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ContentsContents ...............................................................................................................................1
Chapter # 1 ..........................................................................................................................2Introduction to Mutual Fund ...............................................................................................21.1History ............................................................................................................................31.2 Working of Mutual Fund ..............................................................................................41.3 Ten Largest Mutual Fund Companies by Assets ..........................................................51.4 Types of mutual fund schemes .....................................................................................6
1.4.1 Open-ended schemes ..............................................................................................61.4.2 Close-ended schemes .............................................................................................7
1.5 Methodology of Investment in Mutual Funds ..............................................................81.5.2 Measurement ..........................................................................................................91.5.3 Active Management ...............................................................................................9
1.5.4 Passive Management ..............................................................................................91.5.5 Investment Strategy ................................................................................................91.6 Frequently used terms .................................................................................................10
1.6.1Net Asset Value (NAV) ........................................................................................101.6.2 Sale Price .............................................................................................................10
1.6.3 Repurchase Price .................................................................................................101.8 Advantages of Mutual Funds ......................................................................................11
1.8.1 Professional Management ...................................................................................111.8.2 Diversification ......................................................................................................121.8.3 Convenient Administration ..................................................................................121.8.4 Return Potential ....................................................................................................12
1.8.5 Low Costs .............................................................................................................121.8.6 Liquidity ...............................................................................................................131.8.7 Transparency ........................................................................................................131.8.8 Flexibility ............................................................................................................131.8.9 Affordability .........................................................................................................13
1.9 Disadvantages of mutual funds ...................................................................................141.9.1 No assured returns and no protection of capital ..................................................141.9.2 Restrictive gains ...................................................................................................141.9.3 Taxes .....................................................................................................................151.9.4 Management risk ..................................................................................................15
Chapter # 2 ........................................................................................................................15Mutual Fund in Pakistan ...................................................................................................152.1 History of Mutual fund in Pakistan .............................................................................152.2 Mutual Fund Companies in Pakistan ..........................................................................17
2.4.1 Money Market Fund .............................................................................................182.4.2 Income Funds ......................................................................................................192.4.3 Income and Growth Funds ..................................................................................202.4.4 Growth and Income Funds ..................................................................................202.4.5 Balanced Funds ...................................................................................................21
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2.4.6 Growth Funds ......................................................................................................212.4.7 Index Funds .........................................................................................................212.4.8 Sector Funds ........................................................................................................222.4.9 Specialized Funds ................................................................................................222.4.10 Islamic Funds ....................................................................................................23
2.5 Al-Meezan Investment Management Limited ............................................................232.5.1Closed End Funds .................................................................................................242.5.1.1 Al Meezan Mutual Fund ...............................................................................24
2.5.2 Open ended Fund .................................................................................................252.5.2.1 Meezan Islamic Fund ....................................................................................252.5.2.2 Meezan Islamic Income Fund .......................................................................27
2.6 Mutual Funds: an enormous but untapped market in Pakistan ..................................292.6.1 Mutual funds industry growth in Pakistan down 5pc ..........................................30
2.7 Key Players .................................................................................................................31Chapter # 3 ........................................................................................................................34Risks and Mutual Fund .....................................................................................................34
3.1 Business risk ................................................................................................................343.1.1 Management Risk .................................................................................................343.1.2 Credit Risk ............................................................................................................34
3.2 Market Risks ..............................................................................................................343.2.1 Interest Rate Risk ................................................................................................353.2.2 Inflation Risk ........................................................................................................353.2.3 Currency Risk .......................................................................................................353.2.4 Liquidity Risk .......................................................................................................363.2.5 Country Risk ........................................................................................................363.2.6 Legal Remedies Risk ............................................................................................36
3.3 Risks in Mutual Fund Investing .................................................................................373.3.1 Low-Level Risks ..................................................................................................373.3.2 Moderate-Level Risks .........................................................................................37
3.4 Measuring Risk ..........................................................................................................39Conclusions .......................................................................................................................40Recommendations .............................................................................................................41
Chapter # 1
Introduction to Mutual FundA Mutual Fund is a trust that pools the savings of a number of investors who share a
common financial goal. The money thus collected is then invested in capital market
instruments such as shares, debentures and other securities
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1.1HistoryThe history of mutual fund dates back to 19th century when the process of pooling
money for investing purposes started in Europe in 1868. Similar practices are reported
even in the time of Egyptian and Phoenicians when they tried to minimize their risk by
selling shares to caravans and vessels
Mutual funds first became popular in the United States in the 1920s. The first funds
were of the closed-end type with shares that trade on an exchange. The first open-end
mutual fund, the Massachusetts Investors Trust was established on March 21, 1924. It is
now part of theMFS family of funds. This was the first fund with redeemable shares.
However, closed-end funds remained more popular than open-end funds throughout the
1920s. By 1929, open-end funds accounted for only 5% of the industry's $27 billion in
total assets.
After the stock market crash of 1929, Congress passed a series of acts regulating the
securities markets in general and mutual funds in particular. TheSecurities Act of 1933
requires that all investments sold to the public, including mutual funds, be registered
with the Securities and Exchange Commission (SEC) and that they provide prospective
investors with a prospectus that discloses essential facts about the investment. The
Securities and Exchange Act of 1934 requires that issuers of securities, including mutual
funds, report regularly to their investors; this act also created the Securities andExchange Commission, which is the principal regulator of mutual funds. The Revenue
Act of 1936 established guidelines for the taxation of mutual funds, while the
Investment Company Act of 1940 governs their structure.
When confidence in the stock market returned in the 1950s, the mutual fund industry
began to grow again. By 1970, there were approximately 360 funds with $48 billion in
assets. The introduction of money market funds in the high interest rate environment of
the late 1970s boosted industry growth dramatically. The first retail index fund, First
Index Investment Trust, was formed in 1976 by The Vanguard Group, headed by John
Bogle; it is now called the Vanguard 500 Index Fund and is one of the world's largest
mutual funds, with more than $100 billion in assets as of January 31, 2011.
Fund industry growth continued into the 1980s and 1990s, as a result of three factors: a
bull market for both stocks and bonds, new product introductions (includingtax-exempt
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bond, sector, international and target date funds) and wider distribution of fund shares.
Among the new distribution channels were retirement plans. Mutual funds are now the
preferred investment option in certain types of fast-growing retirement plans,
specifically in 401(k) and otherdefined contribution plans and inindividual retirement
accounts (IRAs), all of which surged in popularity in the 1980s. Total mutual fund
assets fell in 2008 as a result of the credit crisis of 2008.
At the end of December 2009, there were 7,691 mutual funds in the United States with
combined assets of $11.121 trillion, according to the Investment Company Institute
(ICI), a national trade association of investment companies in the United States. The ICI
reports that worldwide mutual fund assets were $22.964 trillion on the same date.
