Fund of Funds

In most of the developed markets like the US and Europe, the Fund Of Funds or FOF is one of the most popular investment avenues. However, it is a fairly new concept in India and is still finding its ground among investors.

Many domestic Asset Management Companies (AMCs) have rolled out these funds, which are predominantly international in nature. Read more about the Fund of Fund definition, how they work, their benefits, and more.

To the question, “What is a Fund of Funds?”, you can answer or define a Fund of Funds as a type of mutual fund scheme that invests in other funds.  

In simple words, the fund manager invests your money in mutual fund schemes rather than individual equity or debt securities. A FOF scheme of an AMC can invest in its own mutual fund schemes or that of other fund houses. 

As this fund allows you to invest in various mutual funds, you can diversify your investment portfolio and reduce the associated risk.

Depending on the investment objective, a Fund of Funds can be of different types. Here are different types of FOFs in which you can invest: 

• Multi-Asset FOFs

As its name suggests, this type of Fund of Funds invests in various asset classes, including equities, debts, and commodities like gold. For fund managers, it is easier to manage these funds as they only need to invest in one or two funds of each asset class.   

• International Fund of Funds

International FOFs invest in foreign funds, which invest in equity and debt securities of global companies. Hence, these funds are suitable for those who wish to have global exposure in their investment portfolio. 

• ETF-Based FOFs

These FOFs create a basket of different Exchange-Traded Funds (ETFs) trying to replicate the growth of broader market indices like BSE SENSEX or NIFTY 50. You can also invest in Gold Fund of Funds by channelling your money towards gold ETFs.

The investment strategy of FOFs is to achieve broad diversification by investing in a variety of mutual fund categories. These funds are structured like mutual funds, hedge funds, private equity funds, or investment trusts.

In addition to this, the Fund of Funds can also be fettered or unfettered. While the former means that it can be managed by only one manager, the latter means that it can also be controlled by external fund houses.

Here are some of the benefits that you can enjoy by investing in Fund of Funds:

• Tax-Friendly When Rebalancing: These funds do not attract taxes on capital gains when you rebalance your assets 

• Convenient in Handling: As there is just one portfolio and one NAV, it becomes quite easy to handle your investment in FOFs

• Diversification: This scheme allows you to invest in different mutual funds and various asset classes and diversify your portfolio for reduced risk

• Professional Fund Management: Professional fund managers control these funds with an aim to maximise the returns offered by the fund

Here are some of the drawbacks of investing in these funds:

• Lacks Flexibility: It lacks flexibility as you cannot choose the mutual funds that the Fund of Funds invests in

• Higher Expense Ratio: Total Expense Ratio (TER) of these funds is higher compared to other types of mutual funds

• Tax Implications: Long-term capital gains tax of 20% with indexation if you sell the units before 36 months

When investing in the Fund of Funds, assess the pros and cons of the scheme. In addition to this, look for a fund that is managed by an experienced fund manager. 

Before investing, you must also weigh your risk tolerance, the amount you can invest, your financial goal, as well as the taxability of the scheme.

Fund of Funds are most suitable for small investors who are not willing to take high risks. This scheme helps you diversify your portfolio and, hence, reduces the associated risk.

In addition to this, you may consider investing in this type of scheme if you wish to park your funds for a longer term of more than 5 years.  

In conclusion, if you have decided to invest in these funds to diversify your portfolio, you can do so through your online brokerage firm. Additionally, you can avail of the benefits of these funds through the various AMCs in India.

You can also check out various mutual fund options on Bajaj Markets. Compare the returns of various funds and choose one that helps you generate sufficient returns.