Arif Habib Investments: what i should know

what i should know

A good option for most people is to invest through mutual funds. Investors, who do not have large sums of money or those who feel that they do not have the luxury of allocating time to managing investments in the capital markets or feel that they would not be able understand enough to make the correct decisions, should invest through mutual funds.

What is a Mutual Fund?

A mutual fund is a pool of money belonging to a group of investors entrusted to a Fund Manager (investment specialist) hired by the group. The Fund Manager invests the money on behalf of the investors and is paid a management fee normally in the range of 1% to 3% per year of the amount of funds under management. If there is a profit or gain on the investments, it belongs to the mutual fund owners (investors) because they mutually own the pool. On the other hand, if there is a loss, it is a loss suffered by the owners of the pool (investors).

How is it Different to a Bank?

A bank too manages a pool of money, but the money it receives from investors (depositors) is treated as a loan from the depositors on which the bank pays a fixed rate of return. The bank in turn lends the money to various businesses and earns a higher rate of return. The bank makes money by earning the difference between the rate at which it borrows (from the depositors) - currently around 1.5% and the rate at which it lends to the businesses-currently around 6%. The gross earning of the bank in this example will be 6% minus 1.5%, i.e., 4.5% versus 1% to 3% charged by the mutual fund manager. In the event there is a loss in the lending business, the bank will still pay the depositor the agreed rate. However, in the event that the bank runs into major losses (such as major defaults by its borrowers) and has to close down, the depositors are not likely to get their full principal but will get whatever can be recovered by the liquidators.

Types of Mutual Funds

Closed-end Fund
Open-end Fund

What is the difference between Closed-end and Open-end mutual funds?

A Closed-end fund is a mutual fund that has a fixed pool of money, which is collected when the fund is set up. The fund is set up as an investment company (or trust) with a certain amount of capital (pool of money). The Fund Manager invests the pool in the capital markets (normally shares of other companies). An investor wishing to participate in the mutual fund, buys shares of the investment company at the time of its initial public offer or, as in the case of any other company, the investor may buy shares of the investment company subsequently from the stock market, at the prevailing market price. When the investor wishes to disinvest, he has to sell his shares of the investment company through the stock exchange, at the prevailing price. As in the case of any other company, the price of the shares of the investment company (closed-end mutual fund) in the stock market will be determined by the supply and demand for such shares, which may be higher or lower (normally lower) than the Net Asset Value (true value of the investment portfolio) of the investment company.

An Open-end fund on the other hand does not have a fixed pool of money. The Fund Manager continuously allows investors to join or leave the fund. The fund is set up as a trust, with an independent trustee, who has custody over the assets of the trust. Each share of the trust is called a Unit and the fund itself is called a Unit Trust. The portfolio (pool) of investments of the Unit Trust is (normally) evaluated daily by the Fund Manager on the basis of prevailing market prices of the securities in the portfolio. This market value of the portfolio is divided by the number of Units issued to determine the Net Asset Value (NAV) per Unit. An investor can join or leave the fund on the basis of the NAV per Unit. However, the Fund Manager may have a small charge called “load” added to the selling price or deducted from the redemption price of the Units so as to cover distribution costs. Under the Pakistan law, open-end and closed-end funds are set up under the NBFC Rules, and are regulated by Securities & Exchange Commission of Pakistan.

Which Mutual funds to invest in

Well-established and reputable companies.

Fund Management Companies that issue timely, transparent and investor friendly reports.

Fund Management Companies that follow good corporate governance practices and comply with proper disciplines.
The offering document (prospectus) of the particular fund has a clearly defined investment policy and clearly states the potential risks.
Choose a Fund, the investment policy of which is suitable for the time horizon of your investment and the level of risk that investment can be exposed to. However, it is recommended that, you should allocate the investment amount between two or more Funds that suit the criteria. This will ensure that you diversify the risk on the fund manager performance as well.

Invest early, Invest now

Take a disciplined approach to retirement savings. If you want to retire rich, start saving and investing early. The most powerful tool when it comes to retiring rich, is compounding your returns on money saved when you are young. Through the power of compound interest, cash invested today has a massive impact on your wealth level when you retire. You might be worried about market volatility but if you put off savings for retirement, you may pay a bigger price than you expect. Take advantage of your assets' potential for growth. If you invest early, your assets have more time to grow and a disciplined approach helps you increase your investment shares without the temptation to time the market. And if you invest now, it means you’ve taken the most important step toward your retirement goals. You may not know what the market will bring, but investing with a long-term perspective can help you get a head start.

The fact that investing a small amount today is better than investing a larger amount later can be very clearly demonstrated by an example. If we assume two cases, the first where you start investing Rs. 10,000 per month now for the next twenty years and the second where you invest Rs. 20,000 a month for ten years but starting after ten years. If we also assume that in these cases the rate of return on your investment is 10% per annum, the following will emerge:

	Case -1	Case-2
Amount invested per month	Rs. 10,000	Rs. 20,000
Total number of months	12 X 20= 240	12 X 10= 120
Total amount of investment	10,000 X 240 = Rs. 2,400,000	20,000 X 120 = Rs. 2,400,000
Rate of return	10% per annum	10% per annum
Accumulated amount at the end of twenty years form now	Rs. 16,146,000	Rs. 6,224,982

You will see that the total amount invested is the same in both cases but in Case-1 the savings started earnings ten years earlier thereby allowing you to accumulate a higher amount as compared with Case-2.