1.2 Working of Mutual FundA mutual fund is managed by a management company. The management company is a
bank of human resources, considered to be professionally qualified personnel. The
portfolio of mutual fund is managed by a" Portfolio Manager, whose
responsibility is to be invested in, and satisfies the desire of the investors. While
selecting the securities for investment, these managers analyze economic conditions,
industry trends, government regulations and their impact on the stocks, and forecasts
for the specific stocks to the project the future outcome generated by the
companies. As we all know that the economic and business condition do not remain
constant, so these managers also revise their portfolio with the passage of time, as the
circumstances demand
The income earned through these investments and the capital appreciation realized is
shared by its unit holders in proportion to the number of units owned by them. Thus a
Mutual Fund is the most suitable investment for the common man as it offers an
opportunity to invest in a diversified, professionally managed basket of securities at a
relatively low cost. The flow chart below describes broadly the working of a mutual
fund:-
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Savings form an important part of the economy of any nation. With savings invested in
various options available to the people, the money acts as the driver for growth of the
country. Indian financial scene too presents multiple avenues to the investors. Though
certainly not the best or deepest of markets in the world, it has ignited the growth rate in
mutual fund industry to provide reasonable options for an ordinary man to invest his
savings.
Investment goals vary from person to person. While somebody wants security, others
might give more weightage to returns alone. Somebody else might want to plan for his
childs education while somebody might be saving for the proverbial rainy day or even
life after retirement. With objectives defying any range, it is obvious that the products
required will vary as well.
1.3 Ten Largest Mutual Fund Companies by Assets
This data is taken from 2008
S.N Mutual Fund Company Assets Under Management (AUM)
1 The Vanguard Group $957 Billion
2 American Funds $931.5 Billion
3 Fidelity $717 Billion
4 Barclays Global Investors $287 Billion
5 Franklin Templeton Investments $256.7 Billion
6 Pimco Funds $218.7 Billion
7 T Rowe Price Investments $192.1 Billion
8 State Street Global Investors $176.8 Billion
9 Oppenheimer Funds $129.9 Billion
10 Dodge & Cox $118.2 Billion
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1.4 Types of mutual fund schemes
A wide variety of Mutual Fund Schemes exist to cater to the needs such as financial
position, risk tolerance and return expectations etc. Two types of Mutual fund schemes
is given below
1.4.1 Open-ended schemes
Open-ended or open mutual funds are much more common than closed-ended funds and
meet the true definition of a mutual fund a financial intermediary that allows a group
of investors to pool their money together to meet an investment objective to make
money! An individual or team of professional money managers manage the pooled
assets and choose investments, which create the funds portfolio. They are established
by a fund sponsor, usually a mutual fund company, and valued by the fund company or
an outside agent. This means that the funds portfolio is valued at "fair market" value,
which is the closing market value for listed public securities. An open-ended fund can
be freely sold and repurchased by investors.
1.4.1.1 Buying and Selling
Open funds sell and redeem shares at any time directly to shareholders. To make an
investment, you purchase a number of shares through a representative, or if you have an
account with the investment firm, you can buy online, or send a check. The price you
pay per share will be based on the funds net asset value as determined by the mutual
fund company. Open funds have no time duration, and can be purchased or redeemed at
any time, but not on the stock market. An open fund issues and redeems shares on
demand, whenever investors put money into the fund or take it out. Since this happens
routinely every day, total assets of the fund grow and shrink as money flows in and out
daily. The more investors buy a fund, the more shares there will be. There's no limit tothe number of shares the fund can issue. Nor is the value of each individual share
affected by the number outstanding, because net asset value is determined solely by the
change in prices of the stocks or bonds the fund owns, not the size of the fund itself.
Some open-ended funds charge an entry load (i.e., a sales charge), usually a percentage
of the net asset value, which is deducted from the amount invested.
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1.4.1.2 Advantages
Open funds are much more flexible and provide instant liquidity as funds sell shares
daily. You will generally get a redemption (sell) request processed promptly, and
receive your proceeds by check in 3-4 days. A majority of open mutual funds also allow
transferring among various funds of the same family without charging any fees. Open
funds range in risk depending on their investment strategies and objectives, but still
provide flexibility and the benefit of diversified investments, allowing your assets to be
allocated among many different types of holdings. Diversifying your investment is key
because your assets are not impacted by the fluctuation price of only one stock. If a
stock in the fund drops in value, it may not impact your total investment as another
holding in the fund may be up. But, if you have all of your assets in that one stock, and
it takes a dive, youre likely to feel a more considerable loss.
1.4.1.3 Risks
Risk depends on the quality and the kind of portfolio you invest in. One unique risk to
open funds is that they may be subject to inflows at one time or sudden redemptions,
which leads to a spurt or a fall in the portfolio value, thus affecting your returns. Also,
some funds invest in certain sectors or industries in which the value of the in the
portfolio can fluctuate due to various market forces, thus affecting the returns of the
fund.
1.4.2 Close-ended schemes
Close-ended or closed mutual funds are really financial securities that are traded on the
stock market. Similar to a company, a closed-ended fund issues a fixed number of
shares in an initial public offering, which trade on an exchange. Share prices are
determined not by the total net asset value (NAV), but by investor demand. A sponsor,either a mutual fund company or investment dealer, will raise funds through a process
commonly known as underwriting to create a fund with specific investment objectives.
The fund retains an investment manager to manage the fund assets in the manner
specified.
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1.4.2.1 Buying and Selling
Unlike standard mutual funds, you cannot simply mail a check and buy closed fund
shares at the calculated net asset value price. Shares are purchased in the open market
similar to stocks. Information regarding prices and net asset values are listed on stock
exchanges, however, liquidity is very poor. The time to buy closed funds is immediately
after they are issued. Often the share price drops below the net asset value, thus selling
at a discount. A minimum investment of as much as $5000 may apply, and unlike the
more common open funds discussed below, there is typically a five-year commitment.
1.4.2.2 Advantages
The prospect of buying closed funds at a discount makes them appealing to experienced
investors. The discount is the difference between the market price of the closed-end
fund and its total net asset value. As the stocks in the fund increase in value, the
discount usually decreases and becomes a premium instead. Savvy investors search for
closed-end funds with solid returns that are trading at large discounts and then bet that
the gap between the discount and the underlying asset value will close. So one
advantage to closed-end funds is that you can still enjoy the benefits of professional
investment management and a diversified portfolio of high quality stocks, with the
ability to buy at a discount.
1.4.2.3 Risks
Investing in closed-end funds is more appropriate for seasoned investors. Depending on
their investment objective and underlying portfolio, closed-ended funds can be fairly
volatile, and their value can fluctuate drastically. Shares can trade at a hefty discount
and deprive you from realizing the true value of your shares. Since there is no liquidity,
investors must buy a fund with a strong portfolio, when units are trading at a good
discount and the stock market is in position to rise.
1.5 Methodology of Investment in Mutual FundsMutual funds are investment vehicles that pool money together from investors to
purchase securities in bulk quantities. Aggregating money from many sources allows an
investor to purchase a greater variety of investments than buying securities individually,
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which increase his returns. A mutual fund can be used to buy any type of asset, and they
differ in their management styles and investment strategy.
1.5.2 Measurement
An investment index is a basket of securities that is tracked to measure the performance
of a particular type of asset. For example, the Russell 2000 is an index that tracks the
smallest 2,000 publicly traded stocks in the United States and is considered a proxy for
the small-business market in the United States. Indexes exist for all sorts of assets in all
parts of the world. Every mutual fund measures its performance against a benchmark
index, but funds use different methodologies to perform optimal returns against them.
