property in trust for the benefit of the unitholders.
  • Asset Management Company (AMC): Manages the investments of the fund.
  • Custodian: Holds the securities of the fund in its safe custody.
  • Beneficial Owner (Investors): The individuals or institutions who own the units of the fund.
• Classification of Mutual Funds:
  1. On the basis of Execution or Operation:
     • Closed-ended Funds: Have a fixed fund size (corpus) and a fixed maturity period. Units are issued once during the New Fund Offer (NFO) and can be redeemed only at maturity. They are traded on stock exchanges like shares.
     • Open-ended Funds: Do not have a fixed fund size or maturity. Investors can buy (enter) or sell (exit) units at any time directly from the AMC at the current NAV.
     • Interval Funds: Combine features of both. They are open for purchase or redemption only during specific, pre-defined intervals.
  2. On the basis of Yield and Investment Pattern:
     • Growth-oriented Fund: Aims for capital appreciation. Income generated is reinvested in the fund instead of being distributed to investors.
     • Income-oriented Fund: Aims to provide regular income to investors by distributing the profits as dividends.
     • Balanced Fund: Invests in a mix of both equities (for growth) and debt instruments (for income) to provide a balance of risk and return.
     • Stock (Equity) Fund: Invests primarily in stocks of various companies.
     • Money Market Mutual Fund (MMMF): Invests in short-term money market instruments like treasury bills and commercial papers.
• Benefits of Investing in a Mutual Fund:
  1. Liquidity: Open-ended funds can be sold back to the AMC anytime, and closed-ended funds can be sold on the stock exchange, providing easy liquidity.
  2. Risk Diversification: By investing in a wide range of securities across different companies and sectors, mutual funds reduce the overall risk of investment.
  3. Professional Management: Funds are managed by experienced and skilled professionals who have expertise in portfolio management.
  4. Convenience: Investing is simple and involves less paperwork compared to direct stock investing.
  5. Less Costly: Due to the large scale of investment, costs like brokerage and other fees are spread out, making it cheaper for individual investors.
  6. Tax Benefit: Certain schemes, like Equity-Linked Savings Schemes (ELSS), offer tax deductions under the Income Tax Act.

Complete Textual Question Answers

Here are the answers to all the questions given at the end of Chapter 16.

A. Very Short Answer Questions (1 Mark each)

1. Write the full form of SIP.
   Ans: The full form of SIP is Systematic Investment Plan.
2. Write the first Mutual Fund institution of India?
   Ans: The first Mutual Fund institution of India was the Unit Trust of India (UTI).
3. In which year the UTI was established?
   Ans: The UTI was established in the year 1964 (following the UTI Act of 1963).
4. Write the full form of NAV.
   Ans: The full form of NAV is Net Asset Value.

B. Short Answer Questions (2 Marks each)

1. What is growth-oriented mutual fund?
   Ans: A growth-oriented mutual fund is a scheme where the primary objective is capital appreciation. The income generated by the fund’s investments is not distributed to the unitholders as dividends but is reinvested back into the fund, causing the NAV to grow.
2. Explain stock mutual fund.
   Ans: A stock mutual fund, also known as an equity fund, is a type of mutual fund that invests primarily in the shares (stocks) of different companies. These funds are suitable for investors who are willing to take on higher risk for the potential of higher returns through capital appreciation.
3. What is MMMF?
   Ans: MMMF stands for Money Market Mutual Fund. It is a scheme that invests in short-term, highly liquid money market instruments such as treasury bills, certificates of deposit, and commercial papers.
4. Explain how NAV is calculated?
   Ans: NAV (Net Asset Value) is the market value per unit of a mutual fund. It is calculated by taking the total market value of all the assets in a scheme, subtracting its total liabilities, and then dividing the result by the total number of outstanding units.
   Formula: NAV = (Total Assets – Total Liabilities) / Total number of units.
5. What are the Units of mutual fund?
   Ans: A mutual fund’s total capital (corpus) is divided into equal portions of a small denomination, and each such portion is called a unit. Investors buy these units, and the value of each unit is represented by the fund’s Net Asset Value (NAV).
6. What are the various parties involved in Mutual fund?
   Ans: The various parties involved in a mutual fund include: (i) the Sponsor, (ii) the Trustee, (iii) the Asset Management Company (AMC), (iv) the Custodian, and (v) the Beneficial Owners (Investors).

