Fund of funds, the diversification alternative

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: If one compares mutual funds to the supermarkets of the investment world, a fund of funds (FOFs) would be something of a warehouse available to the retail buyer. “Fund of funds can be extremely useful as they manage expertise of different funds and fund managers,” opines a senior research analyst with a leading investment advisory firm.

They offer an incredible amount of variety, diversification and opportunity to investors, and this has been their key attraction point in the past few years. Also, in India a lot of FOFs allowed asset management companies (AMCs) to invest in their international funds run by their parent or partner firm, taking portfolio diversification to an entirely different level.

Last year, top FOFs scored returns in the range of 50-90% and marginally behind various equity schemes that surged with the market outburst. Market experts reckon that it is during such quick surges that equity funds will outperform FOFs. However, in a negative scenario, the utility of FoFs comes into play as they are spread over several asset classes and many times several markets as well.

FOFs are essentially funds that invest in other underlying mutual funds, making them funds consisting of other funds. These other funds can be invested in by investors individually as well. Most FoFs invest in affiliated funds, which are mutual funds managed by the same advisor. However, there is no such law dictating this and some FOFs invest in funds managed by other advisors as well. Although, the cost associated with investing in an unaffiliated fund is more often than not higher than investing in an affiliated one.

FoFs have also been classified into actively managed funds, in which the investment advisor reallocates frequently among the underlying funds in order to adjust to changing market conditions and to those that are passively managed, wherein the investment advisor allocates assets on the basis of on an allocation model which is rebalanced on a time-to- time basis.

Another type of mutual fund, which also comes under the FOF bracket, is multi-manager fund. While these funds operate on a very similar level, the basic difference is that instead of investing with different funds, the fund invests with different fund managers, giving each one some amount of money to invest with.

In India, ING Investment Management has a variety of multi-manager funds under the FOF segment.

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