1.5.3 Active Management
An actively managed fund employs a fund manager that uses statistical analysis and
insight to pick stocks that will outperform the index it is being compared to. For
example, the Charles Schwab Core Equity fund is an actively managed fund that is
benchmarked to the S&P 500 index, which measures the performance of large corporate
stocks. This fund has a manager that tries to pick stocks from this index that are
underpriced and will outperform the index in aggregate. Actively managed funds have
higher expense ratios to pay for manager salaries and overhead.
1.5.4 Passive Management
A passively managed fund is a mutual fund that tries to mimic, not beat, the
performance of an index. They're also known as index funds. For example, the
Vanguard 500 Index fund is a passively managed mutual fund that tracks the S&P 500.
Instead of deliberately picking certain stocks, the fund attempts to hold stocks from the
S&P 500 in the same proportion as the index, so that their returns are nearly the same.
The advantage of index funds is that they incur less fees, which have a large impact on
investment performance over time.
1.5.5 Investment Strategy
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A trade off all mutual funds make is whether to invest for income or growth. A mutual
fund that attempts to achieve maximum growth is more likely to invest in stocks,
particularly small ones, which have high levels of volatility but tend to achieve higher
returns over long periods of time. A mutual fund that invests for income is likely to
invest in bonds, and large company stocks. These assets have less price appreciation but
pay more in dividends and interest income.
1.6 Frequently used terms
1.6.1Net Asset Value (NAV)
Net Asset Value is the market value of the assets of the scheme minus its liabilities. Theper unit NAV is the net asset value of the scheme divided by the number of units
outstanding on the Valuation Date.
1.6.2 Sale Price
Is the price you pay when you invest in a scheme. Also called Offer Price. It may
include a sales load.
1.6.3 Repurchase Price
Is the price at which a close-ended scheme repurchases its units and it may include a
back-end load. This is also called Bid Price.
1.6.4 Redemption Price
Is the price at which open-ended schemes repurchase their units and close-ended
schemes redeem their units on maturity. Such prices are NAV related.
1.6.5 Sales Load
Is a charge collected by a scheme when it sells the units. Also called, Front-end load.
Schemes that do not charge a load are called No Load schemes.
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1.7 Investors earn from a Mutual Fund in three ways
A mutual fund can generate profits from three different sources, which are:
Dividend
Mutual fund generates income from dividends received from other joint stockcompanies whose shares the fund holds. A mutual fund uses this dividend
income to distribute dividend to its own stock holders.
Capital Gains
As discussed earlier the portfolio manager changes the portfolio of the fund with
the passage of the time and also with the changes in economic and business
conditions. So due to the sale and purchase of shares, the mutual fund generates
capital from the sales/ purchase of stocks. The capital gain generated by the
mutual fund is also used to pay dividends to the investors of the fund.
Appreciation of Share Price
Mutual funds also increase the wealth/investment of their shareholder through
appreciations of share price of the mutual fund. For example if the subscription
price of a mutual fund is Rs.11.00, and after a period of seven months the price
goes up to Rs.18.00, thus the investor gets a profit of Rs.7.00 if he sell the
mutual fund's shares in the market.
1.8 Advantages of Mutual Funds
1.8.1 Professional Management
Mutual Funds provide the services of experienced and skilled professionals, backed by a
dedicated investment research team that analyses the performance and prospects of
companies and selects suitable investments to achieve the objectives of the scheme. Thisrisk of default by any company that one has chosen to invest in, can be minimized by
investing in mutual funds as the fund managers analyze the companies financials more
minutely than an individual can do as they have the expertise to do so. They can manage
the maturity of their portfolio by investing in instruments of varied maturity profiles.
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1.8.2 Diversification
Mutual Funds invest in a number of companies across a broad cross-section of
industries and sectors. This diversification reduces the risk because seldom do all stocks
decline at the same time and in the same proportion. You achieve this diversification
through a Mutual Fund with far less money than you can do on your own.
1.8.3 Convenient Administration
Investing in a Mutual Fund reduces paperwork and helps you avoid many problems
such as bad deliveries, delayed payments and follow up with brokers and companies.
Mutual Funds save your time and make investing easy and convenient.
1.8.4 Return Potential
Over a medium to long-term, Mutual Funds have the potential to provide a higher return
as they invest in a diversified basket of selected securities. Apart from liquidity, these
funds have also provided very good post-tax returns on year to year basis. Even
historically, we find that some of the debt funds have generated superior returns at
relatively low level of risks. On an average debt funds have posted returns over 10
percent over one-year horizon. The best performing funds have given returns of around14 percent in the last one-year period. In nutshell we can say that these funds have
delivered more than what one expects of debt avenues such as post office schemes or
bank fixed deposits. Though they are charged with a dividend distribution tax on
dividend payout at 12.5 percent (plus a surcharge of 10 percent), the net income
received is still tax free in the hands of investor and is generally much more than all
other avenues, on a post tax basis.
1.8.5 Low Costs
Mutual Funds are a relatively less expensive way to invest compared to directly
investing in the capital markets because the benefits of scale in brokerage, custodial and
other fees translate into lower costs for investors.
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1.8.6 Liquidity
In open-end schemes, the investor gets the money back promptly at net asset value
related prices from the Mutual Fund. In closed-end schemes, the units can be sold on a
stock exchange at the prevailing market price or the investor can avail of the facility of
direct repurchase at NAV related prices by the Mutual Fund. Since there is no penalty
on pre-mature withdrawal, as in the cases of fixed deposits, debt funds provide enough
liquidity. Moreover, mutual funds are better placed to absorb the fluctuations in the
prices of the securities as a result of interest rate variation and one can benefits from any
such price movement.
1.8.7 Transparency
Investors get regular information on the value of your investment in addition to
disclosure on the specific investments made by your scheme, the proportion invested in
each class of assets and the fund manager's investment strategy and outlook.
1.8.8 Flexibility
Through features such as regular investment plans, regular withdrawal plans and
dividend reinvestment plans; you can systematically invest or withdraw funds accordingto your needs and convenience.
1.8.9 Affordability
A single person cannot invest in multiple high-priced stocks for the sole reason that his
pockets are not likely to be deep enough. This limits him from diversifying his portfolio
as well as benefiting from multiple investments. Here again, investing through MF route
enables an investor to invest in many good stocks and reap benefits even through a
small investment. Investors individually may lack sufficient funds to invest in high-
grade stocks. A mutual fund because of its large corpus allows even a small investor to
take the benefit of its investment strategy.
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All Mutual Funds are registered with SECI and they function within the provisions of
strict regulations designed to protect the interests of investors. The operations of Mutual
Funds are regularly monitored by SECI.
1.9 Disadvantages of mutual fundsMutual funds are good investment vehicles to navigate the complex and unpredictable
world of investments. However, even mutual funds have some inherent drawbacks.
Understand these before you commit your money to a mutual fund.
