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PMS for Rs 25,000? Unlikely!

What are the pros and cons of investing in a Fund of Funds (FoF), especially in view of the recent changes in taxation. Is it advisable to invest in FoFs through SIPs? Please also inform me about Portfolio Management Services (PMS) for small amounts, say Rs 25,000. -B. Satyendra

What are the pros and cons of investing in a Fund of Funds (FoF), especially in view of the recent changes in taxation. Is it advisable to invest in FoFs through SIPs? Please also inform me about Portfolio Management Services (PMS) for small amounts, say Rs 25,000. —B. Satyendra


As the name suggests, a FoF is a fund that invests only in other funds and not in individual equity and debt securities. The main advantage of investing in a FoF is that of "diversification", much more than what can be achieved through any single fund.

At any point in time, some funds perform better than others, depending on the asset performance environment. So, a FoF protects an investor further from any potential downside. The flip side is that, the stupendous returns generated by any single top-performing fund could get diluted by the performance of other not so well-performing funds.

A FoF also helps investors achieve a more "diversified across asset classes" portfolio because a FoF could simultaneously invest in diversified equity, hybrid equity-oriented, hybrid debt-oriented, MIPs, or pure-debt schemes, and all this with your small investment amount of Rs 5,000.

In other words, a FoF multiplies the benefits of investing through a mutual fund many times over.

Another very important factor that you need to keep in mind is that of the expense and cost structure, especially with regard to "portfolio rebalancing". Investing in a FoF exposes you to an entry load and to annual expenses like any other mutual fund. However, the expense ratio of a FoF would be higher than those of the individual funds that it holds in its portfolio because over and above the proportionate expense of these component funds, the FoF's own expenses will also be charged from the fund's corpus, with an upper limit of 0.75 per cent as per present regulations.

However, the point to focus on is the cost an investor would have incurred if he had tried to rebalance his portfolio on his own — the amount he would have to shell out through entry/exit loads — and you would probably have the answer that a FoF is probably a far superior option.

Moreover, don't ignore the capital gains tax that you might have had to shell out to carry out such portfolio rebalancing on your own.

Of course, with the recent tinkering in taxation proposals, a cloud of uncertainty has enveloped the taxation proposals especially with regard to FoFs. We hope we are able to clear some of it here. FoFs too can be segregated into equity-oriented FoFs and debt-oriented FoFs depending on whether the majority allocation of the portfolio is into equity-oriented or debt-oriented funds.

Further, debt-oriented FoFs would be subject to the same tax-proposals as applicable to debt-oriented funds and equity-oriented FoFs would be subjected to the same tax proposals as applicable to equity-oriented funds with one caveat. As per current norms, equity-oriented FoFs will have to pay the dividend distribution tax, as they do not invest in equity securities (regardless of the asset allocation). However, the MF industry has asked the Central Board of Direct Taxes to extend the same to FoFs that have majority allocation in equity funds. The proposal awaits clarification.

Currently, Birla Sunlife, Prudential ICICI, Franklin Templeton, Standard Chartered and Kotak Mahindra are offering FoFs. However, barring Kotak Equity FoF, all the other FoFs invest in schemes of the same AMC. So, it is absolutely essential that the performance of the funds in which the FoF invests be carefully scrutinised.

As for your other queries, irrespective of the type of fund you are investing in, it is always advisable to avail of the SIP facility. If there is one singular philosophy that needs to be ingrained in your head, it is that of regular investing and the SIP facility inculcates just that.

Finally, Portfolio Management Services (PMS) are usually attuned to the needs of NRIs and High Net-worth Individuals (HNIs). Most large established brokerage houses as well as investment advisory firms keep a cut-off limit for such services at Rs 10 lakh and above. Smaller firms could, however, offer you PMS services for smaller amounts but their capabilities as well as credentials might need to be scrutinised with utmost care. The main reason why PMS cannot be offered with smaller amounts is that it is not just difficult but nearly impossible to achieve diversification with an amount as low as Rs 25,000. It is thus advisable that you look to achieve your investment objective through investments in mutual funds.



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