Are Index Funds better than other Mutual Funds ?

I have read at some places that index funds are better than other mutual funds. An example is this blog. Index funds are investment schemes that invest in representative shares of a particular stock market. For example, a fund can have Index fund for BSE or NSE or some other exchange. These funds try to replicate the behaviour of that particular market. For this reason the NAV of these funds rise and fall with the market they are trying to replicate. The main advantage of these funds is that these are automated with no active management needed. So the entry load (the charges paid when you buy a MF) and exit load (the charges when you sell your units) and other charges are low. So, it is generally thought that Index funds earns an investor more profit as compared to other funds like equity diversified mutual funds. I decided to check this yr's results for the Indian market. Hardly 4 index funds have managed to beat the market in 2006. This is called tracking error when automated calculation misses the market behaviour by some points. The best performer has a growth of 49.8% in 2006. On the other hand, about 30 equity diversified mutual funds beat the markets with growth of the best performer being 61.6%. Even after deducting the charges, it is clear than equity diversified funds managed to beat the index funds hands down. Even after assuming that the total number of index funds available to investors is less than the total number of equity diversified funds, it is clear that Index Funds are no better performers than other funds. At least 2006 proved that. The same is true even if we compare last 2 or 3 yrs results.
Check the performance of Index funds here and the performance of Equity diversified funds here.

How do Mutual Funds calculate dividend

MFs normally pay dividend periodically if they are dividend based (D). Growth based mutual funds (G) pay dividends rarely. (D) type mutual funds pay dividend when they make a profit by the trading they have done in the market. It depends upon the fund managers how much percentage of the profit they want to reinvest and how much they want to give back to investors. That money being given back to investors, minus any taxes etc, divided by the number of Units is the dividend per unit. MFs give it a fancy percentage by calculating it from the face value of the unit which is 10. So even if the book value (that is present unit price) is, say 100, the dividend percent is still calculated based on 10. So a 25 dividend per unit would be called a 250% dividend, although it is only 25% of its present price, since it is calculated based on the face value of 10.
Growth oriented MFs pay dividend sometime if the fund has made profit and fund managers find extra cash which is not likely to be invested.

Mutual funds - what if they don't pay you dividend ?

I've mentioned in the earlier posts how Mutual Funds (MFs) pay dividend, and why it doesn't matter as far as your net wealth before and after getting dividend is concerned. In short, dividend is just your money that was in MF which is returned to you. The price of the MF unit comes down after the MF pays dividend. So, overall net wealth is same for you. It is just that the part of the money you had invested in MF is now in your bank. This could lie there if you are not careful. Which is not a great idea. For this reason, unless you need cash, dividend isn't a good option.

So MFs pay dividend which is good if you need money. What if you need money and your MF is not paying you any dividend? In that case you can sell some of your MF units. This is like paying yourself a dividend. The effect will be same as if the MF has paid you dividend! This is called Capital Gain. Funny how the terminology changes for same thing. It is your money in MF that you have invested. If MF gives some back to you, it is dividend. If you withdraw it is capital gain.

PS: I'm trying out a few online money making ideas I found on net and have given the links to the right side of this blog. I will evaluate them time to time and remove links I found aren't worth wasting time, or will add links that I find interesting. Two days ago I found myLot which pays for each message you post in the Forum. So far it seems to be working. Paying rate per message is low though. For about 50 messages sent they pay you $1. It is fun to try, but don't expect to earn a lot of money!