1.9.1 No assured returns and no protection of capital
If you are planning to go with a mutual fund, this must be your mantra: mutual funds do
not offer assured returns and carry risk. For instance, unlike bank deposits, your
investment in a mutual fund can fall in value. In addition, mutual funds are not insured
or guaranteed by any government body (unlike a bank deposit, where up to Rs 1 lakh
per bank is insured by the Deposit and Credit Insurance Corporation, a subsidiary of the
Reserve Bank of India). There are strict norms for any fund that assures returns and it is
now compulsory for funds to establish that they have resources to back such assurances.
This is because most closed-end funds that assured returns in the early-nineties failed to
stick to their assurances made at the time of launch, resulting in losses to investors. A
scheme cannot make any guarantee of return, without stating the name of the guarantor,
and disclosing the net worth of the guarantor. The past performance of the assured
return schemes should also be given.
1.9.2 Restrictive gains
Diversification helps, if risk minimisation is your objective. However, the lack of
investment focus also means you gain less than if you had invested directly in a single
security.
Assume, Reliance appreciated 50 per cent. A direct investment in the stock
would appreciate by 50 per cent. But your investment in the mutual fund, which had
invested 10 per cent of its corpus in Reliance, will see only a 5 per cent appreciation.
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1.9.3 Taxes
During a typical year, most actively managed mutual funds sell anywhere from 20 to 70
percent of the securities in their portfolios. If your fund makes a profit on its sales, you
will pay taxes on the income you receive, even if you reinvest the money you made.
1.9.4 Management risk
When you invest in a mutual fund, you depend on the fund's manager to make the right
decisions regarding the fund's portfolio. If the manager does not perform as well as you
had hoped, you might not make as much money on your investment as you expected. Of
course, if you invest in Index Funds, you forego management risk, because these funds
do not employ managers.
Chapter # 2
Mutual Fund in Pakistan
2.1 History of Mutual fund in PakistanIn Pakistan Mutual Funds were introduced in 1962, when the public offering of National
Investment (Unit) Trust (NIT) was introduced which is an open-end mutual fund. In
1966 another fund that is Investment Corporation of Pakistan (ICP) was establishment.
ICP subsequently offered a series of closed-end mutual funds. Up to early 1990s, twenty
six (26) closed-end ICP mutual funds had been floated by Investment Corporation of
Pakistan. After considering the option of restructuring the corporation, government
decided to wind up ICP in June, 2000. In 2002, the Government started Privatization of
the Investment Corporation of Pakistan. 25 Out of 26 closed-end funds of ICP were split
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into two lots. There had been a competitive bidding for the privatization of funds.
Management Right of Lot-A comprising 12 funds was acquired by ABAMCO Limited.
Out of these 12, the first 9 funds were merged into a single closed-end fund and that was
named as ABAMCO Capital Fund, except 4th ICP mutual fund as the certificate holders
of the 4th ICP fund had not approved the scheme of arrangement of Amalgamation into
ABAMCO capital fund in their extra ordinary general meeting held on December 20,
2003. The fund has therefore been reorganized as a separate closed-end trust and named
as ABAMCO Growth Fund. Rest of the three funds were merged into another single and
named as ABAMCO Stock Market Fund. So far as the Lot-B is concerned, it comprised
of 13ICP funds, for all of these thirteen funds, the Management Right was acquired by
PICIC Asset Management Company Limited. All of these thirteen funds were merged
into a single closed-end fund which was named as PICIC Investment Fund. Later on the
26th fund of ICP (ICP-SEMF) was also acquired by PICIC Asset Management
Company Limited. The certificate holders in extraordinary general meeting held on June
16, 2004 approved the reorganization of SEMF into a new closed-end scheme renamed
as PICIC Growth Fund. The Securities and Exchange Commission of Pakistan
subsequently authorized on July 30, 2004. Initially there was both public and private
sector participation in the management of these funds, but with the nationalization in the
seventies, the government role become more dominant. Later, the government also
allowed the private sector to establish mutual funds Mutual Funds marched on the road
to recovery during the period July & December, 2009 with net assets showing an
increase of 42%, i.e. increasing from Rs. 182 billion in January, 2009 to Rs.258 billion
in December, 2009. The total number of mutual funds stood at 116 in December, 2009
compared to 95 in January, 2009 substantiating an uptrend in the industry both in terms
of growth in net assets as well as number of mutual funds launched. Growth was
primarily evidenced in the categories of money market, income, and capital-protected
funds. This shift however was anticipated especially keeping in view the fact that
appetite towards risk had subdued in the aftermath of the crisis that entangled the
industry in late 2008, effects of which carried forward till the first half of 2009. The net
assets of the mutual fund industry amounted to Rs 253 billion, as on 28th February
2010* as compared to Rs. 258 billion in December,2009. The total number of mutual
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funds stood at 121 as at March 31, 2010 compared to 116 in December, 2009
substantiating marginal growth in the number of mutual funds launched. Despite the
unprecedented financial turmoil, mutual fund industry in general withstood the down
turn and successfully managed mounting redemption pressure by repaying in excess of
Rs 90 billion to the investor.
2.2 Mutual Fund Companies in Pakistan
ABAMCO LIMITED
AKD INVESTMENT MANAGEMENT LTD.
AL FALAH GHP INVESTMENT MANAGEMENT
AL-MEEZAN INVESTMENT MANAGEMENT LIMITED
AMZ ASSET MANAGEMENT LTD.
ARIF HABIB INVESTMENT MANAGEMENT LTD.
ASIAN CAPITAL MANAGEMENT (PVT.) LTD
ASKARI ASSET MANAGEMENT LTD.
ATLAS ASSET MANAGEMENT LTD.
BMA ASSET MANAGEMENT LTD.
CROSBY ASSET MANAGEMENT LTD.
DAWOOD CAPITAL MANAGEMENT LTD.
FAYSAL ASSET MANAGEMENT LIMITED
FIRST CAPITAL INVESTMENTS LTD.
HABIB ASSETS MANAGEMENT LTD.
HBL ASSET MANAGEMENT LTD
KASB FUND LIMITED
NATIONAL ASSET MANAGEMENT COMPANY LIMITED
NATIONAL FULLERTON ASSET MANAGEMENT LIMITED - NAFA
NATIONAL IINVESTMENT TRUST LTD.
NBP CAPITAL LIMITED
NOMAN ABID INVESTMENT MANAGEMENT LIMITED
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PICIC ASSET MANAGEMENT COMPANY LTD.
PRUDENTIAL FUND MANAGEMENT LTD
SAFEWAY MANAGEMENT LTD.
UBL FUND MANAGERS LTD.
WE INVESTMENT MANAGEMENT LIMITED
2.3 Rules Govern Mutual Funds in Pakistan
There rules governing mutual funds in Pakistan, include:
Investment Companies and Investment Advisors' Rules, 1971. (govern closed-end
mutual funds).Asset Management Companies Rules, 1995. (govern open-ended mutual funds) Updated
information and details on these rules is available from the SECP website.
2.4 Types of Fund Used in Pakistan
Too many years ago, mutual funds were simply broad-based investment instruments
created to simplify the intricacies involved in investing in separate securities. They also
provided a greater measure of safety through broad diversification and the kind of top
notch professional management that is usually out of reach for the small investor.
