Are Mutual Funds Safer Investments During Market Down-run?

WHAT ARE MUTUAL FUNDS?

A mutual fund is a professionally managed investment plan consisting of a pool of funds collected from many investors to invest in securities such as stocks, bonds, money market products, and other assets. Mutual funds are one of the best investment instruments celebrated all across the globe. However, in Nepal, it is in the developing phase and there are quite a few mutual funds that are traded on the Nepal stock exchange.

Mainly, there are two types of mutual funds.

1. Closed-end mutual fund: They issue a certain number of shares for a particular period of time. They cannot increase or decrease the number of shares after the issue. Closed-end mutual funds will mature during the predefined period. Its price is determined by supply and demand. Closed-end mutual funds are traded in exchange.
2. Open-end mutual funds: They can increase or decrease the number of shares according to the requirement and they don’t have a maturity period. Its price is determined by NAV. Open-end mutual funds are not traded in exchanges.

ADVANTAGES OF MUTUAL FUNDS

• Safety
• Liquidity- it is relatively easier to buy and exit a mutual fund scheme.
• Low Trading Costs
• Easier to invest in specialized market sectors
• Easy to access and track
• Diversification

WHY INVESTING IN MUTUAL FUNDS IS A SAFER OPTION?

Mutual Funds are a relatively safe means of investment. They can prove to be very beneficial for beginners who want to take advantage of the stock market without making the necessary efforts while investing themselves.

In addition, Mutual Funds are a great entry point for beginners to test their waters while learning their own strategies. The bear market is characterized by continuous lows and even lowers. Stock prices have been low these days, and bearish trends provide a favorable entry point for mutual fund investors.

*Net Assets Value (NAV); The market value of a fund's shares is represented by its net asset value (NAV). It is the price at which investors purchase ("bid price") and sell ("redemption price") fund shares from a fund company. It's calculated by multiplying the entire value of all cash and assets in a fund's portfolio, minus any liabilities, by the number of outstanding shares.

Mutual Fund Capital Protection during the downfall

Here we try to understand the relationship between mutual fund NAV and NEPSE index during the two periods – The high period of 20th August 2021, and one lower period of 6^th May 2022. Interestingly, data shows that there are fewer declines in NAV of most of the mutual funds compared to fell in the NEPSE index. This means that the investors have incurred less loss if they have invested in mutual funds during the review periods.

For instance, the decline in NAV of Kumari Equity Fund (KEF) during the period of review is 6.4% compared to the decline of NEPSE at 29.6%. The decline is 4.64 times lesser than the overall decline of NEPSE. 

* Internal Rate of Return (IRR); The IRR is the discount rate used to make a project's net present value (NPV) zero. To put it another way, it's the predicted annual compound rate of return on a project or investment. Suppose, if an initial investment of Rs. 50 crore has a 22 percent IRR, this implies that it equates to a 22 percent yearly compound growth rate.

Now looking at the IRR figures above, the average IRR of mutual funds in the market stands with 17.8% ranging from 33.19% of SFMF to -10.48% of NIBSF2. If we ignore the listed mutual funds for less than 2.5 years on market, the lowest IRR is 9.25% of LEMF, which is far better than other risk free savings.

Conclusion

Mutual funds offer excellent downside protection during market downturns but offer limited upside potential during market upturns. They are suitable for conservative investors with a low-risk appetite. These funds allow even the most conservative investors to invest a small portion of their portfolio in equities, giving them the opportunity to participate in the uptrend in the stock market.

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