Mutual funds are governed by their scheme offer documents, making it absolutely necessary to read the fine print while investing in a scheme. Even though it makes for a tad boring and complex read, it is recommended by Securities and Exchange Board of India (SEBI). The reason - an investor knows several conditions relating to the scheme, including the manner of investment which in turn determines the return generated. But the most important thing is reading and understanding the document educates an investor and prevents him/her from taking a wrong decision based on unrealistic expectations.

It's all about investment

One of the main areas that determine the performance of a mutual fund scheme is the investment mandate. The offer document contains a separate section on investment mandate which explains the various details. This section is supposed to give the investor an idea as to how his/her funds will be invested and the scheme objectives will be achieved. In reality, the situation is different as this area becomes very difficult to decipher. In this article, we will learn about some prominent terms that are used to describe the investment part of the document and how they are interpreted and used in real life.

1) Fundamental attributes

Fundamental attributes are the basic pillars of a mutual fund scheme. They cover important investment aspects like the type, investment objective and investment pattern of the scheme.

What to look for :
Instead of fundamental attributes most fund houses prefer the term 'investment objective'. Investment objective explains the aim of the scheme and how that will be accomplished. Reading this will clarify the exact classification of the scheme.

2) Investment objective and Primary objective

Within the overall classification, investment objective is the most vital part. When the name of the scheme confuses the investor, this term clarifies the position.

For example, the name of a PSU Fund will not give any idea about the scheme but the investment objective will explain that the primary objective here is to ensure capital appreciation through investment in stocks of PSU companies. Similarly, debt schemes will have the objective of earning a regular income while equity schemes usually aim for capital appreciation.

What to look for:
Now, one needs to differentiate between investment objective and primary objective. The primary objective talks of an overall objective, while the investment objective will also mention how this would be achieved. The latter makes it clear for the investor as in what areas the investment can actually take place. Let us see:

Often the mandate is very wide in the sense that a lot of areas are covered. A fund named Bluechip can, for example, invest in large cap schemes, which is a large canvas in terms of options. This can include companies whose market cap has shot up in the boom. In case of information technology schemes - those using technology - even a bank can be a part of the portfolio. Likewise, lifestyle companies, that are said to improve lifestyle, would include even oil and gas companies and automobiles.

3) Investment pattern and Indicative asset allocation

The various routes of investment will be shown under the head of 'investment pattern'. This is nothing but the various asset classes used to create the scheme portfolio. This is outlined clearly as a percentage of the portfolio allocated to each asset class.

What to look for:
The percentage allocated is always mentioned as an 'indicative asset allocation'. The term 'indicative' means the asset allocation is valid only under normal conditions. This implies the scheme is free to look at other options when they believe that the situation is not normal.

For example, under normal conditions equities, debt and other derivative instruments can be opted for but in an emergency situation some other instruments can also be explored. Also, for a debt fund if the term 'interest rate futures' is not mentioned then even if this looks the most obvious option it cannot be used.

4) Minimum and Maximum allocation

What determines the actual manner of investment and the consequent returns in the scheme is the asset allocation that is actually permissible. There is no fixed percentage that is recommended for each asset class but rather a range which uses the term 'minimum and maximum allocation'. This means that if it is said that the equity allocation has to be 65-90 per cent then it becomes the range in which the share of equity has to fall.

• A slight change of 60-100 per cent might not look much different but it gives a lot of flexibility to the fund which can make an equity-oriented scheme even less risky than a balanced fund.
• Similarly, there will also be a limit for debt and short-term instruments including fixed deposits and once this is fixed the range will have to be maintained.
• At all points in time there cannot be a violation of the maximum or minimum allocation for any investment option.
• A change in the range could well require that the portfolio be managed differently in the future.

What the language says?

The language of the offer document creates a lot of uncertainty, which means whatever written is just indicative in nature and does not guarantee anything. This is evident from the use of the terms like the fund 'will try to achieve' or the fund manager 'will try to ensure that the assets are invested'. It is important for the investor to understand the exact situation on this front and then take the necessary action required.