Today, however, mutual funds are highly specialized and offer almost unlimited
diversity. The types of mutual fund portfolios available run the gamut from conservative
to aggressive, from stocks to bonds, from domestic to international portfolios, from
taxable to tax-free, and from virtually no-risk money market funds to high-risk options
funds. The great variety of mutual funds available makes it possible to select a fund, or
several funds, which precisely various types of funds and their primary objectives are
described below. (They are arranged in order of increasing risk factors)
2.4.1 Money Market Fund
We begin with a discussion of money market funds for several reasons:
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1. They are the safest for the novice investor;
2. They are the easiest, least complicated to follow and understand;
3. Almost without exception, every mutual fund investment company offers money
market funds;
4. Money market funds represent an indispensable investment tool for the beginning
investor.
5. They are the most basic and conservative of all the mutual funds available;
Money market funds should be considered by investors seeking stability of principal,
total liquidity, and earnings that are as high, or higher, than those available through bank
certificates of deposit. And unlike bank cash deposits, money market funds have no
early withdrawal penalties.
Specifically, a money market fund is a mutual fund that invests its assets only in the
most liquid of money instruments. The portfolio seeks stability by investing in very
short-term, interest-bearing instruments issued by the state and local governments,
banks, and large corporations. The money invested is a loan to these agencies, and the
length of the loan might range from overnight to one week or, in some cases, as long as
90 days. These debt certificates are called "money market instruments"; because they
can be converted into cash so readily, they are considered the equivalent of cash.
To understand why money market mutual funds is recommended as an ideal investment,
let me reemphasize just seven of the advantages they offer:
Safety of principal, through diversification and stability of the short-term portfolio
investments
Total and immediate liquidity, by telephone or letter
Better yields than offered by banks, 1% to 3% higher
Low minimum investment, some as low as $100
Professional management, proven expertise
Generally, no purchase or redemption fees, no-load funds
2.4.2 Income Funds
The objective of income mutual funds is to seek a high level of current income
commensurate with each portfolio's risk potential. In other words, the greater the risk,
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the greater the potential for generous income yields; but the greater the risk of principal
loss as well.
The risk / reward potential is low to high, depending upon the type of securities that
make up the fund's portfolio. The risk is very low when the fund is invested in
government obligations, blue chip corporations, and short-term agency securities. The
risk is high when a fund seeks higher yields by investing in long-term corporate bonds,
offered by new, undercapitalized, risky companies.
Who should invest in income funds?
Investors seeking current income higher than money market rates, who are willing to
accept moderate price fluctuations
Investors willing to "balance" their equity (stock) portfolios with a fixed income
investment
Investors who want a portfolio of taxable bonds with differing maturity dates
Investors interested in receiving periodic income on a regular basis.
2.4.3 Income and Growth Funds
The primary purposes of income and growth funds are to provide a steady source of
income and moderate growth. Such funds are ideal for retirees needing a supplement
source of income without forsaking growth entirely.
2.4.4 Growth and Income Funds
The primary objectives of growth and income funds are to seek long-term growth of
principal and reasonable current income. By investing in a portfolio of stocks believedto offer growth potential plus market or above - market dividend income, the fund
expects to investors seeking growth of capital and moderate income over the long term
(at least five years) would consider growth and income funds. Such funds require that
the investor be willing to accepts some share-price volatility, but less than found in pure
growth funds.
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2.4.5 Balanced Funds
The basic objectives of balanced funds are to generate income as well as long-term
growth of principal. These funds generally have portfolios consisting of bonds,
preferred stocks, and common stocks. They have fairly limited price rise potential, but
do have a high degree of safety, and moderate to high income potential.
Investors who desire a fund with a combination of securities in a single portfolio, and
who seek some current income and moderate growth with low-level risk, would do well
to invest in balanced mutual funds. Balanced funds, by and large, do not differ greatly
from the growth and income funds described above.
2.4.6 Growth Funds
Growth funds are offered by every investment company. The primary objective of such
funds is to seek long-term appreciation (growth of capital). The secondary objective is
to make one's capital investment grow faster than the rate of inflation. Dividend income
is considered an incidental objective of growth funds.
Growth funds are best suited for investors interested primarily in seeing their principal
grow and are therefore to be considered as long-term investments - held for at least three
to five years. Jumping in and out of growth funds tends to defeat their purpose.
However, if the fund has not shown substantial growth over a three - to five-year period,
sell it (redeem your shares) and seek a growth fund with another investment company.
Candidates likely to participate in growth funds are those willing to accept moderate to
high risk in order to attain growth of their capital and those investors who characterize
their investment temperament as "fairly aggressive."
2.4.7 Index Funds
The intent of an index fund is basically to track the performance of the stock market. If
the overall market advances, a good index fund follows the rise. When the market
declines, so will the index fund. Index funds' portfolios consist of securities listed on the
popular stock market indices.
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It is also the intent of an index fund to materially reduce expenses by eliminating the
fund portfolio manager. Instead, the fund merely purchases a group of stocks that make
up the particular index it deems the best to follow. The stocks in an index fund portfolio
rarely change and are weighted the same way as its particular market index. Thus, there
is no need for a portfolio manager. The securities in an index mutual fund are identical
to those listed by the index it tracks, thus, there is little or no need for any great turnover
of the portfolio of securities. The funds are "passively managed" in a fairly static
portfolio. An index fund is always fully invested in the securities of the index it tracks.
An index mutual fund may never outperform the market but it should not lag far behind
it either the reduction of administrative cost in the management of an index fund also
adds to its profitability.
2.4.8 Sector Funds
Most mutual funds have fairly broad-based, diversified portfolios. In the case of sector
funds, however, the portfolios consist of investment from only one sector of the
economy. Sector funds concentrate in one specific market segment; for example,
energy, transportation, precious metals, health sciences, utilities, leisure industries, etc.
In other words, they are very narrowly based.
Investors in sector funds must be prepared to accept the rather high level of risk inherent
in funds that are not particularly diversified. Any measure of diversification that may
exist in sector funds is attained through a variety of securities, albeit in the same market
sector. Substantial profits are attainable by investors astute enough to identify which
market sector is ripe for growth - not always an easy task!
2.4.9 Specialized Funds
Specialized funds resemble sector funds in most respects. The major difference is the
type of securities that make up the fund's portfolio. For example, the portfolio may
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consist of common stocks only, foreign securities only, bonds only, new stock issues
only, over - the - counter securities only, and so on.
Those who are still novices in the investment arena should avoid both specialized and
sector funds or the time being and concentrate on the more traditional, diversified
mutual funds instead.
2.4.10 Islamic Funds
In case of Islamic Funds, the investment made in different instruments is to be in line
with the Islamic Shairah Rules. The Fund is generally to be governed by an Islamic
Shariah Board. And then there is a purification process that needs to be followed, as
some of the money lying in reserve may gain interest, which is not desirable in case of
Islamic investments.
2.5 Al-Meezan Investment Management Limited
Al Meezan Investment Management Limited (Al Meezan) is the largest Shariah
compliant asset management company in Pakistan with over 15 years of track record in
managing investments on behalf of individuals and institutions. Incorporated on 27 th
February 1995, it is a group company of Meezan Bank Limited and Pakistan Kuwait
Investment Company Private Limited.