C. Long Answer Questions (Type-1) (5 Marks each)

1. Distinguish between Open-ended and Closed-ended mutual fund.
   Ans: The key differences between Open-ended and Closed-ended mutual funds are:
   • Nature of Scheme: An open-ended scheme remains open for investors to buy or sell units at any time. A closed-ended scheme is open for investment only for a specific period (NFO), after which it is closed.
   • Corpus (Fund Size): The size of the corpus in an open-ended fund is not fixed and changes as investors buy or sell units. In a closed-ended fund, the corpus is fixed once the initial offer period is over.
   • Liquidity: Open-ended funds are highly liquid as investors can sell their units back to the AMC at any time at the current NAV. Closed-ended funds are not fully liquid; investors can exit only by selling their units on a stock exchange, or at maturity.
   • Listing on Stock Exchange: Units of open-ended funds are not listed on a stock exchange. Units of closed-ended funds are listed and traded on a stock exchange like shares.
   • Purchase of Units: In an open-ended fund, units are available for purchase at any point in time. In a closed-ended fund, units are not available for purchase after the initial offer period closes.
2. Write the benefits of investing in mutual funds.
   Ans: The benefits of investing in mutual funds are:
   • Liquidity: Mutual funds provide easy liquidity. Open-ended funds can be redeemed anytime with the AMC, and closed-ended funds can be sold on the stock exchange.
   • Risk Diversification: Funds invest in a portfolio of many different securities. This diversification spreads the risk, so the poor performance of one stock does not drastically affect the entire investment.
   • Professional Management: Investments are managed by experienced and skilled professional fund managers who have in-depth knowledge of the market.
   • Convenience: Investing in a mutual fund is very simple and involves minimal paperwork, making it convenient for small investors.
   • Less Costly: Due to the large scale of transactions, the cost per investor (like brokerage fees) is much lower than it would be for an individual investing directly in the market.
3. Explain various types of Mutual fund on the basis of Operation or Execution.
   Ans: On the basis of operation or execution, mutual funds are of three types:
   • Closed-ended funds: Under this scheme, the size of the fund (corpus) and its life are pre-fixed. The fund issues a fixed number of units during a New Fund Offer (NFO). Once the NFO closes, no new units can be created. Investors can exit the fund before maturity only by selling their units on a stock exchange where they are listed.
   • Open-ended funds: Under this scheme, the fund size and investment period are not fixed. The fund is perpetually open for investors to buy or sell units directly from the Asset Management Company (AMC) at the prevailing Net Asset Value (NAV). This provides high liquidity to the investors.
   • Interval funds: These funds combine the features of both open-ended and closed-ended schemes. They are open for purchase or redemption only during specific, pre-defined intervals (e.g., once a quarter or once a year) and are closed for the rest of the time. Their units are also traded on the stock exchange.

D. Long Answer Questions (Type-2) (8 Marks each)

1. Explain various types of Mutual fund on the basis of Investment pattern.Ans: On the basis of investment pattern and objectives, mutual funds can be classified as follows:
   • Growth-oriented Fund: The main objective is capital appreciation over the long term. It invests primarily in equity stocks. Profits are reinvested back into the fund, causing the NAV to grow. It is suitable for investors with a long-term investment horizon.
   • Income-oriented Fund: The main objective is to provide regular income to investors. It invests in fixed-income securities like debentures and bonds. Profits are distributed to unitholders in the form of dividends. It is suitable for risk-averse investors like retirees.
   • Balanced mutual fund: This fund invests in a mix of both equities and fixed-income instruments. It aims to provide both capital growth and regular income, thus balancing the risk and return.
   • Stock (Equity) fund: This fund invests in the securities of different companies, ranging from highly-rated blue-chip companies to newly established ones. It carries a higher risk but also has the potential for higher returns.
   • Leverage fund: This fund combines its own capital with borrowed funds to invest in speculative stocks, aiming for higher profits. The higher leverage also means higher risk.
   • Tax relief fund (ELSS): Also known as Equity-Linked Savings Schemes, these are closed-end funds that invest in equities and offer tax deductions to investors under the Income Tax Act, 1961. They have a mandatory lock-in period of three years.
   • Money Market Mutual Fund (MMMF): This fund invests in short-term, safe, and liquid money market instruments like treasury bills and commercial papers. It is a low-risk investment option.

