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Session 12: Understanding Mutual Fund Offer Document and KIM

We are glad to have you with us for our Twelfth Session – Understanding Mutual Fund Offer Document and KIM

Alright so now let's get started...

Many investors often invest in mutual funds being convinced by the sales pitch of mutual fund distributors / agents / relationship managers. But are these sale pitches making you overlook – probably in excitement – some of the important facets for you to take the right investment decision in congruence to your risk profile?

You see, simply getting swayed by tall claims in pursuit of getting wealthier, is not the right approach to investing. You ought to take enough responsibility, and be cognisant while investing in mutual funds, so as to make a wise investment decision. Just as you compare the features of a gadget or the latest smart phone you wish to buy, it is imperative for you while investing in mutual funds as well, to read the Statement of Additional Information (SAI), Scheme Information Document (SID) or at least the Key Information Memorandum (KIM) before you invest your hard earned money in pursuit of earning returns and becoming wealthy.

We often read what interests us. It may be a magazine, a novel, or it may be just newspapers. But when it comes to investing, it becomes imperative to adopt the art of reading portions of the SID (Scheme Information Document) or KIM (Key Information Memorandum) that are important and will help you make an appropriate investment decision

This session of our learning initiative does exactly that; by educating you on important areas or portions of the SID which you should focus on and understand well, before investing your hard earning money in a particular scheme.

So let us understand each of these areas or portions of the SID in detail; but before that let's understand what is meant by mutual fund offer document.

Mutual Fund Offer Document

Meaning: Offer document or a prospectus from a mutual fund house is a document offering its scheme(s)to the public for investing. Offer document consists of two parts i.e. Statement of Additional Information (SAI) and Scheme Information Document (SID).

  • (While...) SAI contains all statutory information of the Mutual Fund house

  • SID carries important information about the scheme(s) such as their investment objective, asset allocation pattern, investment strategies, risk involved, benchmark indices for respective scheme(s), who will manage the scheme(s) and fees & expenses; amongst a host of others for making an informed investment decision.

Both SID and SAI are prepared in the format prescribed by SEBI and submitted to SEBI. The content of the document needs to flow in the sequence prescribed in the format. In addition the mutual fund is permitted to add any disclosure which it feels is material for the investor.

What to read in a Scheme's Information Document
  • Investment Objective (...You see, every mutual fund scheme has an 'investment objective' and it is important to know the same before investing your hard earned money. The investment objective explains the aim behind launching a particular mutual fund scheme and how it will be attained. Apart from this, most importantly it clears the doubt created in the minds of the investors due to the scheme names they sometimes carry. For example, 'Monthly Income Plans (MIPs)' do not guarantee monthly income, as also 'Capital Protection Oriented Funds' do not guarantee protection to capital. Similarly a 'High Interest Fund' does not guarantee high interest income. Such ambiguities are clearly answered by the mutual fund scheme's 'Investment Objective' – and therefore it is imperative for you to read it well; because the investment objective of the scheme could be far different than the ones suiting your requirements.

  • Asset Allocation (... This section of the information document indicates how a particular mutual fund scheme will allocate its assets under management to the respective asset classes (such as equity, debt and gold) under normal market conditions. The asset allocation pattern indicates the allocation of the mutual fund scheme to various asset classes, and typically there is no fixed percentage that is mandated to invest in the respective asset classes. Instead, a range is provided indicating the minimum and maximum exposure to the respective asset classes. For example a range of 65% to 90% for equity asset class, will indicated that the respective mutual fund scheme will allocate a minimum of 65% and a maximum of 90% of the total assets in equities.

    From the asset allocation you can judge whether the mutual fund scheme is equity oriented, debt oriented, commodity oriented, or is a hybrid scheme – having a mandate to invest in different asset class. Thus this would give you as an investor a sense, whether the respective mutual fund scheme can be an appropriate fit for you, depending upon your requirements.)

  • (Once you know the asset allocation and determine the orientation of a mutual fund scheme (i.e. equity, debt, commodity or hybrid) the next section to focus on is the...) Investment Instruments the scheme would invest in (...You see, within an asset class, there are numerous investment avenues. Thus say, as permitted by your risk appetite if you choose to invest in an equity oriented fund; it becomes imperative to assess which investment instruments the mutual fund scheme would invest in. For example while investing in equities, if the scheme aims to have a high exposure towards riskier instruments such as derivatives, it could weigh on the final returns generated by the mutual fund scheme. However, if a mutual fund scheme takes exposure to derivative instruments purely for hedging their positions then it may not turn out to be of very high risk to investors.)