Al Meezan is registered as a Non Banking Finance Company under the Non Banking
Finance Companies (Establishment and Regulation) Rules, 2003 and NBFC Entities
Regulations 2007 with the Securities and Exchange Commission of Pakistan (SECP) to
carry on the business of asset management and investment advisory under the said
Rules. As an Investment Adviser, Al Meezan is authorized to manage discretionary and
non-discretionary portfolios on behalf of clients. It has also been licensed as Pension
Fund Manager to manage Voluntary Pension Funds under Voluntary Pension System
Rules, 2005. Al Meezan has got Management Quality Rating AM2 assigned by JCR-
VIS.
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2.5.1Closed End Funds
2.5.1.1 Al Meezan Mutual FundAl Meezan Mutual Fund was incorporated on July 13, 1995 as a public limited company
under the Companies Ordinance, 1984 and is registered under the Non-Banking Finance
Companies (Establishment and Regulation) Rules, 2003 (NBFC Rules). The certificate
of commencement was obtained by the company on January 1,1996. The objective of
the company is to carry on the business of a closed ended mutual fund and to invest its
assets in securities, which are listed or proposed to be listed on the stock exchanges. The
company was listed on the Karachi Stock Exchange on September 16, 1996 as a closed
ended mutual fund.
Al Meezan Mutual Fund (AMMF), a close ended equity fund, has been in operation
since 1996. During the half year period ended December 31, 2007, AMMF earned a net
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income of Rs. 129.4 million (Rs. 0.94 per share) as compared to Rs. 45 million (Rs. 0.33
per share) in the corresponding period last year reflecting an impressive growth of
187%. As on December 31, 2007, AMMF's net assets stood at Rs. 2,041 million.
2.5.1.2 Meezan Balanced Fund
Meezan Balanced Fund is the first Shariah compliant balanced fund in Pakistan. MBF is
a closed-end balanced fund constituted under Non-Banking Finance Companies
(Establishment Regulation) Rules, 2003. It was offered to the public from December 20
to December 23, 2004 with the objective to provide stable income stream along with
equity.
The investment objective of MBF is to generate long term capital appreciation as well as
current income by creating a balanced portfolio that is invested both in high quality
equity securities and MBF invests 40-60% of the funds in stocks which provides capital
appreciation and returns higher than those of bonds and bank deposits. The rest of the
funds are invested in various Islamic income instruments. such as Sukuks (Islamic
Bonds), Certificate of Islamic Investments, Musharika and Morabaha instruments,
Shariah compliant spread transactions, and other Islamic income products, which
provides the security of a constant income stream to investors.
A balanced fund has a greater potential to diversify risk by investing in different asset
classes, rather than just diversifying between instruments, as would be the case indedicated equity or fixed income funds. Because the investments are highly diversified,
investors reduce their market risk.
2.5.2 Open ended Fund
2.5.2.1 Meezan Islamic FundMeezan Islamic Fund (MIF) is not only the largest Shariah compliant equity fund but
also the largest Equity Fund in private sector in Pakistan.
MIF was launched on 8th August 2003 as the first open end mutual fund of Al Meezan.
MIF operates with a clear and well defined investment objective. To invest only in
Shariah compliant instruments. Under all applicable rules and regulations of the SECP,
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the fund ensures an investment policy that is strictly in accordance with approved
Islamic principles and Riba-Free.
MIF invests in combination of income and growth stocks of Shariah compliant
companies with demonstrated track record of profitability and stable dividend payout
history.
Salient Features of MIF
1. Risk Diversification
MIF reduce the risk of volatility of prices by investing your money in a well
defined portfolio of securities.
2. Cost Efficiencies
The per unit research and execution costs of a fund manager are also lower due
to the large size of portfolio under management.3. Professional Management
Our fund managers are trained investment professionals. Their knowledge
provides you and opportunity to earn greater risk adjusted returns. Also by
investing in MIF, you pass on the job of continuous monitoring and evaluation
of investment opportunities to the Fund manager.
4. Tax Credit
Investment in MIF enables you to get tax benefit upto Rs. 60,000/- in case of
salaried person or upto Rs 75,000/- in case of non salaried person on investments
upto Rs. 300,000/- under applicable tax laws, if investment is held for a period
of one year.
5. Healthy Return
Apart from tax benefit, MIF also provides you a healthy return on your
investment.
6. Affordability
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A minimum investment of Rs. 5,000 makes MIF an affordable investment for
small investors. Subsequent investments can be made with a minimum amount
of Rs. 1,000. There is no cap on maximum amount of investment.
Performance History
2.5.2.2 Meezan Islamic Income FundMeezan Islamic Income Fund (MIIF) is the Pakistans first Shariah Compliant open end
mutual fund which was launched 15-Jan-07.The objective of MIIF is to provide Halal and consistent stream of income with long-
term capital preservation in a Shariah Compliant manner. It provides potential to the
investors for capital gains as well as regular income by investing in a diversified
portfolio of good quality Islamic Instruments such as Sukuks (Islamic Bonds),
Certificate of Islamic Investments, Musharika and Morabaha instruments, Shariah-
compliant spread transactions, and other Islamic income products.
MIIF meets the requirement of a large number of investors both institutional and
individual, who desire Shariah-Compliant investment avenues but want to avoid the risk
of direct exposure to the stock market.
Being an open end mutual fund, its units can be purchased or redeemed on a continuous
basis. Thus, the investor will have the freedom to enter the fund by purchasing units at
Description2003-
2004*
2004-
2005
2005-
2006
2006-
2007
2007-
2008
2008
-
2009
2009-
2010
Dividend Per Unit (Rs.) *1 7.5 17.5 17.5 15.6 10 - 9.00
% of Opening NAV 15.00% 32.15% 29.81%26.61
%
16.70
%-
25.51
%
% of Face Value (i.e., Rs.
50 / unit)15.00% 35.00% 35.00% 31.2%
20.00
%-
18.00
%
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the offer price and to exit the fund by redeeming units at the redemption price on any of
the dealing days. The par value of MIIF is Rs. 50/- per unit, while the prevailing rates
are based on Net Asset Value (NAV) of the day of transaction
Performance History
Description 2007* 2008 2009 2010
Dividend Per Unit (Rs.) *1 2.20 4.60 4.77 3.135
% of Face Value (i.e., Rs. 50 / unit) 4.40% 9.20% 9.54% 6.27%
Annualized Return 9.93% 9.15% 10.15% 7.31%
2.5.2.3 Meezan Capital Protected Fund
Meezan Capital Protected Fund-I (MCPF-I), Pakistans first Shariah compliant capital
protected fund, which was launched by 18-May-2008 and is jointly developed by Al
Meezan Investment Management Limited (Al Meezan Investments) Pakistans largest
Shariah compliant asset management company and Meezan Bank, Pakistans first &
largest Islamic Bank.