Previous Year AHSEC Question Answers (2015-2025)

Short Questions (1-2 Marks)

• What is a Mutual Fund? (AHSEC 2015, 2019)
  Ans: A mutual fund is a collective investment vehicle that pools money from many investors to invest in a diversified portfolio of securities like shares and bonds, managed by a professional fund manager.
• Write the full form of NAV. (AHSEC 2016)
  Ans: The full form of NAV is Net Asset Value.
• What is a closed-ended mutual fund? (AHSEC 2017)
  Ans: A closed-ended mutual fund has a fixed number of units and a fixed maturity period. Investors can buy units only during the initial offer and can exit by selling the units on a stock exchange.
• Mention two benefits of investing in a mutual fund. (AHSEC 2018, 2022)
  Ans: Two benefits are: (i) Risk Diversification, as the investment is spread across many securities, and (ii) Professional Management, as the funds are managed by expert fund managers.
• What is an open-ended mutual fund? (AHSEC 2020)
  Ans: An open-ended mutual fund is a fund that is always open for investors to buy or sell units directly from the fund house (AMC) at the current Net Asset Value (NAV).

Long Questions (5-8 Marks)

• Explain the benefits of investing in mutual funds. (AHSEC 2017)
  Ans: (This answer is the same as the textual Long Answer Question C.2. Please refer to that answer above).
• Distinguish between open-ended and closed-ended mutual funds. (AHSEC 2018, 2021)
  Ans: (This answer is the same as the textual Long Answer Question C.1. Please refer to that answer above, using a table for clarity).

10 Most Important Questions

1. What is the role of an Asset Management Company (AMC) in a mutual fund?
   Ans: The AMC is the entity responsible for managing the investments of the mutual fund. Its professional fund managers make the decisions on which securities to buy, hold, or sell to achieve the fund’s objectives.
2. What is a Systematic Investment Plan (SIP)?
   Ans: A Systematic Investment Plan (SIP) is a facility offered by mutual funds where an investor can invest a fixed amount of money at regular intervals (e.g., monthly) in a chosen scheme, promoting a disciplined investment habit.
3. What is the difference between a growth fund and an income fund?
   Ans: A growth fund aims for capital appreciation by reinvesting its earnings, making it suitable for long-term wealth creation. An income fund aims to provide regular income by distributing its earnings as dividends, making it suitable for investors seeking regular cash flow.
4. Why are closed-ended funds traded on a stock exchange?
   Ans: Closed-ended funds are traded on a stock exchange to provide liquidity to investors. Since investors cannot redeem their units directly from the fund before maturity, the stock exchange provides a platform for them to sell their units to other investors.
5. What is a ‘lock-in period’ in the context of a tax relief fund (ELSS)?
   Ans: A lock-in period is a mandatory period during which an investor cannot redeem or sell their investment. For tax relief funds (ELSS), the lock-in period is three years, which is the shortest among all tax-saving investment options.
6. How does a mutual fund provide diversification?
   Ans: A mutual fund provides diversification by investing its pooled money in a wide variety of securities across different companies, sectors, and asset classes. This ensures that the investment is not dependent on the performance of a single security, thereby reducing risk.
7. Who is a ‘Trustee’ in a mutual fund structure?
   Ans: The Trustees are responsible for protecting the interests of the unitholders. They hold the assets of the fund in trust and ensure that the AMC manages the fund in accordance with the regulations and the stated objectives.
8. What is a Balanced Fund?
   Ans: A balanced fund (or hybrid fund) is a mutual fund that invests in a mix of both equity (stocks) and debt instruments (bonds). It seeks to provide a balance between growth (from equities) and income/stability (from debt).
9. Why is the NAV of a mutual fund calculated daily?
   Ans: The NAV is calculated daily because the market value of the underlying stocks and bonds in the fund’s portfolio changes every day with market movements. A daily NAV provides the current and fair price at which investors can buy or sell units.
10. Who was the first private sector mutual fund in India?
    Ans: The first private sector mutual fund in India was Kothari Pioneer, which launched its scheme in 1993.