Choose FOF wisely to Invest in Multiple Funds

Choose FOF wisely to Invest in Multiple Funds

28 May 2019

A portfolio containing different underlying portfolios of other funds and these holdings replacing any investments directly in bonds, stocks and other types of securities are known as Fund of Funds (FOF). Investing in a FOF also allows investors with limited capital to tap into diversified portfolios with different underlying assets. The FoF can consist of either equity or debt funds and this depends on its objective.

FoF is a collection of different mutual funds. Similarly, FoF considers various mutual funds for investment. The fund manager of the FoF takes the most important decision of choosing the right funds to invest in, and thus FoF is a simpler method of investing in mutual funds. FoF helps to reduce the chances of selecting the wrong fund. An equity or debt fund will always meet its investment objective by analyzing the stocks in the market.

Some important facts about Fund of Funds which you should know are as follows –

  • A Fund of Funds (FOF) is a pooled fund that invests in other funds
  • FOFs usually invest in other hedge funds or mutual funds
  • The Fund of Funds (FOF) strategy aims to achieve broader diversification and minimal risk.
  • Fund of Funds tend to have higher expense ratios than regular mutual funds.

The Fund of Funds (FOF) strategy aims to achieve broad diversification and appropriate asset allocation with investments in a variety of fund categories that are all wrapped into one portfolio. We all know that mutual funds invest in either gilts, gold, stocks or bonds. Investment of a mutual in other mutual funds is termed as Fund of Funds (FoF). Investing can belong to the same fund house or belong to other fund houses.

Pros of investing into FOFs:

  • Higher levels of diversification - Through a single investment, FOF managers are able to tap into portfolios consisting of various underlying assets
  • Lower levels of volatility - Through increased diversification, FOF’s benefit from lesser exposure to market volatility.
  • Access to experienced fund managers - FOF managers can conduct due diligence and opt to invest in funds managed by those with longer years of experience and a stronger track record of success.
  • Additional layer of screening - Theoretically, FOF’s offer an additional layer of due diligence and protection as the managers of the underlying funds have already conducted research on the initial underlying investments.

Cons of investing into FOFs:

  • Higher management and incentive fees - In addition to charging their own fees, FOF’s tend to pass through fees from the underlying funds as well
  • Lower returns - In general, in exchange for a higher degree of diversification, FOFs tend to offer relatively average returns.
  • Lack of transparency - Due to limited visibility into the underlying investments of selected funds, it may be relatively difficult to monitor or keep track of the overall holdings of FOF’s.

We can conclude that expenses are one of the distinguishing factors that separate a normal mutual fund from a FoF. Fund of Funds carry expenses to the extent of 0.75% and an entry load of 2.25%. It is to be noted that the load will not be charged when the fund buys into its underlying funds.

The advantages of FoF include simple fund selection process, higher tax efficiency, no need to monitor the underlying investments and access to multiple funds. On the flip side, the disadvantages of FoF’s are change in choice of funds by FoF, dividend distribution tax payment and higher expenses.

FoF is a convenient way to invest in multiple mutual funds with a very nominal amount, but if the fund doesn’t perform well, then the expenses will eat up all the gains. We advise you to invest in FoF once you are convinced that these are the right investment product for you.

Founded in 2005 by new–age entrepreneur Abhishek Bansal, the Abans Group has evolved into a globally diversified conglomerate, providing expertise in Broking Services, Non-Banking Financial Dealings, Financial Services, Agri-Commodity Services, Warehousing, Realty & Infrastructure, Gold Dore Refinery & Manufacturing, Trading in Metal Products, Pharmaceuticals, Software Development & Wealth Management. The Group is a comprehensive financial and non-financial services and solutions provider, aiming to provide end-to-end solutions to its clients.