Online money making schemes

Lately, I've been trying to find out money making opportunities online. The only criterion of such an opportunity has to be that it is free to join and no investment is needed on my part. I've found many of them - some ask to sign-up for a course, some ask to send them some money to begin online business with them. Some are free to join and if possible, to make some money too. I will list some of the opportunities that I found interesting and easy to sign up and start up.
-- If one has a high traffic website then putting ads and earning money per click is the obvious way to go. Google Adsense, Yahoo Overture, MSN adcenter, BidVertiser, and Adbrite are a few of the more popular online advertising businesses which are easy to sign up and get started.
-- Then there are multi level marketing business opportunities online. Recently, I found an interesting one called Best Cash Rewards where one can sign up within minutes. It doesn't require any investment. One has to just watch a seminar of about 30 minutes a week, and refer other people to this programme. That's all one has to do. The more people you refer to this programme and the more people they refer in turn, the more you get. The companies giving seminar get a captive audience for half an hour. That is what they want and they are happy to pay on per person basis who attend the seminar. One can sign up for this programme by going to this page.

Feed aggregator

I was a latecomer in the area of feeds. I used to read all the blogs I liked by individually opening them in new tabs in my Firefox browser. This posed some problems. I had to remember each of the blog addresses I wanted to read. This meant I would often miss some recent blog entries by my favourite bloggers. This is not a very serious problem as blogs can be bookmarked. But still I had to open all the blogs one by one going through bookmarks. Now I read about 25 blogs religiously and wouldn't want to miss any new posts. That would mean 25 tabs in Firefox. As much as I like Firefox, it is a resource hog and opening 25 tabs would often make my computer less responsive.
Enter Feeds. A simple but powerful technique to arrange all your favourite blogs. Now I have installed a Feed reader called Sage. Whenever I want to read blogs, I just click on the Sage icon on the toolbar and all the blogs I have subscribed to show up on the left pane of Firefox. If I want to see if there is any new post I can just click an icon on top of the pane called Check Feeds and it automatically looks at every blog for new postings and updates the pane accordingly. If I go to a new blog that I like, I can just click Discover Feeds icon and it automatically discovers the Feeds in the blog and I can then add it to Sage. Two kind of feeds are popular: RSS and Atom. I wanted to make it simple for me by choosing only one of them, so I chose RSS feed reader but Atom is good as well. Many blogs don't have obvious Feed icons, but there are almost always hidden ones, for example in blogger/blogspot. Discover Feeds will discover them all.
It has made reading blogs a breeze. Just click any blog you want to read in the left Sage pane and start reading. Sage blog aggregator for Firefox can be downloaded from here.

Business and trademarks

A couple of days back I was discussing about Google with friends when one of them mentioned that Google has become such a well known brand that it has entered into Merriam-Webster dictionary as a word. I told them this is actually not a good thing for a brand. They didn't believe what I was saying. Having done a trademarks course I know a thing or two about it and explained it thus:
Google has created a unique product for search which is widely acknowledged as the best online search engine. It has a unique advantage over competitors now. Anyone wanting to search online would first think of Google search. This is because the brand differentiates it from competitors such as Yahoo or MSN. Users are well aware of it and so they prefer Google search over other engines. But if it becomes a generic dictionary word then it lose its value as people would start using the term Google or worse 'googling' for online search. It wouldn't matter to users then which engine they use. Google for them would mean online search. The differentiating factor that was Google's brand then lose its advantage. One could as well go to Yahoo search and say he is googling.
In the history of brands there has been many a cases where companies lose their valued trademarks because they become generic nouns. It is for this reason that companies tend to use their trademark always as an adjective. Google search, for example. It is almost always followed by a noun. It is for this reason that Google wouldn't be amused if someone tries to make a word 'googling'. Companies protect their marks for the fear of it becoming generic, sometimes even launching PR campaigns.
Some brand owners didn't protect their marks well enough and they have become generic nouns and some are almost on the verge of becoming one.
Some examples of tradmarks that became generic and hence lost the advantage over other products are:

Aspirin: The product name became generic noun and now companies use it just as synonym for a particular medicine.
Escalator: Was a brand, now a generic English word.
386 : This was Intel vs AMD case which Intel lost and also lost the advantage of brand 386.

Some trademarks on the verge of becoming generic are:
Kleenex : Tissue paper.
Xerox : People have begun using Xerox word as a generic word for photocopy. Xerox is fighting to prevent its term from becoming generic by launching PR campaigns.