MCPF is an open end mutual fund with a maturity period of three years and six weeks
from the first day of IPO. MCPF provides an investment opportunity to investors who
desire protection of their capital, are willing to invest for relatively longer periods and
want to get benefit of potentially higher returns of the stock market. For capital
protection 70% to 80% portion of the fund is placed through a Murabaha structure with
Meezan Bank, which has a rating of A for long term and A1 for short term. The balance
amount will be invested in Shariah compliant equities in order to generate healthy
returns.
If you sell units before maturity capital protection will not be available and redemption
will be made as per prevailing NAV net of back end load as defined in the offering
document.
If some haram income accrues to MCPF, it is segregated and donated to an approved
charity in consultation with the Shariah Advisor. This purifies the income of MCPF.
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2.6 Mutual Funds: an enormous but untapped market in Pakistan
The savings to GDP ratio is already low in Pakistan. With the reduction in purchasing
power and declining rates of return on bank deposits and national savings schemes,
analysts fear further decline in savings rate. Therefore, it is of prime importance for the
people to know about the various available investment options to maximize return on
their savings. At present equities offer very attractive dividend yields. However, an
average person neither has the expertise nor the required information to take the best
advantage of the available opportunities.
While building a high yielding portfolio is very difficult, one can maximize his or her
return by investing in mutual funds. Theoretically, a mutual fund is a pool of money
belonging to a group of investors entrusted to a Fund Manager hired by the group. The
Fund Manager invests the money on behalf of the investors. The Fund Manager is paid a
management fee. If there is a profit or gain on investments, it belongs to the investors.
In case there is a loss, it is also borne by the investors.
Traditionally, there are two types of mutual funds: 1) closed-end fund and 2) open-end
fund. A closed-end fund has a fixed pool of money, which is collected when the fund is
set up. The fund is set up as an investment company with a certain amount of capital.
The Fund Manager invests the money in capital markets. An investor wishing to
participate in this type of mutual fund buys shares of the investment company at the
time of its initial public offer. An investor may also buy shares subsequently from the
stock market at the prevailing market price. If the investor wishes to disinvest he/she has
to sell the shares of investment company through stock exchange at the then prevailing
price. The price of the shares of investment company in the stock market is determined
by the supply and demand for such shares.
An open-end fund does not have a fixed pool of money. The fund manager continuouslyallows investors to join or leave the fund. The fund is set up as a trust, with an
independent trustee, who has custody over the assets of the trust. Each share of the trust
is called a unit and the fund itself is called a unit trust. The portfolio of investments of
the unit trust is evaluated (normally) daily by the fund manager on the basis of
prevailing market prices of the securities in the portfolio and the net asset value (NAV)
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per unit is determined. An investor can join or leave the fund on the basis of the NAV of
the unit. However, the fund manager may have a small charge called 'load' added to the
selling price or deducted from the redemption price to cover distribution costs.
2.6.1 Mutual funds industry growth in Pakistan down 5pc
The growth in mutual funds industry in Pakistan while posting a dismal trend dropped
by 5 per cent during third quarter (January-March) of the current fiscal year.
Total assets of the mutual funds stood at Rs214 billion during the same period under
review. As per the latest industry data, mutual funds registered a decline of 4.8per cent
in March this year.
The size of the open-ended funds fell by 6.4 per cent in 3QFY10 [third quarter of fiscal
year 2009-10] reaching at Rs179 billion while the closed-end fund amounted to Rs35
billion in March 2010, depicting an increase of 5 per cent during 3QFY10.
According to a report by Invest Guide released by InvestCap Research, the size of the
income and money market funds stood at Rs93.6 billion, showing a growth of 11.8 per
cent in Jan-Mar FY10.
During the quarter, three open-ended income and money market funds were launched,
namely Atlas Money Market Fund, NIT Income Fund and Alfalah GHP Cash Fund.
This category now holds a massive 52 per cent share of the total open-ended mutual
funds industry, which accounts for 1$ per cent increase during 9MFY10. However, on a
M-o-M [month-on-month] basis, the category showed 6 per cent decline.
Report said the interest rate scenario in the country during 3QFY10 remained stable
with secondary market yields staying range bound amid tight liquidity position of the
market.
As a result, Income funds generated an average annualised return of only 3.4 per cent in
3QFY10 as compared to 21 per cent average annualised return earned by this category
during the same period of the ongoing financial year, the time when income funds were
enjoying the upward price movements of the term finance certificates.
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The report analyzed that the money market funds category is still in its infancy phase as
asset managers are launching money market funds for those investors who want to park
their money in shorter time period with relatively stable re turns.
During 9MFY10, seven money market funds were launched in this regard. In Mar-2010,
the category posted an average annualised return of 10.8 per cent, better than the
previous months return of 10.5 per cent per annum.
The report further stated that the assets of the equity funds category including index
tracker funds, stood at Rs47.7 billion as on March 31, 2010. The fund size of this
category was declined by only 9.6 per cent during Jan-Mar FY10.
2.7 Key PlayersAt present a number of closed-end as well as open-end mutual funds are operating in
Pakistan. Among the oldest are NIT and the various funds managed by Investment
Corporation of Pakistan (ICP). The largest number of listed mutual funds, twenty six,
are managed by the ICP. There are 11 closed-end mutual funds operating in private
sector. Whereas NIT and ICP operates in public sector. The total paid-up capital of 37
mutual funds listed at Karachi Stock Exchange is over Rs 4,751 million. However, a
number of these are being quoted below face value.
According to some sector analysts the number of mutual funds, their paid-up capital and
number of investors in mutual funds is too small. They attribute this to a number of
factors, worst being the GoP policies. NIT in Pakistan and UTP in India were
established around the same time. While the value of portfolio of UTP India exceeds
US$ 44 million the portfolio of NIT is too small compared to that of its Indian counter
part. The same is also true about the number of unit holders. Even if one keep the
population of India and Pakistan in mind, the ratio is still dismal.
They say that one of the major reasons for growth of mutual funds has been the GoP
insistence on not allowing establishment of open-end funds in the private sector. At
present only one such fund is operating in private sector in Pakistan, BSJS Balanced
Fund. The apprehensions of the regulators were that private sector could not manage an
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open-end fund efficiently and prudently. This impression was mainly due to the poor
performance of closed-end funds managed by the private sector.
Most of the private sector closed-end funds were established in early nineties, when
there was a boom in equities market, prices of scrips were high and investment in
equities only was possible corporate debt and money market instruments were not
common at that time. Therefore, when equities market plunged most of the funds posted
huge losses. Some analysts say, "While a lot of blame goes to sponsors and managers of
private sector funds, the market conditions were also responsible for the fiasco."
However, some analysts say, "It is true that market sentiments led to huge losses, but the
blame should also go to sponsors for managing funds in imprudent manner. Some of the
funds were used for 'parking' of bad transactions. If one may recall, a number of mutual
funds were sponsored by brokerage house or those who used the funds for trading of
equities. Most of these sponsors indulged in speculative trading rather than taking long
positions or making long-term investment. The concept of parking of bad transaction in
mutual fund account was used to avoid immediate loss, in the hope of recovery.
The recent announcement of results by Arif Habib Securities, BSJS Balanced Fund and
NIT indicate that all those funds which are managed prudently and efficiently have the
potential to earn substantial profit. The year ending on June 30, 2002 was a difficult
year but these funds managed to earn good profit. Some of the ICP managed funds have
been posting good performance but are being traded below the NAV.