  • (Also...) The Investment Strategy (...that the fund would follow in its pursuit of achieving its investment objectives, is vital to know before investing in a mutual fund scheme. The investment strategy explains the approach the mutual fund scheme would adopt while selecting the instruments (equity, debt or gold) for investment. The investment strategy reflects the processes and systems followed by the fund house as a whole. Such process driven mutual fund schemes are better off, as opposed to those that do not follow a clear strategy and depend solely upon the fund managers' ability to pick investment instruments for the portfolio.)

  • Benchmark of the scheme (...You see, it is vital to know how a particular mutual fund scheme benchmarks its performance. Essentially, a benchmark is selected so that the suitable constituents of the same are structured in the portfolio of the respective mutual fund scheme as well.)

  • Risk factors associated with the respective mutual fund scheme (...By now you may be aware that investing in mutual funds carries inherent risk of investing in capital markets. Risk as you may be aware, hampers the value of your investment in the mutual fund scheme. So you should be aware of the risk involved and evaluate whether you are willing to take risks. Broadly the risks involved in mutual fund investing are..)

    • Liquidity Risk (...It indicates the risk stemming from a lack of marketability of the investments held by a mutual fund scheme in its portfolio. Simply put, it impacts the buying and selling of securities impeding the liquidity criteria of the portfolio. Thus it is imperative to evaluate the investment mandate of a mutual fund scheme as to what market capitalisation bias it would follow. Usually stocks of large sized companies are more liquid than their smaller counter parts – especially the small cap ones.)

    • Default Risk (...This risk is more relevant to the debt holdings of a mutual fund scheme, and it emanates from debt securities offered by companies unable to make their payments on debt obligations (in terms of interest payment and repayment of principal amount). Here it becomes imperative to assess the quality of instruments - as conferred by the ratings – that they hold in their portfolio. A highly rated debt portfolio is construed to be less risky than the one which has lower ratings.)

    • Settlement Risk (...This risk occurs on account of failure of one party to deliver the terms of the contract with the other party at the time of the settlement. So a settlement risk can be infused at the time of settlement on account of default and any timing differences in settlement between the two parties. )

    • Interest Rate Risk (...You see, the changes in the interest rate scenario may also have a bearing on the schemes Net Asset Value (NAV), especially if it is a debt mutual fund scheme. Generally the prices of debt instruments increase as interest rates decline and decrease as interest rates rise. They have an inverse relationship. Indian debt and Government securities markets can be volatile leading to the possibility of price movements, up or down in fixed income securities and thereby to possible movements in the NAV. So for you as an investor, it is imperative to be cognizant about the interest rate cycles you are investing with and select the right mutual scheme(s) for you to earn fruitful returns on your investments.)

    • Re-investment risk (...Every investment in a debt portfolio is exposed to re-investment risk. In case of debt securities, the interest rates prevailing at the time of maturity date and / or on the coupon date may differ from the original coupon the debt instrument offers. Consequentially the proceeds may get invested at lower rates, due to which there's a re-investment risk. So one needs to be aware of this risk, while investing in debt mutual fund schemes.)

    Apart from the standard risk which we just learnt of, there are other scheme specific risks such as...

    • Economic Risk

    • Currency Risk

    • Political Risk

    ...that the respective mutual fund scheme may have a direct or indirect exposure to.

    For instance, in an offshore mutual fund scheme (which invests your money in assets abroad); your investments are always exposed to the respective country risks – both political and economic risks. In case of sector specific or thematic mutual fund schemes (which invest in a particular sector or a theme), the particular mutual fund scheme will be exposed to the developments taking place in that sector. Say for instance a mutual fund scheme pertaining to the banking sector will be exposed to the interest rate risks along with the standard risks mentioned above.

    Hence, it is essential to know the standard risks as well as scheme specific risks which you may be exposed too, before investing your hard earned money.

  • Who will manage the scheme (...Even if the mutual fund scheme which you wish to invests in, comes from the stable of a well-established fund house and has proper investment processes and systems in place, it is essential for you to know the fund manager managing your investments in that particular scheme. The fund manager's expertise is vital for the overall performance of the scheme in the long run. The Fund manager's experience, his or her track record, qualifications, etc. are some of the qualities you should be aware of. These details are highlighted in the scheme's information document. An experienced fund manager can enable creating alpha in the case of an actively managed mutual fund schemes.)

  • Past Performance (...In case you are investing in an existing mutual fund scheme, the information document of the respective schemes would also contain details about their past performances over various time frames. Past performance can be guidance while making an investment decision, but should not be sorely relied upon, as past performance cannot be an indication of future performance. While evaluating a mutual fund scheme, it is imperative to look at performance over longer time frames and not get lured by short-term performance, if any. Also it is vital to assess whether the track record clocked by the respective mutual fund schemes meets the investment objective laid out.)