Stock market rebound and mutual funds you must own

The stock market has finally rebound nicely after sliding down for a few days. Investors who bought at the peak when BSE was 14,000 and NSE was crossing 4,000 but sold when market started going down would have lost substantially. That is one of the reasons longs won't be affected by such short term trends or corrections. The market always goes up in the long term and they make money. That's a reason why buy and hold strategy works better in favour of more investors. Similar is the case with Mutual Funds.

Talking of mutual funds, the last issue of Outlook money had a list of 10 you must own. Here's the list in no particular order:

DSP ML Opportunities Fund
Franklin India Flexi Cap
HDFC Equity Fund
HDFC Top 200
Prudential ICICI Dynamic Fund
Reliance Vision
SBI Magnum Contra
SBI Magnum Global 94
Sundaram BNP Paribas Leadership
Sundaram BNP Paribas Select Midcap

Is it wise to own all 10 MFs? Is it possible that a few of them have matching portfolio and hence it wouldn't matter if you buy this or that. Having similar portfolio makes them behave the same with the money invested.
I don't own any of them, but if the Outlook guys have done the research right, some of them look tempting.

Some Mutual Fund jargons explained

Mutual Fund : It's a fund by which people can indirectly invest in the market. These funds normally invest a part of total capital into equity market. You invest into the fund and share its profit/loss. The fund managers look after the money so there's less hassle for individual investors. But it comes with a some fee you have to pay the fund for managing it for you. This means that if you invest directly in the market and hold the same portfolio of shares as the fund, you can make more as there's no fee. There are other factors to affect investments. MFs normally enjoy lower taxes on returns on investment than direct traders. Also, fund managers are experts in their fields with a large capital so they can chose a very diversified portfolio that results in growth over a period.

NAV - Net Asset Value : It represents the value of one unit of a fund. If there are 100 investors each holding say 10 units in a fund which has a total value of Rs 10000, then NAV would be 10000/100*10=10

Dividend option : The fund pays divident periodically to its investors. This makes the NAV go down but the investors get some cash. Overall wealth of an investor remain same before and after getting dividend.

Growth option : In this option the fund doesn't give dividend but reinvests the capital periodically. The goal of this kind of fund is to increase the wealth of the investors by long term investment in the market.

The same fund scheme can have both Dividend and Growth options mentioned by (D) and (G) respectively after the scheme name.

Online trading

Looking at the market dive my enthusiasm to try out online trading has kind of worn off now. :)

Stock market correction?

Hmm, my invested worth came down by more than 1k in the latest market correction (?) in the last few sessions. But the mutual funds I've bought are long term plans. There's a mandatory three year lock in period for tax saver funds which I bought. A good lesson to invest in a systematic investment plan (SIP) so that the gains and losses get even out over the investment period. Otherwise, you may buy MFs during the high times and lose money in the shorter period. Long term investors don't have to worry with such fluctuations in the stock market though, as it will definitely go up in the long term.

I've no idea what's causing the market to go down now, and I've not watched or read news for the last couple of days.

Online trading or Mutual Funds?

To follow up on my last post, a friend told me that ICICIdirect has good online trading service. But now I am in a dilemma. Would it be worthwhile for me to jump into online day trading? Mutual Funds (MFs) seem much safer in the expert hands of fund managers even though they have some fee associated with them. I've read somewhere that MFs have to pay less tax than traders and so in the long run MFs could yield better return. Need to chose MFs which are diversified.
Guess I will wait for a while to learn more about the pros and cons of Online trading vis a vis MFs.

Looking for a good online trading site

I'm looking for a good online trading site. I've heard of a few like icicidirect, kotaksecurities, sharekhan and 5paisa. Unfortunately, most of them seem to like only IE as a browser as clearly mentioned in their site. Now we don't use Windows at office where most of my weekdays are spent, and from where I'd have to do the trading. Are there any good sites which go beyond Windows IE? I'm specifically looking for one which can be used with Firefox.

