Mutual Fund Jargon Simplified Part 2

In the Mutual Fund Jargon Simplified – Part 1 we explored key mutual fund jargons. This time, we bring you the second part of our series on nomenclature that you must know. Read on.

1. Annualized Returns

When absolute returns (either greater or less than a year) are aggregated to a period of one year, these become annualized return. This is basically an average that reflects the amount that an investment would have earned annually on a compounding basis. 

2. Asset Class

An Asset Class is category of securities in the stock market that behave similarly owing to similar financial characteristics and are generally subject to the same rules, laws and regulations. There are three main asset classes- Equities (stocks or equity mutual funds), Fixed Income (bonds or debt mutual funds) and Cash Equivalents (money market instruments or liquid funds). Equity is characterized by higher returns and higher risk along with the component of company ownership. Fixed Income instruments are considered safe havens and ensure a fixed rate of return on the investment over (usually) predetermined period. Cash Equivalents are highly liquid and not subject to market fluctuations.

3. Bond

A Bond is a debt investment whereby the issuer (company, government or its agencies) promises to pay a fixed or variable rate of return to the investor for a defined period of time. According to the terms and conditions of the bond, the issuer has to repay the principal along with accrued interest on the maturity date. Bonds happen to be a preferred mode of raising capital by the government for infrastructure and other such projects.

4. Compounded Annual Growth Rate (CAGR)

CAGR is the compounded average rate of return earned on the investment. It is also calculated as the year-over-year growth rate of an investment over a specified period of time. The difference between Simple Interest and CAGR is that under CAGR, it is assumed that the annual return is compounded (re-invested) with principal to arrive at the interest of the subsequent periods. 

5. Close Ended Schemes

These are mutual fund plans that have a pre-specified maturity date. Investors invest in them at the time of initial public offering (New fund offer). Once the offer closes, investors can either wait for the maturity date to redeem the value plus returns, or sell the securities purchased in the secondary market as these are listed in the stock market. 

6. Dividend Yield

Dividend Yield is a percentage that indicates the amount of dividend paid each year over the current share price. For example, if a stock ABC has a current share price of Rs. 50 and the annual dividend is Rs. 1 per share, then the yield would be 2%.

(Annual dividend per share/stock’s current market price)*100 = (1/50)*100 = 2%

7. Fixed Maturity Plans (FMPs)

FMPs are closed ended debt schemes that carry a fixed date of maturity. Such schemes invest in debt instruments that mature around the same time as the scheme itself so as to minimize interest rate risk. FMPs are usually offered for tenures varying from 30 days to 5 years. FMPs are preferred instruments for debt investors and become attractive over a period of 3 years, if availed with indexation benefits.

8. GILT Funds

GILT funds are mutual fund plans that invest only in a mix of government securities that have varying maturity periods. For those who like to invest in extremely safe instruments, GILT funds can be a good choice, as these invest in instruments with government backing. However, the returns on GILT funds are subject to fluctuations with interest rate movements.

9. Initial Offer Price 

It is the price at which securities or shares are sold to the investors in the Initial Public Offering (IPO) or New Fund Offer (NFO).

10. Large Cap Funds

Large Cap Funds invest a larger proportion of their corpus in well-established companies with large market capitalization. They offer stable and sustainable returns in the long-run. However, returns may be comparatively lower than small and mid cap funds, which have higher risk exposure. There is no defined band, though these funds typically invest in companies with a market capitalization over Rs. 10,000 crores.

11. Mid Cap Funds

These funds invest in medium-sized companies. There is no defined band, though these funds invest in companies with a market capitalization between Rs. 3,000 – 10,000 crores. Mid cap funds offer aggressive returns, and have a high potential to create wealth and become large cap funds. The medium-sized companies are nimble and can adapt to changes faster. However, the returns can be volatile and tend to fall more as compared to large cap companies.

12. Open Ended Schemes

These are a type of mutual funds which do not have restrictions on entry or exit. The units can be purchased and sold even after the NFO period, at the NAV declared by the fund. 

13. Small Cap Funds

These funds invest in companies with low capitalization. There is no defined band, these funds typically invest in companies with market capitalization of Rs. 500 – 3,000 crores. Small cap funds are considered high on risk, as there is no or limited track record of the companies that are part of these funds. However, they also have a lot of potential of growth and consequently may offer very high returns.

14. Ultra Short Term funds

These funds invest in debt instruments that have a very short maturity period and high liquidity. The underlying securities or instruments in these funds are commercial paper, treasury bills and bonds. The maturity period is between six months to one year. These funds should not be confused with liquid funds. Liquid funds have instruments (at least 90% of portfolio) with a maturity period of 90 days & below.