NIT has announced 12 per cent dividend for the year 2002. NIT was established in 1962
and has over 60 per cent share of market share of mutual funds sector. At present it has
over 60,000 unit holders who collectively hold 1.6 billion NIT units. The total value of
funds invested in the market by NIT is estimated around Rs 19.5 billion, at current
market prices. This is approximately 5 per cent of the total market capitalization at
Karachi Stock Exchange, making NIT the single largest investor at the exchange.
BSJS Balanced Fund has posted over Rs 56 million profit and announced 15 per cent
dividend for the year 2002. During the year it also acquired Security Stock Fund. As a
result of merger the paid-up capital of fund increased to Rs 340 million. To increase the
capital, the fund intends to issue Redeemable Preference shares subject to the approval
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from the SECP. The fund is called a balance fund because of its investment in equities,
debt instruments, money market and COT.
Arif Habib Securities, the main sponsors of Arif Habib Investment (AHI), has posted Rs
253.6 million profit for the year 2002 and announced 50 per cent dividend as well 20
per cent bonus shares. AHI manages Pakistan Stock Market Fund and Pakistan Income
Fund.
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Chapter # 3
Risks and Mutual Fund
There are two type of risk involved in investment in the mutual fund which are as under.
3.1 Business risk
Risks associated with investing in a particular product, company, or industry sector are
called business or "non-systematic" risks. Common business risks include
3.1.1 Management Risk
Also called company risk, encompasses a wide array of factors than can impact the
value of a specific company. For example, the managers who run the company might
make a bad decision or get embroiled in a scandal, causing a drop in the value of the
company's stocks or bonds. Alternatively, a key competitor might release a better
product or service.
3.1.2 Credit Risk
Also called default risk, is the chance that a bond issuer will fail to make interest
payments or to pay back your principal when your bond matures.
By contrast, market risk, sometimes referred to as systematic risk, involves factors that
affect the overall economy or securities markets. It is the risk that an overall market will
decline, bringing down the value of an individual investment in a company regardless of
that company's growth, revenues, earnings, management, and capital structure.
3.2 Market RisksDepending on the nature of the investment, relevant market risks may involve
international as well as domestic factors. Key market risks to be aware of include
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3.2.1 Interest Rate Risk
It relates to the risk of reduction in the value of a security due to changes in interest
rates. Interest rate changes directly affect bonds & other stocks - as interest rates rise,
the price of a previously issued bond falls; conversely, when interest rates fall, bond
prices increase. The rationale is that a bond is a promise of a future stream of payments;
an investor will offer less for a bond that pays-out at a rate lower than the rates offered
in the current market. The opposite also is true. An investor will pay a premium for a
bond that pays interest at a rate higher than those offered in the current market.
3.2.2 Inflation Risk
It is the risk that general increases in prices of goods and services will reduce thevalue of money, and likely negatively impact the value of investments.
Inflation reduces the purchasing power of money and therefore has a negative
impact on investments by reducing their value. This risk is also referred to as
Purchasing Power Risk. Inflation and Interest Rate risks are closely related as interest
rates generally go up with inflation. To keep pace with inflation and compensate for loss
of purchasing power, lenders will demand increased interest rates.
However, one should note that inflation can be cyclical. During periods of low
inflation, new bonds will likely offer lower interest rates. During such times, investors
looking only at coupon rates may be attracted to investing in low-grade junk bonds
carrying coupon rates similar to the ones that were offered by ordinary bonds during
inflation period. Investors should be aware that such low-grade bonds, while they may
to a certain extent compensate for the low inflation, bear much higher risks.
3.2.3 Currency Risk
It comes into play if money needs to be converted to a different currency to purchase or
sell an investment. In such instances, any change in the exchange rate between that
currency and Indian Rupee can increase or reduce your investment return. These risk
usually only impacts one if one invest in stocks or bonds issued by companies based
outside the India or funds that invest in international securities
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3.2.4 Liquidity Risk
It relates to the risk of not being able to buy or sell investments quickly for a price that
tracks the true underlying value of the asset. Sometimes one may not be able to sell the
investment at all - there may be no buyers for it, resulting in the possibility of ones
investment being worth little to nothing until there is a buyer for it in the market. The
risk is usually higher in over-the-counter markets and small-capitalization stocks.
Foreign investments pose varying liquidity risks as well. The size of foreign markets,
the number of companies listed and hours of trading may be much different from those
in the India. Additionally, certain countries may have restrictions on investments
purchased by foreign nationals or repatriating them. Thus, one may:
(1) have to purchase securities at a premium;
(2) have difficulty selling your securities;
(3) have to sell them at a discount; or
(4) not be able to bring your money back home
3.2.5 Country Risk
It is similar to the Sociopolitical Risk described above, but tied to the foreign country in
which investment is made. It could involve, for example, an overhaul of the country's
government, a change in its policies (e.g., economic, health, retirement), social unrest,
or war. Any of these factors can strongly affect investments made in that country. For
example, a country may nationalize an industry or a company may find itself in the
middle of a nationwide labor strike.
3.2.6 Legal Remedies Risk
is the risk that if one has a problem with his investment, he may not have adequate legal
means to resolve it. When investing in an international market, one often has to rely on
the legal measures available in that country to resolve problems. These measures may be
different from the ones you may be used to in the India. Further, seeking redress can
prove to be expensive and time-consuming if you are required to hire counsel in another
country and travel internationally.
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3.3 Risks in Mutual Fund InvestingThere is some degree of risk in every investment. Although it is reduced considerably in
mutual fund investing. Do not let the specter of risk stop you from becoming a mutual
fund investor. However, all investors have to determine for themselves the degree of
risk they are willing to accept in order to meet their objectives before making a
purchase. Knowing of potential risks in advance will help you avoid situations in which
you would not be comfortable. Understanding the risk levels of the various types o
mutual funds at the outset will help you avoid the stress that might result from a
thoughtless or a hasty purchase.
Let us now examine the risk levels of the various types of mutual funds.
3.3.1 Low-Level Risks
Mutual funds characterized as low-level risks fall into here categories
Money market funds
Treasury bill funds
Insured bond funds
3.3.2 Moderate-Level Risks
Mutual funds considered moderate-risk investments may be found in at least the eight
types categorized below.
Income funds
Balanced funds
Growth and income funds
Growth funds
Short-term bond funds (taxable and tax-free)
Intermediate bond funds (taxable and tax-free)
Insured government/municipal bond funds
Index funds.
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3.3.3 High-Level Risks
The types of funds listed below have the potential for high gain, but all have
high risk levels as well.
Aggressive growth funds
International funds
Sector funds
Specialized funds
Precious metals funds
high-yield bond funds (taxable and tax-free)
Commodity funds
Option funds
Figure below depicts three types of mutual fund portfolios structured according to risk
level. You may wish to use this as a guide to building a portfolio based on your level of
risk tolerance. The percentages of each type of fund recommended in the portfolios
reflect a reasonable degree of diversification, balance, and risk level as indicated
F