Looking at the Gateway account info at kotaksecurities, they ask for a margin of 20,000. Does it mean I've to invest at least 20,000 to begin with? I didn't get any info there about what it means.
20k is a bit too much for trading for a newbie like me. I am looking to start with an amount below 5,000 to learn the tricks of the trade. If anyone has knowledge and experience with a good online trading site, I'd like to know more. Thanks!

Real Estate investment

A couple of my friends are taking loans from bank to buy an apartment in Bangalore. One of them is planning to take a home loan of Rs 2,000,000. He plans to live in a rented apatt and put his newly bought apartt on rent. So I believe he's taking the house as an investment.
The doubt I had in mind was if it was a better option than other forms of investments where he doesn't have to take loan and still could invest enough over a period of 20 yrs. Of course, the value of his apatt will increase with time. Still, I would be uncomfortable in such investments. I have no idea about how real estate works. Only time will tell how wise the investment is.

Eight Indian mutual funds among world's top 10

Interesting news item. For a period of last 10 yrs, 8 Indian MFs are among top 10 in the world! For 5 yrs period 7 Indian MFs among world's top 10 performing. Interestingly, in the short term period of last one yr there is not a single Indian MF among top 10. Strange as it has seen the big run in the Indian stock market. Does it mean Indian MFs had the long term horizon in their mind and didn't actively trade when the market soared?
Times of India article here

Which insurance to take!?

There’re many options to chose from in insurance. I’ve always thought of insurance as something that we take away from savings periodically and get most of it back when the insurance period ends. It could be 10 or 20 or any number yrs when the policy terms expires.

Recently I came across another kind of insurance which I think is the best one to take up. It is called term insurance. The idea is that you invest some amount every yr in this insurance. In the event of any eventuality, which basically means if you die before the policy term expires, your dependents get the money you’re insured for. If you outlive the term of the policy, you get nothing.

For an example, for a 28 yr old person, under the popluar LIC, in the 20 yr moneyback policy, if you want to get 1,000,000 moneyback 20 yrs from now, you have to pay a hefty premium of 62,360 per yr for 20 yrs. That comes to a total investment of 62,260*20 = 1,245,200 over a period of 20 yrs. He gets 200,000 back every 5 yrs and the remaining amount plus bonus at the end of 20 yrs. LIC premium calculator

In case he invests the 200,000 he gets every 5 yrs in MFs, at the end of 20 yrs the amount would have grown to 3081400 + 1238340 + 497660 = 4817400. Adding the remaining 400,000 plus bonus he gets at the end it would go upto 5500000 at most. Still much less than what he can grow the money with term insurance and MFs from the beginning.

If the person takes a term policy instead for 20 yrs for insurance of 1,000,000, he has to pay just Rs 2890 a yr. Over a period of 20 yrs, the total amount he has to pay is 2890*20=57,800. He loses this amount if he outlives the policy. It is just a cover for his dependents who get a sum of 1,000,000 if the person dies within 20 yrs.

So what can the guy do? Well, let’s take the difference in the amount he has to pay over 20 yrs for the two policies discussed above : 1245200- 57800=1187400

So he can invest the amount 1187400 into some growth based mutual funds over a period of 20 yrs. He has to invest Rs 59,370 every yr ( or Rs 4948 every month ) for 20 yrs. At the end of the period at the average rate of return of 20% (for long term funds are known to increase at 20% ), his savings from this turns out to be a Rs 12,067,460. That is 1 crore and 20 lakh plus! magic of compounding

So, it seems the best option is to take a term insurance for 20 yrs and invest the rest of money in such funds or other schemes with a good growth history. If anything happens to him in these 20 yrs, he will leave 1000000 for his dependents. Also, the amount he has invested until now would also have grown to some extent. If he outlives the policy, his investments have grown upto 12067460 while he only paid a total of 57800 for term insurance, so he can be sure of a comfortable life for himself and his family whether he lives or dies in 20 yrs!