  • Fees & Expenses charged by the fund (...It is noteworthy that your net returns from a particular scheme is directly proportional to the fees and expenses charged by the fund house. As the mutual fund house has the objective of making money for you, as for itself, it levies charges in the form of exit loads, switching charges and fund management fees amongst others. The charges and fees are deducted from the respective scheme's NAV and thus you should ideally look for a mutual fund scheme which has a lower fees and expense ratio.

  • Investment Options (...Please note that a mutual fund scheme offers its prospective investors various options for investing. The broader investment options available under a mutual fund scheme are Growth and Dividend – and under the Dividend option you have two sub-options namely, the Dividend Pay-out option and Dividend Re-investment Option. At the outset you have different modes of investing, namely: lump sum Investment as well as SIP (Systematic Investment Plan) and STP (Systematic Transfer Plans) which help you benefit from rupee-cost averaging and compounding. You should opt for an option which suits your need and also the mode that is effective for you to create wealth in the long run.)

  • Judge the credibility (...While reading the aforementioned aspects can help you judge a mutual fund scheme, to judge the credibility of the mutual fund house you must read 2 things in the offer document.

    • Investor Grievance (...You see, every fund has to disclose the status of investor grievances in the Statement of Additional Information. The mutual fund house has to reveal the number of queries and complaints received towards a particular scheme and the complaints addressed. This information shows investors, how proactive and responsive a fund can be towards investor grievances.)

    • Penalties & pending litigation (...Likewise every fund has to disclose the penalty imposed on the mutual fund house or the fund sponsor for any economic offence or violation of any securities laws in the SID. Also they have to disclose any pending litigation or proceedings towards the Mutual fund, fund house, trustees, associated companies, or the directors of the mutual fund house.

    So, reading such aspects in the offer document will help you judge the credibility of the fund house you are contemplating to invest your hard earned money.)

Key Information Memorandum

Meaning: The Key Information Memorandum (also known as KIM) is the abridged form of the scheme information document serving the cause of investors by mentioning the key sections of the offer document.

It is noteworthy that the Securities and Exchange Board of India (SEBI) has pronounced a standard format for disclosures in this document, and it serves the interest of you investors; because most of the relevant information – which we just talked about – is mentioned in the KIM. More over KIM needs to be updated at least once a year. As per SEBI regulations, every application form needs to be accompanied by the KIM.

Contents of the Key Information Memorandum
  • (...KIM carries the) Details of the Mutual Fund and AMC ( the name of the mutual fund, its Trustees and the AMC)

  • Scheme Details (...such as the name of the scheme, its investment objective, issue date, inception date, risk profile of the scheme, benchmark index, Fund managers name etc.)

  • Minimum Investment Details

  • Plans and Options offered by the Scheme

  • (If it is an existing scheme then...) Performance of the Scheme (...vis-à-vis its benchmark index over last 1 year, 3 years, 5 years and since inception)

  • Loads and Recurring Expenses

  • Contact details of the Registrar and Transfer Agent (RTA) (...who would process your transaction and take up investor grievances)

  • Comparison of existing schemes

So here are some key takeaway points from today's session...

Some Key Takeaway Points!

  • The offer document can be a friend and guide to enlighten you as an investor (...Provided you read it well focusing on aspects which we just learnt about.)

  • (So,) Do not rush with investing (...Ascertain the risk factors associated with the respective mutual fund scheme, investment objective, asset allocation that the fund would follow, investment instruments it would invest in, investment strategy the fund will follow, against which index the fund would benchmark its performance, who will manage the mutual fund scheme, past performance (if it is an existing fund), investment options available for you to invest in and judge the credibility.)

  • If you find reading the offer document voluminous, at least lay your hands on the KIM and read it well (...This will help you to an extent.)

  • (And last, but not the least...) Get rid of the ignorance and be a responsible investor (...This is because while ignorance is bliss, that may not be true in the world of personal finance and investing. Also it may not yield you much in your journey to wealth creation.)

So to end our today's learning exercise we now invite you to test your learning by taking up this simple quiz (and win exciting prizes!)

Just Click On The Link Below.

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Disclaimer: The contents of this document are only for informative purposes and are not to be used or considered to be an offer to sell or buy units of Franklin Templeton Mutual Fund schemes. This video is for information purposes only, provided on an 'as is' basis. Nothing in it should be construed as personal financial advice. You are responsible for your own investment decisions and you should seek advice concerning suitability from your investment adviser regarding any of the investments mentioned. The video is for personal non-commercial use only and may not be copied, stored, redistributed or broadcast in any way. We recommend you read the complete Terms of Use.

Mutual Fund Investments Are Subject To Market Risks, Read All Scheme Related Documents Carefully.

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